COGS vs operating expenses in SaaS companies

While operating expenses (OPEX) in SaaS companies can be similar to OPEX in manufacturing companies, cost of goods sold (COGS) is completely different. Read on and learn why SaaS COGS are so unique.


COGS vs Operating Expenses in SaaS Companies

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COGS and OPEX values are recorded as separate items on the income statement of a SaaS company. 

Profit Frog takes a revolutionary approach to calculating SaaS COGS and to financial planning and analysis in general. We focus on what helps SaaS companies stay ahead of the curve. Our profitability modeling tools not only track expenses and revenue— they allow you to predict future profits based on adjusting your different business drivers.

What is a SaaS Company?

Software as a service (SaaS) companies are businesses that sell their software to customers on a subscription basis. SaaS businesses develop, host, create and update the subscription products that they provide to their customers.

Examples of a SaaS Startup

  • Slack
  • Canva
  • Dropbox
  • Toggl 
  • Hubspot
  • Calendly 

What is the Cost of Goods Sold?

COGS is an important metric on a financial statement. It measures those costs associated with producing a good or delivering a service. COGS is calculated very differently for SaaS companies than for other business models, such as manufacturers. Let’s look at how COGS applies differently to different business types. 

COGS for Manufacturers

The cost of goods sold, sometimes termed cost of sales, are direct costs associated with producing goods. They include raw materials and direct labor.

Generally accepted accounting principles (GAAP) define COGS as the general cost of producing items sold during a selected period. 

COGS includes all costs associated with manufacturing. For example, if a company is selling a physical product, the cost of goods sold will include transportation costs, direct material costs, and any other direct expenses. 

Manufacturing businesses should have these costs included in COGS:

  1. Product storage costs
  2. Product transport costs
  3. Tools and parts used in production
  4. Raw materials
  5. Factory labor costs

COGS for Service Businesses

If you own a service business (for example a plumbing company), the cost of goods sold will include business expenses involved in providing the service: direct labor, tools, and parts used, and transportation costs.  

COGS for SaaS Companies

Since SaaS businesses provide their customers with software instead of physical products, calculating COGS is quite different. Because SaaS companies have no “goods sold” most business owners will refer to this metric as cost of sales or cost of revenue. 

Understanding SaaS COGS is important for correct accounting and modeling. Our SaaS business forecasting software includes a handy cost of goods sold calculator to make COGS—and all other aspects of budgeting and forecasting—much easier. 

SaaS cost of goods sold includes:

  • Application hosting and monitoring costs
  • Data communication expenses 
  • Software license fees 
  • Website development and support costs
  • Subscription costs
  • Hosting costs

SaaS COGS doesn’t include:

  • Product management costs
  • Sales commissions
  • Customer success costs
  • HR costs
  • Office expenses

How to Calculate COGS With No Inventory?

For manufacturers, calculating COGS is based on inventory tracking. 

Since SaaS companies don’t have inventory, most software businesses will find COGS calculations challenging with the traditional inventory-based cost of goods sold formula

Profit Frog calculates COGS in real-time, rather than doing a retroactive inventory accounting after a calendar year (or month, or quarter) has closed. Our approach gives entrepreneurs more control and proactivity. For SaaS companies, the Profit Frog approach is essential.

SaaS business owners plug in all their costs, including COGS, into their dashboard and see a current picture of their business’s health. No waiting until the end of an accounting period: they have up-to-the-moment visibility into the real drivers of their business. Then, they can forecast COGS, OPEX, profit margins, and more into the future by manipulating variables and creating different scenarios. This type of corporate forecasting is called scenario planning, and it gives SaaS companies the edge they need to navigate a volatile environment.

With our tools, SaaS business owners don’t need to stress about calculating costs, finding the correct cost of goods sold, or trying to calculate OPEX. Simply follow our prompts and see how fast and easy budgeting and forecasting can be. 

