They will also need to help the management team to analyze and review gross profit margins as part of a monthly process each time financial statements are generated. Your accounting team will need to be involved to record adjustments to COGS on a monthly basis. Make these adjustments in the accounting system and then analyze the results with projections and the previous month’s data. Without a proper methodology, gross margins will wildly fluctuate and it will be difficult for management teams and investors to gauge how the business is performing. This is usually done either based on revenue (the number of licenses sold in a particular month) or based on the number of hours allocated per month.Īfter a methodology is chosen, it’s important to be consistent and have a process to identify these costs on an ongoing basis. You will need to come up with a methodology to allocate the above costs to COGS. Third-Party Software: This is software like GitHub repository services, developer tools, and tools that are directly related to revenue generation.As a result, it usually makes sense to allocate a majority of their salaries towards COGS. Customer Success Salaries: The Customer Success team is usually on the front lines when it comes to onboarding, implementations, and troubleshooting issues.This bucket could also include one-off professional services (non-recurring revenue ) that are very common in Enterprise SAAS projects.

Very often, an overhead allocation may need to be calculated in order to split the salaries between COGS and R&D.

This would include any full-time/part-time employees that directly contribute toward the software product.

Engineering Salaries: You may want to allocate a portion of engineering salaries to COGS.

Server/Hosting Services: Examples would be AWS, Google Cloud, Microsoft Azure, etc.

For SAAS companies, we usually see them in the following buckets: Identify the vendors and costs that make up your cost of goods. Here’s a step-by-step guide to help you calculate this measure. With that being the case, investors are laser-focused on your gross profit calculation. This loss is being covered by the various rounds of investor capital getting pumped into the business to fund company growth and R&D. In other words, gross profit minus operating expenses is usually negative. Their operating expenses are often significantly higher and the company is running at a loss. Remember, for your bottom line (gross profit minus operating expenses) to be positive, you’ll need to have a high enough gross profit margin to cover your operating expenses.įor most early-stage technology companies, this is usually not the case. In this case, you’ll need to focus on bringing in as many customers as possible (high volume). This can often mean that you can have a differentiated product strategy that isn’t dependent on high-volume sales.įor a lower gross margin business, you may have a cost leadership product strategy. Having a higher gross profit margin means that the revenue generated is significantly higher than the cost per unit. The importance of calculating your COGS correctly drives your gross profit margin. Your net income is commonly known as the bottom line.

Net Income: This is your gross profit minus your operating expenses.

Typically, these fall into three main buckets: general & administrative (G&A), sales & marketing (S&M), and research & development (R&D).

Operating Expenses: These are below-the-line (i.e., below the gross profit line) expenses.

It’s commonly known as your gross profit margin.

Gross Profit: This is your revenue minus the COGS.

Cost of Goods Sold: This is the per-unit cost to your startup of delivering one license to your customer.

Revenue Per Unit or Software: This is the price per license you charge your customer.

To make this conversation easier, it’s helpful to understand certain terminology. If you’re not precisely sure of the difference, we’re here to help. When it comes to calculating these costs (e.g., rack space, servers), we often find that founders have difficulty distinguishing their operating expenses from their COGS. And that means calculating the cost of goods sold (COGS). Like any company, though, SaaS providers need to monitor the money coming in and going out. Some examples of services that do this today are Amazon Web Servers (AWS), Google Cloud, and Microsoft Azure. When the end user/customer is using your product, what they’re actually accessing is an instance of your software that lives in a server and that can, in real-time, deliver your service. Instead, modern software is delivered to customers through the rental of servers and cloud storage services, where the software lives and “computes.” Unlike e-commerce businesses and manufacturers, software-as-a-service (SaaS) companies usually don’t have inventory in the traditional sense.

Cogs accounting operaitng expenses