Ask ten contractors what goes in their Cost of Goods Sold and you'll probably get ten different answers. Some include sales commission and some don't. Some put permits and dumpsters there, and others bury them somewhere in overhead.
Here's the good news. There isn't one perfect answer. What matters most is that you make a decision that fits your business and stick with it.
What is Cost of Goods Sold?
Cost of Goods Sold, or COGS, is the cost tied directly to the jobs you complete. You may also hear it called Cost of Sales or direct costs.
Here's a simple test. If you didn't sell and install this job, would you still have this cost? If the answer is no, it probably belongs in COGS. For most contractors, that includes:
- Production labor
- Materials
- Subcontractors
- Job site costs like permits, dumpsters, and engineering fees
Everything else, like rent, office staff, insurance, marketing, and vehicle payments, belongs in overhead. Those costs show up whether you install a lot of work or none at all.
Does sales commission go in COGS?
For some businesses it does, and for others it doesn't. Both can work. The important part is deciding what makes sense for your business and then keeping it that way.
Why does consistency matter so much?
Revenue minus COGS is your gross profit. Gross profit as a percentage of revenue is your gross profit margin, and it's one of the most important numbers you have.
Think of it like a golf score. Comparing your score to someone playing a different course doesn't tell you much. Comparing your score to your own scores over time tells you whether your game is getting better.
Your gross profit percentage works the same way. Comparing it to another contractor's number only means something if you both put the same costs in COGS, and you rarely know whether you do. Comparing it to your own numbers month over month and year over year tells you exactly how your business is doing.
If you keep moving costs in and out of COGS, you lose that. A month might look better or worse only because of where something was recorded.
Challenge
Pull your last income statement and list every line in your Cost of Goods Sold. Ask yourself whether each one is truly tied to the jobs you completed. Make any changes with your bookkeeper now, then keep it that way so you can measure your progress over time.