USA Direct Sale Costs


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Hi everyone, I'm new here. My name's Will. I've been trying to figure out the general answer to the following question...

What is the term used for fixed costs that are accrued each time you make a sale? I used to think COGS applied to that but I've been told I'm incorrect. To illustrate...

I'm a hog farmer. Every time I take a hog to the butcher, he charges me X dollars to process the hog. That cost is incurred every time I sell a unit (in my case, the hog) and is irrespective of the general costs of running the hog farm.

On the other hand, I have to feed all the hogs on my farm every day, irrespective of whether or not I take a hog to the butcher or sell a hog.

Like I said, I used to think the first scenario was COGS and the second scenario is expenses, but I've been told they're both COGS. So I'm looking for a way to distinguish them when I do my profit analysis.

The distinction is important because the first scenario tells me revenue per unit; I can then use the revenue per unit to figure out how many units I have to sell to pay for the expenses like feed in the second scenario.

Thanks in advance,

Will
 
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Werner Reisacher

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I commend you for your approach to your business. What you are looking for are the drivers that impact your productivity and the profitability of your business. Once you understand those, you will understand how your decisions will impact the bottom line of your company which enables you to manage your company successfully.

Don’t get confused about COGS and expenses. It’s “accounting lingo” and can get confusing.

A traditional Profit and Loss Statement looks as follows:

Sales $ 200

Cost of Sales $ 100

Gross Profit $100 50%

Office Exp $ 80

Net Income $20 10 %



COGS includes all cost items that are incurred by processes that are related to the manufacturing and/or procurement of a product. They are actually also “expenses”, but for analytical reasons, Accountants group them under the category “product cost” and allocate the cost that relates to the products that are sold during a given period as “cost of sales” to that period.



Next step is to separate the Fixed costs from the Variable Costs.



- Fix Costs (overhead costs/expenses) are all those costs/expenses that you need, to be able run your business. They include depreciation, management, marketing, administration, advertising, etc.



- Variable costs are all those Cost/expenses that are directly related to activities that you incur in order to have a marketable product. (mainly production costs) If you have no Hog, you would have zero variable cost. If you would increase your business from 50 to 100 hogs you would probably double your variable cost. (purchase of the hog, feeding, raising, cleaning, butcher cost etc.
Once you understand this concept, you have various tools you can use to obtain the information you are looking for:

Here just some samples:

BREAK-EVEN ANALYSIS

Net Sales $ 100,000 5000 units at $ 20

Variable Cost - $ 40,000 5000 units $ 8

Contribution Margin $ 60,000 60% per unit $12

Fixed Overhead $ 50,000

Net Profit $ 10.000


FIXED OVERHEAD $ 50,000 / CONTRIBUTION PER UNIT $ 12 = 4.167 UNITS

In other words, you need to sell 4167 to cover the fixed overhead.



You can take another approach in your quest to understand the reasons that have resulted in variances, expressed in $ (monetary value) by breaking down each process into its volume and its price components. Below is a sample



VOLUME/PRICE VARIANCE ANALYSIS
Text
# of unit
$ per unit
$ total
Jan-20
100
$ 50.00 $ 5,000.00
Feb-20
150
$40.00
$ 6,000.00
Total variance $ 1,000.00
Volume Variance
((150-100)*$ 50.00) $ 2,500.00
Price Variance
(($40.00-$50.00)*150) $ (1,500.00)
Total Variance $ 1,000.00


The same analysis you can make by also breaking down the COGS into its variable and fixed component.

In your particular case, I would probably break the # hogs further down into # of pounds per hog. Once you have this information, you can start fine-tuning your operation.

- How to increase the # of lbs per hog

- How to increase the business volume (selling # of hogs)

- How to reduce every expense position

- Do not consider “fixed overhead” as a given. Look critically at your capacity. Do not use what you have, use what you need. Sell, liquidate mothball, overcapacity/space. And be careful, when you reach a certain level of activity, at least some of your “fixed overhead” expenses will become “step variables”, they increase to the next level of activities. A typical example is the space or the # of people needed to raise the hogs.

- How to fix the optimal sales price per hog (lbs)

Good luck!
 
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Fantastic breakdown! Thanks for all the effort!
 

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