The cost of goods sold (COGS) refers to the direct costs associated with producing the goods that a company sells. This includes expenses like raw materials, labor, and manufacturing overhead. COGS is crucial for determining a company's gross profit, as it is subtracted from total sales revenue. Calculating COGS helps businesses understand their profitability and manage inventory effectively. It is reported on the income statement and can vary based on factors such as production methods and supply chain efficiency. Accurate COGS calculations are essential for financial analysis and tax reporting.