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Unraveling Shopify’s Cost of Goods Sold (COGS)

June 26, 2024

Written and researched by experts at AvadaLearn more about our methodology

CEO Avada Commerce

In this post, we’ll dive deep into the intricacies of Shopify’s Cost of Goods Sold (COGS) to demystify its impact on your e-commerce business’s bottom line.

Key Takeaways

COGS represents the direct production costs of items sold, encompassing materials and labor. It excludes indirect expenses like distribution and marketing.
Materials, labor, and operations are the key elements that are pivotal in determining this essential metric.
In the intricate world of retail, understanding the nuances of Shopify Cost Per Item is essential, serving as the linchpin for managing cash flow effectively, strategic tax management, and precise expense tracking for profitability.

What Is Shopify Cost of Goods Sold (COGS)?

Shopify Cost of Goods Sold (COGS) is a vital metric directly impacting profitability. Essentially, COGS refers to the direct costs of producing the goods your business sells. This includes the cost of materials and labor directly involved in producing and manufacturing retail products. In simpler terms, it accounts for the expenses directly tied to creating the items you sell through your Shopify store.

Referred to as the “cost of sales” or “COGS report,” this metric provides a clear financial picture; businesses can accurately assess their profit margins and make informed decisions about pricing, inventory management, and overall business strategies.

What Affects The Cost of Goods Sold?

In understanding the dynamics of pricing and profitability, it’s crucial to delve into the factors that influence the Cost of Goods Sold (COGS). Let’s explore the critical elements in determining this essential metric.

Materials

The cost of goods sold is intricately linked to the materials used in production. This encompasses the individual costs of all parts utilized to build or assemble the products. It also includes the raw materials expenses essential for the product’s creation.

Moreover, any items purchased specifically for resale or to facilitate the product’s construction factor into the equation. These material costs form a significant portion of the wholesale price and directly impact the overall cost of goods sold.

Labor

Labor constitutes a fundamental component of the cost of goods sold. It includes the parts, machines, and supplies essential for product creation. Additionally, expenses related to shipping parts and equipment to the warehouse are factored in. This encompasses various costs such as containers, freight charges, and fuel surcharges due to fluctuations in fuel costs.

Crucially, the workforce involved in assembling the products, shipping parts, and performing related tasks significantly contributes to labor costs. Direct labor costs are a substantial portion of the wholesale price, thus influencing the total cost of goods sold significantly.

Operations

Beyond direct material and labor costs, operations play a pivotal role in determining the cost of goods sold. This category encompasses various facets of the business. Office staff directly involved in the production process, including administrative roles, are part of operational costs.

Additionally, expenses related to essential tools like software and hardware, office rent, utilities, and advertising costs are considered. These operational costs are necessary to support production activities effectively. Managing these aspects efficiently is crucial in controlling the cost of goods sold, ensuring a competitive pricing strategy, and maximizing profitability in the marketplace.

The Importance Of Shopify Cost Per Item In Retail

Managing Cash Flow Effectively

Understanding Shopify’s Cost Per Item (COGS) is vital for managing cash flow efficiently in retail. By subtracting COGS from sales, businesses calculate gross margin and gross profit. Higher COGS results in lower gross profit margins, highlighting the need for vigilant cash flow management. Maintaining a healthy cash flow is essential for meeting financial obligations and sustaining business growth.

Strategic Tax Management

COGS significantly influences a business’s tax liability. Deducting the cost of goods used to make or purchase items sold reduces taxable income. Effectively managing COGS ensures businesses pay taxes only on their net income, decreasing the overall tax liability. This strategic tax management preserves financial resources for other essential business needs.

Precise Expense Tracking for Profitability

Product manufacturing involves various expenses, from labor and parts to third-party purchases and operational costs. Tracking these expenses meticulously is crucial for determining a healthy gross profit.

Accurate expense tracking enables businesses to set appropriate product prices, ensuring healthy profit margins. Efficient management of COGS optimizes taxation, enhances profitability, and strengthens the financial foundation of retail ventures.

