Inventory vs Cost of Goods Sold: What's the Difference in 2023?
In this Inventory vs Cost of Goods Sold (COGS) article, we cover the unique characteristics of inventory and COGS and compare their differences. Read on to learn more.
What is Inventory?
Inventory refers to the collection of goods or materials that a company holds for the purpose of resale or for use in the production process. It represents a valuable asset on a company's balance sheet, and its value can fluctuate over time.
Unique Characteristics of an Inventory
Asset on Balance Sheet: Inventory is listed as an asset, reflecting its value and importance in a company's financial statements.
Categorization: Inventories can be categorized into different types, including raw materials, work-in-progress, and finished goods.
Valuation Methods: Various methods like FIFO (First-In, First-Out) and LIFO (Last-In, First-Out) are used to determine the value of inventory.
Physical Count: Companies often conduct physical inventory counts to verify the accuracy of their recorded inventory levels.
Carrying Costs: Holding inventory incurs costs such as storage, insurance, and potential obsolescence.
What is Cost of Goods Sold?
Cost of Goods Sold (COGS) represents the direct costs associated with the production of goods a company sells during a specific period. It includes expenses like raw materials, labor, and manufacturing overhead.
Unique Characteristics of Cost of Goods Sold
Income Statement Component: COGS is reported on the income statement and directly impacts a company's gross profit margin.
Direct Costs: It includes only the costs directly associated with production and excludes other operating expenses like marketing and administrative costs.
Calculation Complexity: Calculating COGS involves accounting for inventory changes during the accounting period.
Timing: COGS is recorded when the goods are sold, not when they are produced.
Profitability Indicator: COGS is a critical factor in determining a company's profitability and pricing strategies.
Cost of Goods Sold vs Inventory: How Are They Different?
Let's compare COGS and inventory below to highlight their differences:
Cost of Goods Sold: Represents the direct costs of goods sold during a specific period.
Inventory: Represents company-held goods and materials for resale or production and includes raw materials, work-in-progress, and finished goods.
Financial Statement Placement
Cost of Goods Sold: Appears as an expense on the income statement and is subtracted from revenue to calculate gross profit.
Inventory: Appears as an asset on the balance sheet, usually under current assets.
Cost of Goods Sold: Measures the cost of goods used in production or sold to customers.
Inventory: Primarily serves as a store of goods to meet customer demand, fulfill orders, and support production.
Cost of Goods Sold: Represents the cost of sold inventory items and is recognized as an expense on the income statement for profitability calculation.
Inventory: Accumulates acquisition or production costs, recorded on the balance sheet until items are sold.
Cost of Goods Sold: COGS does not represent a company's liquidity since it accounts for expenses related to goods already sold and cannot be used as a current asset.
Inventory: Inventory, being an asset on the balance sheet, represents a company's liquidity to some extent, as it includes goods that can be sold or used in production to generate revenue.
Cost of Goods Sold: COGS is recognized in the income statement during the specific accounting period when goods are sold, reflecting the immediate impact on profitability.
Inventory: Inventory is recognized on the balance sheet until items are sold; its costs are recognized gradually over time as goods are used or sold, impacting profitability when they are eventually sold.
In summary, inventory and COGS are both fundamental concepts in accounting and finance that serve distinct purposes. We hope that our Inventory vs Cost of Goods Sold comparison article has given you a better understanding of the key differences between the two and will help you manage your inventories more effectively.