Traditional COGS Formula For Manufacturing Businesses

COGS = Beginning Inventory + Purchases During the Period – Ending Inventory

  • Beginning inventory: a business’s inventory at the beginning of an accounting period.
  • Purchases: costs incurred to produce a good or service during an accounting period.
  • Ending inventory: the inventory remaining at the end of an accounting period.

Let’s say your business had a beginning inventory value of $14,000. There are also $5,000 of costs (purchases), and you have $3,000 inventory remaining; that gives a COGS of $16,000 for the accounting period.

COGS = $14,000 + $5,000 – $3,000 = $16,000

With Profit Frog, there is no need for business owners to worry about calculating costs, finding the COGS formula, or trying to calculate OPEX. Follow our prompts and see how easy budgeting and forecasting for SaaS can be. 

We give you a clear view of your company’s cost of goods sold and show you how you can increase profitability.

Get started with your free trial today!

Calculate SaaS cost of goods with this formula:

Total Revenue – Gross Margin = COGS

Cost of Goods Sold Formula With Gross Profit

Gross profit is one measure of business efficiency. Deducting the cost of goods sold from revenue gives gross profit. 

Gross profit margin will vary across sectors, but it’s commonly used to measure the profitability of a singular service. It will indicate how efficiently you are utilizing the resources in order to deliver your service. 

Gross Profit Margin Formula

Gross Profit Margin = (Revenue – COGS) / Revenue x 100

This formula indicates how successfully your business generates revenue while keeping the cost of goods sold low. 

Instead of focusing on gross profit, our customers benefit from optimizing for net profit. Net profit is what remains after all expenses have been paid: COGS plus operating expenses (OPEX). You’re in business to have as much net profit as possible, and we help you chart a course to maximum profitability. 

Get started with your free Profit Frog trial today.

SaaS Gross Margin

The recommended SaaS gross margin benchmark is over 75%; SaaS gross margins typically range from 70% to 85%. 

SaaS gross margin formula:

Gross Margin = (Subscription Revenue – Subscription COGS) / Subscription Revenue

What is a Good SaaS COGS Number?

COGS in SaaS companies should range anywhere from 5% to 40%. Having a higher cost of goods sold is usually influenced by having more complex service costs or software implementation.

Because it is so tricky to do COGS calculations for a SaaS company, most software business owners cram all costs into one billing statement. Doing so will make it hard to reduce your unused resources and increase profitability. 

The good news is that you can use our COGS calculator and profitability modeling tools to align all of your costs and increase your profitability. 

Get started with your free trial today

What Is The Best Cogs Calculator?

Profit Frog helps you analyze and collect data for cases like seeing future or current products. Understanding OPEX and COGS is crucial when planning for your SaaS business. We have a COGS calculator that provides a clear picture of your expenses, helping you build the business you strive for. 

Profit Frog helps you compute COGS by having you put in the costs of the following, one by one:

  • Cost of hosting
  • Cost of development
  • Cost of support and maintenance
  • Cost of subscriptions

A process like this will help you have a clear understanding of what goes into producing every product or service. Ultimately, this will lead to having a better understanding of your business and where your profit centers lie.

Our cost of goods sold calculator will allow you to dynamically model different costs, and use them to forecast possible futures. Profitability models and scenario planning tools will help you to make plans adjusted as conditions change.

By embracing dynamic planning, you will be able to stop guessing and break free from stagnant business plans that don’t work.

What is OPEX?

Operating expenses, commonly referred to as OPEX, are indirect expenses that are crucial to keeping any type of business running. Almost all businesses have at least utilities, rent or lease, and office supplies to buy, so OPEX applies to the majority of businesses. 

COGS versus operating expenses calculations are difficult and confusing for most SaaS business owners. Profit Frog simplifies expense tracking with our profit modeling software. Just plug in your expenditures, and use our profit modeling abilities to optimize your net income (profit).

Get started with your free trial today!

What is Included in OPEX?

Operating expenses are those costs necessary to sustain day-to-day operations, but which are not directly related to delivering a service.

The main goal for many SaaS companies is to maximize gross sales relative to OPEX. By doing so, OPEX will represent the core measurement of a SaaS company’s efficiency. 