Cost Of Goods Sold Formula

The Cost of Goods Sold (COGS) formula serves as a fundamental financial metric for businesses, revealing the total costs incurred in producing goods sold during a specific period. The widely accepted COGS equation used by accountants simplifies the calculation:

(Beginning Inventory + Purchases) – Ending Inventory = COGS

Calculating COGS: A Detailed Example

Let’s break down the formula with an example for clarity. Suppose a company starts the year with a beginning inventory valued at $50,000. Throughout the year, they make purchases totaling $100,000. By the year-end, the remaining inventory is valued at $30,000. Applying the COGS formula:

($50,000 (Beginning Inventory) + $100,000 (Purchases)) – $30,000 (Ending Inventory) = $120,000 COGS

In this scenario, the Cost of Goods Sold for the year equals $120,000. This figure represents the total cost incurred by the company in producing and selling its goods during the specified period. By accurately calculating COGS, businesses gain crucial insights into their profitability, aiding in pricing strategies, financial planning, and overall decision-making processes.

How To Calculate Shopify COGS: A Step-by-step Guide

To integrate the Cost of Goods Sold (COGS) into your Shopify reporting, you’ll need to follow a series of steps to enable tracking and collect relevant data.

Step 1: Enable Inventory Tracking:

On the Product page, ensure you’ve checked both “Track inventory” and “Enable fulfillment service.” These settings allow you to monitor each item’s stock levels and fulfillment costs.

Step 2: Record Inventory Costs:

In the Inventory section, record the purchase cost of all inventory items currently in stock. This step provides a baseline for your cost calculations.

Step 3: Document Purchase Transactions:

Utilize the Purchases area to specify the details of transactions when you acquire new stock. This includes costs per unit, which helps maintain a running log of all your acquired inventory. It aids in determining the beginning inventory for subsequent periods.

Step 4: Track Cost Adjustments:

The Cost Adjustments section is where you can monitor any changes in costs for your inventory over time. Keeping this data up to date is essential for accurate COGS calculations.

Step 5: Leverage COGS Reports:

With inventory and cost data now in place for each product, you can make the most of Shopify’s COGS reports to analyze your margins.

The Cost of Goods Sold report summarizes COGS for a custom period, breaking down variables like product costs, fulfillment fees, and total COGS as a percentage of revenue. The Product Profitability report combines data on revenue, costs, and inventory valuations to identify your best-selling products.

You can change the time frame to see how your business performs

Advanced COGS Management with Shopify Apps

Elevate your e-commerce financial strategies with advanced COGS management through tailored Shopify apps like QuickBooks Online, Xero, and MYOB. Here are some helpful information you should not miss.

QuickBooks Online

Price: Free to $85 per month

QuickBooks Online simplifies advanced COGS management by seamlessly connecting Shopify with its intuitive interface. This integration is particularly valuable for global merchants, allowing them to manage multiple Shopify storefronts effortlessly.

With QuickBooks Online, businesses can accurately track income, expenses, and tax deductions, streamlining financial processes. Automating invoice, customer, and product entries reduces errors and saves time.

It enables the effortless import of sales data from Shopify, eliminating manual data entry tasks. Moreover, QuickBooks Online ensures real-time updates between stock levels in QuickBooks Online (Plus or higher) and Shopify, providing a comprehensive solution for precise COGS management.

Xero

Price: Free to $13/month

Xero offers effortless management of ecommerce business finances through its seamless integration with Shopify. This integration synchronizes a daily summary of Shopify sales with Xero, providing a real-time overview of cash flow and business performance.

By reconciling payouts promptly, businesses maintain financial accuracy. Xero creates daily summary invoices tailored for preferred payment gateways, ensuring clear transaction records.

Moreover, it allows the grouping of Shopify sales by tax rate, facilitating efficient sales tax management (AU/UK/NZ only). The detailed invoices encompass sales, discounts, shipping, refunds, gift card transactions, and fees, offering a comprehensive view of financial transactions for advanced COGS management.

