What is Cost of Goods Sold (COGS)?

Overview:

As a restaurant owner or manager, it's important to understand the various financial metrics that impact your company's profitability. One such metric is the cost of goods sold (COGS), which refers to the costs directly associated with producing your products.

For a restaurant, COGS includes the cost of the raw materials (food, beverage, and sometimes paper) directly related to producing a menu item (the ingredients). It does not include overhead costs such as rent, utilities, or marketing expenses. COGS is subtracted from revenue to determine your restaurant's gross profit (also referenced as gross margin).

COGS is a much more accurate reflection of performance than purchases alone. This is because purchases do not reflect the value of the inventory that is on hand, and therefore not used. Financial institutions, CPAs, investors, and buyers typically prefer or require that COGS be calculated periodically as explained below:

Calculating COGS:

The formula for a restaurant's COGS is Beginning Inventory value + Purchases - Ending Inventory value. If you have multiple locations that transfer inventory between locations, then the value for transfers in or out is included in the formula.

For example, If the inventory value for a restaurant at the beginning of the period is $10,000, purchases for the period are $25,000, and the inventory value at the end of the period is $7,000, then the COGS for the restaurant for the period equals $28,000 ($10,000 + $25,000 - $7,0000). This is the cost of the inventory items that were used during the reporting period.

Reporting COGS:

A restaurant's Profit and Loss Statement reports COGS for an accounting period. COGS is subtracted from Revenue for the period to determine a Gross Profit (Gross Margin). Most restaurants like to evaluate their COGS as a percentage of Sales such as a 32% food cost or a 50% wine cost.

For a full-service restaurant, COGS is typically reported by inventory departments such as Food, Liquor, Beer, Wine, and Non-Alcoholic beverages. Many operators report their COGS for food in more detailed categories such as Bread, Dairy, Grocery, Meat, and Seafood.

COGS-Well exports COGS adjustments, by chart of account (COA), to accounting systems where they can be included on the Profit and Loss statement. COGS-Well directly reports COGS using Revenue Departments and Inventory Categories on the Actual Cost of Sales Report. An example is below - Please note that COGS is reported in dollars and as a percentage of sales:

Theoretical COGS:

If you set up recipes for your menu items, then COGS-Well can calculate a "Theoretical COGS". Theoretical COGS tells you what your COGS should be for a period based on aggregating the menu items you sold, the cost to produce each item, and the quantity of each item that was sold.

For example, if a Hamburger costs $2.50 to produce based on the cost of its ingredients, and you sold 100 during the accounting period, then your theoretical COGS contribution from the Hamburger is $250 ($2.50 X 100). This calculation is done and aggregated for all of your menu items sold during an accounting period to determine your theoretical COGS in total and for each inventory category.

COGS-Well enables you to compare Actual COGS to Theoretical COGS to calculate variances. Doing so provides you with the ability to know if you are doing as well as you could or should be based on what menu items you sold and the cost of the inventory items used to produce those sales. An example of a Cost of Sales Variance Report is below:

Variances in actual to theoretical COGS are typically the result of over/under portioning, waste, spoilage, or theft. Sometimes variances will indicate that a recipe(s) is not accurate. COGS-Well also reports Theoretical versus Actual Inventory Usage Variance and this report will help you isolate what item or items are causing the variance. An example is provided below:

Summary:

In conclusion, the Cost of Goods Sold (COGS) is a critical metric for any business that produces and sells products. By understanding and monitoring COGS, restaurants can identify opportunities to reduce costs and improve profitability, as well as provide valuable information for financial reporting purposes.

COGS is a key indicator of a company's financial health. Investors and lenders often look at a restaurant company's gross profit margin as a measure of its profitability and potential for growth.