What is cost of goods sold?

By Book Keeping Pros
Sources checked 15 Oct 2026

Definition

Cost of goods sold is the total direct cost of the goods or services a business sold in a period. For a retailer it is mostly the cost of stock sold. For a maker or service business it can also include materials, delivery charges on supplies and the wages of people producing the work.

For a business that holds stock, the figure comes from the stock records rather than from purchases alone: opening stock, plus stock bought during the period, minus closing stock, which a stocktake provides. Anything bought but still on the shelves at the end of the period has not been sold, so it stays out of cost of goods sold.

It is often called cost of sales. Where the line falls between a direct cost and an overhead is not always obvious, such as packaging or a delivery driver's wages, so it helps to agree the split with your accountant and keep it the same from period to period.

Cost of goods sold and closing stock are two sides of the same count. Closing stock carries forward on the balance sheet and becomes the next period's opening stock. If closing stock is overstated, cost of goods sold is understated and profit looks higher than it really is. The error then reverses in the next period, when the inflated opening stock pushes cost of goods sold up, so an accurate count protects both periods.

In Australia

business.gov.au defines cost of goods sold as the total direct costs of producing a good or delivering a service. It describes inventory as the goods and materials a business buys, makes or manufactures to sell or exchange, grouped into three main types, raw materials, work in progress and finished goods, though some industries use more.

Its inventory guidance recommends doing a stocktake regularly, often monthly or quarterly. A stocktake is a physical count that shows whether the stock on hand matches the inventory records.

The same guidance describes two ways to track stock. In a periodic system, stock is counted by hand and the records are updated manually, on paper or in a spreadsheet. In a perpetual system, a point-of-sale system or other software updates the records with every purchase and sale. It adds that a stocktake helps catch missing or stolen items early and find stock that is broken, out of date or unsaleable.

Worked example

Illustrative example: cost of goods sold for a quarter in a retail business
Item	Amount (AUD)
Opening stock	12,000.00
Add stock purchased	26,500.00
Stock available for sale	38,500.00
Less closing stock from the stocktake	13,700.00
Cost of goods sold	24,800.00

Illustrative example only: these rows show the method and are not sourced data.

Common mistakes

Treating every stock purchase as cost of goods sold, even when the stock is still unsold at the end of the period.
Estimating closing stock instead of counting it, so missing, damaged or out-of-date items go unnoticed.
Including general running costs, such as office rent, in cost of goods sold.
Valuing closing stock at its selling price when the basis agreed with your accountant is cost, which inflates closing stock and understates cost of goods sold.
Leaving customer returns and supplier credits out of the stock records, so the count and the books drift further apart each period.

Common questions

Is cost of goods sold an asset?

No. Cost of goods sold is an expense, reported on the profit and loss statement for the period. The asset is the stock itself: while goods sit unsold, their cost is held on the balance sheet as inventory, a current asset. When they are sold, that cost moves out of inventory and into cost of goods sold, where it is matched against the sale it helped earn.

Is cost of goods sold a debit or a credit?

Cost of goods sold is an expense account, so it normally increases with a debit. In a perpetual system, each sale records a debit to cost of goods sold and a credit to inventory for the cost of the item sold. In a periodic system, purchases are recorded during the period, and after the stocktake an adjusting entry sets inventory to the counted value, with the balance landing in cost of goods sold. A credit to the account usually reverses an earlier entry, such as a customer return.

What is the difference between cost of goods sold and operating expenses?

Cost of goods sold covers the direct cost of what was sold, so it tends to rise and fall with sales. Operating expenses, often called overheads, are the costs of running the business whatever it sells, such as rent, insurance, software subscriptions and office wages. On the profit and loss statement, cost of goods sold comes off first to give gross profit, and operating expenses come off after that to give net profit.

What is cost of goods sold in a service business?

A service business holds little or no stock, so its direct costs are usually the costs of delivering the work: wages of staff doing billable jobs, subcontractors, and materials used on a job. Some service businesses show these as cost of sales; others record every cost as an overhead and show no gross profit line. Which costs belong there is for your accountant to settle. Where direct costs are recorded by job, the business can see which kinds of work earn the most.

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Sources

Key financial terms
business.gov.au, Australian Government. Current at 15 October 2026, released 9 July 2024. Checked 15 October 2026.
© Commonwealth of Australia 2020, licensed under CC BY 3.0 AU. Licence: CC BY 3.0 AU.
Manage your inventory
business.gov.au, Australian Government. Current at 16 October 2026, released 19 November 2025. Checked 16 October 2026.
© Commonwealth of Australia 2020, licensed under CC BY 3.0 AU. Licence: CC BY 3.0 AU.