MYOB

Price: Free to $29/month

MYOB simplifies advanced COGS management by seamlessly connecting MYOB Business and AccountRight accounts with your Shopify store. This integration ensures efficient synchronization of ecommerce data, saving valuable time and eliminating manual data entry.

MYOB allows the synchronization of MYOB inventory levels with Shopify, preventing overselling of products and ensuring accurate stock management. It automates invoice and order creation in MYOB based on Shopify order data, streamlining the process for timely and accurate financial records.

With customizable fields, businesses can tailor order creation in MYOB to suit their specific needs. MYOB offers flexibility in payment and refund data flow options, enhancing the overall efficiency of invoice generation for precise COGS management.

Best Practices for Managing COGS on Shopify

Implement accounting integration

Consider integrating your Shopify store with accounting software like QuickBooks Online, Xero, or MYOB using platforms like Amaka. This integration automates Shopify sales, payments, and COGS data synchronization, eliminating manual data entry. This streamlined process saves time and reduces errors, ensuring accurate financial records and best practices in store management.

Regular cost reviews

Perform regular reviews of your costs to identify any discrepancies or inaccuracies. Regularly check COGS reports on a weekly or monthly basis. Monitoring how costs and margins change over time provides valuable insights. You can make informed decisions by analyzing which products generate the highest or lowest profits. This data-driven approach lets you strategize effectively, adjusting pricing or managing inventory based on real-time data.

Strategic decision making

COGS reporting is a powerful tool, revealing your business’s financial standing and indicating paths for profitable growth. Understanding your costs and profit margins allows you to make strategic pricing decisions, optimize your inventory, and maximize profitability. Regularly monitoring COGS helps in the day-to-day management of your Shopify store and positions your business for sustained success in the competitive e-commerce landscape.

Bottom Line

In conclusion, understanding Shopify’s Cost of Goods Sold is pivotal for e-commerce success. With this insight, businesses can streamline operations, enhance profitability, and make strategic decisions that drive sustainable growth in the competitive online marketplace.

FAQs

To calculate COGS, add up the costs of raw materials, manufacturing, labor, and other expenses directly associated with producing the goods sold within a given timeframe. Subtracting the ending inventory value from the beginning inventory value provides the total cost of goods sold.

Shopify does not automatically calculate COGS. Merchants need to input their product costs within the admin dashboard manually. This process involves updating the costs as they fluctuate due to market changes or other factors.

Tracking COGS is crucial for evaluating the profitability of individual products and overall business operations. It aids in setting appropriate product prices, analyzing profit margins, and making informed decisions regarding inventory management and sourcing strategies.

Yes, Shopify allows merchants to assign unique COGS values to each product. This flexibility enables businesses to account for variations in production costs, supplier rates, or other factors that impact the cost of individual items.

Yes, Shopify offers detailed reports on COGS, accessible through the reporting section of the admin dashboard. These reports provide insights into product costs, helping merchants make data-driven decisions.

Shipping costs related to the production or purchase of goods, such as inbound shipping fees for raw materials, are included in COGS. However, shipping costs associated with customer deliveries are not part of COGS but are considered separate expenses.

Yes, merchants can edit COGS values in Shopify. This flexibility allows businesses to update product costs based on changes in supplier rates, manufacturing expenses, or other factors affecting the cost of goods.

Shopify does not limit the number of products merchants can track COGS for. Businesses can manage and track costs for as many products as they offer in their store, ensuring comprehensive financial analysis.

COGS directly impacts profitability by influencing the gross profit margin. By accurately tracking and managing COGS, merchants can optimize pricing strategies, analyze profit margins, identify high-margin products, and make informed decisions to enhance overall business profitability and sustainability.

Sam Nguyen

Sam Nguyen is the CEO and founder of Avada Commerce, an e-commerce solution provider headquartered in Singapore. He is an expert on the Shopify e-commerce platform for online stores and retail point-of-sale systems. Sam loves talking about e-commerce and he aims to help over a million online businesses grow and thrive.