The most common examples of operational expenses are:

  • Business travel
  • Property rates
  • Wages and salaries
  • Legal fees and accounting
  • Interest paid on debt
  • Administrative expenses
  • Digital marketing
  • Overhead costs

What Is The Key SaaS Metric?

There are four key SaaS metrics that a company needs to track

  1. Customer lifetime value
  2. Customer acquisition cost (CAC)
  3. Annual recurring revenue (ARR) 
  4. Monthly recurring revenue (MRR)

Keeping track of  SaaS metrics will help you improve your company’s financial health.

Frequently Asked Questions About SaaS COGS

What is the SaaS magic number?

The SaaS magic number measures the result of every sale and funds used for marketing. Measuring the magic number will tell you if you need to put more effort into customer expansion. The magic number formula will help software companies gauge sales efficiency. 

The SaaS magic number formula:

SaaS Magic Number = (Current Quarter Revenue – Prior Quarter Revenue) / Prior Quarter Acquisition Spend

Is COGS an operating cost?

While COGS is a business expense, it is not considered an operating expense. OPEX are costs incurred in daily operations, regardless of sales volume. 

Operating expenses and COGS are mutually exclusive. If an expense is COGS it is not OPEX and vice versa. 

What is not included in COGS?

Direct expenses, also known as COGS, refer to any expenditures necessary for the production of goods or the delivery of services. Everything else is excluded from COGS 

Not included in COGS: managerial expenses, advertising, utility expenses, lease payments, office supplies, and other overhead. 

How to document the cost of goods sold in a journal entry?

Prior to documenting your cost of goods sold in journal entries, collect information in advance, such as beginning inventory balance, purchased inventory costs, and ending inventory count. Afterward, calculate the cost of goods sold. 

By documenting inventory and purchases, you’ll have the info you need to create a COGS account entry.

When creating a new COGS entry, you should revise the inventory account balance; it should correspond to your ending inventory total. 

If you want to make COGS accounting super easy, just use Profit Frog!

What are variable costs?

A company’s expenses consist of fixed and variable costs. 

Variable costs change in proportion to how much the company produces or sells. They fall when production decreases and rise when production increases. 

Variable costs are viewed as short-term costs because they can be adjusted quickly. For instance, if a business is having cash flow issues, it can take immediate steps to slow production or otherwise mitigate variable costs. 

Variable costs include direct labor cost, costs of raw materials, sales commissions, and some wages; which is why COGS is mostly made up of variable costs

Is COGS an asset?

Cost of goods sold is not an asset. It is an expense. Expenses are the cost of running a business; they are one of five main accounts in accounting. 

  1. Assets
  2. Expenses
  3. Equity
  4. Revenue
  5. Liability 

COGS is an expense account on an income statement, making it a debit. Because the cost of goods sold is a debit, not an asset, it is a business factor that should be minimized.

Credits are good and you want to have as many of them as possible.

  • Cash
  • Revenue
  • Equipment 
  • Real estate
  • Accounts receivable

Conversely, you want to minimize debits and liabilities. Even though some are necessary to the running of a business, you still want to keep them down.

  • COGS
  • Operating expenses
  • Accounts payable
  • Other debt

When you increase credits while keeping debits constant, your business’s profitability correspondingly increases. Or, if you decrease debits while keeping credits constant, your company’s profitability also increases. 

Increasing profitability is the main goal that Profit Frog aims to help SaaS business owners achieve. It’s why we focus on profit modeling and dynamic planning. 

Get started with your free Profit Frog trial today.

About Profit Frog

Profit Frog is the leading budgeting and forecasting software specifically designed to eliminate complexity for small businesses. Where other FP&A software solutions focus on complex forecasting of cash flows and other factors, Profit Frog strips forecasting down to the thing that matters most: profitability—instead of pure sales revenue. Our financial modeling tools allow you to assess the health of your business quickly, and look into the future to understand how all of your variables will affect future profitability as you adjust them. Armed with this knowledge, you can chart a path to maximum profit. 

Get started with your free Profit Frog trial today!

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