Cost of goods sold budget

Components of the cost of goods sold (COGS) budget

The COGS budget includes three primary sections:

1. Budgeted cost of goods manufactured (COGM): This encompasses all direct and indirect costs required to produce finished goods, including direct materials, direct labor, and overhead costs (both fixed and variable).
2. Costing of finished goods inventory: This calculates the values of beginning inventory and ending inventory for finished goods. For inventory valuation, we apply the FIFO method for uniformity in the examples discussed in this section.
3. Budgeted COGS schedule: The final schedule combines all these components, arriving at the total COGS for the period, feeding directly into the income statement.

1. Cost of goods manufactured (COGM)

The cost of goods manufactured (COGM) is a financial metric representing the total manufacturing costs incurred to produce goods that have been completed within a specific period. It includes the following:

• Direct materials
• Direct labor
• Variable overhead
• Fixed overhead
• Changes in work-in-process inventory (WIP) during the period

COGM is a key component in calculating the cost of goods sold (COGS), as it identifies the costs involved in producing finished goods available for sale. The COGM total flows into the COGS schedule, which ultimately feeds into the income statement, impacting gross profit and overall profitability.

Below are pro forma examples in table format for each type of company to illustrate the differences:

Manufacturing company (COGM calculation)

For manufacturing companies, COGM includes all production-related costs, specifically direct costs (like raw materials and labor) and indirect costs (like factory overhead).

WIP costing is covered in detail in Section C of CMA Part 1.

Retail company (COGP calculation)

Retail companies don’t manufacture products but rather purchase goods for resale, meaning they don’t incur production-related costs like direct labor or factory overhead. The equivalent of COGM for retailers is the cost of goods purchased (COGP), focusing only on costs related to purchasing and transporting inventory for resale.

The GreenLine Furniture COGM

Using GreenLine’s data, the following table outlines its cost of goods manufactured (COGM) for Q4, integrating direct and indirect costs, and adjusting for WIP inventory.

All the data presented below can be traced to the individual budgets of direct materials, direct labor and overhead from previous chapters.

• Direct materials: $12 per unit (4 direct materials required per unit at $3/direct material)
• Direct labor: $30 per unit (1.5 hours per unit at $20/hour)
• Variable overhead: $1.50 per unit (combined indirect materials and utilities)
• Fixed overhead: $4.09 per unit of allocated fixed cost - a rounded figure, since $22,500 of total fixed overhead allocated to 5,500 units produced works out to $4.0909… per unit

Total required production for Q4 = 5,500 units
Total cost per unit = $47.59 = direct materials ($12) + direct labor ($30) + variable overhead ($1.50) + fixed overhead per unit ($4.09)

Cost of goods manufactured

Combining all the manufacturing cost budgets above, we get the following:

In this example, GreenLine’s beginning WIP inventory is $1,000 and its ending WIP inventory is $1,500. We’ve simplified the costing for the WIP because this is covered by another section. WIP rose by $500, so COGM ($261,250) is $500 below total manufacturing costs ($261,750) - that cost stays tied up in unfinished units.

This completed COGM reflects all GreenLine’s production costs, which are now ready to flow into the cost of goods sold schedule as part of the larger budgeting process. This total captures the value of goods completed at the period.

2. Costing of finished goods inventory

In order to compute the COGS, we need the changes in finished goods inventory, which means that we need the costs of the beginning inventory and ending inventory.

For this example, we will use FIFO to ensure consistent valuation.

Beginning finished goods inventory carries last period’s ending cost per unit; under FIFO, ending inventory is valued at this period’s cost per unit. Here both are $47.59 because we assume unit cost did not change between periods.

Please check the COGM section on how the cost per unit of $47.59 was computed. These computed costs will feed into the final COGS budget in the next section.

3. Cost of goods sold schedule

The COGS schedule uses the following formula:

$$\begin{array}{rl}\text{Cost of goods sold}& =(\text{Beginning inventory}+\text{Cost of goods manufactured})-\text{Ending inventory}\\ & =\text{Cost of goods available for sale}-\text{Ending inventory}\end{array}$$

Here’s the final schedule for GreenLine Furniture’s COGS:

This COGS budget for GreenLine Furniture provides the total COGS as $237,455, which will flow into the income statement as the cost offsetting sales revenue for Q4 to determine the gross profit. This calculation offers a clear view of production and inventory costs, supporting GreenLine’s assessment of profitability and efficiency.

Units sold = 500 + 5,500 − 1,000 = 5,000, matching the sales budget. COGS isn’t simply 5,000 × $47.59 (which would be $237,950): COGM excludes the $500 tied up in the WIP increase, which pulls COGS $500 below that figure, while rounding fixed overhead to $4.09 pushes it $5 back up (the schedule carries the full $261,750 of manufacturing costs, but 5,500 × $47.59 is only $261,745) - a net difference of $500 − $5 = $495. Always build COGS from the schedule, not from units × unit cost.