How to Calculate the Cost of Sales

Tracking the cost of sales is one of the keys to keeping your business viable.

An integral part of starting or running a business is knowing the cost of your sales. This information is needed for a basic business plan, to apply for financing and for tax purposes. Tracking the cost of sales is one of the keys to keeping your business viable and consistently making a profit. There are two accepted methods of calculating cost of sales: direct costing and absorption costing.

Instructions

1. Calculate your cost of sales using the direct costing method when you're presenting the numbers for management reports. Direct costing is the most basic way to figure your costs; all you need to do is add the material and labor involved in preparing your item for sale. In real estate, an example would be the cost of lot (or land) plus the cost of materials for the house plus the cost of labor for construction.

2. Figure absorption costing by adding the material and labor plus overhead expenses, such as lease, utilities and office expenses. Absorption costing is the accepted method used for accounting purposes and by the Internal Revenue Service (IRS). An example for real estate would be the cost of lot (or land) plus the cost of materials for the house plus the cost of labor for construction plus lease cost, utilities, office expenses and other overhead.

3. Calculate your cost of sales for an integral part of figuring your gross profit. The formula used for figuring gross profit is total sales minus cost of sales equals gross profit.

Resources

• Read this Article in Spanish
• Accounting Coach Blog: What Is the Cost of Sales?