Cost of Goods Sold (COGS) represents the direct costs incurred in producing or delivering a company's products or services. For a software company, COGS typically includes hosting costs, third-party software licences, and customer support. For a manufacturer, it includes raw materials, labour, and manufacturing overhead. COGS does not include indirect costs such as sales, marketing, or general and administrative expenses.
COGS is subtracted from total revenue to calculate Gross Profit. Monitoring COGS as a percentage of revenue over time reveals whether a company is achieving operating leverage — i.e., whether revenue is growing faster than the direct costs of delivering it. Declining COGS ratios are a positive indicator of scalability.