June 7, 2022
In the accounting world, there are many different terms that sound similar but actually mean different things. One of those is the difference between Gross Cost and Net Cost. They’re both related to the price paid to acquire something, but they are usually different numbers. Here’s what you need to know.
The first thing you need to know about Net Cost is what Gross Cost is.
Let’s assume you are buying a machine for a factory. You would pay for the machine, plus sales tax, plus transport costs to get it to your shop floor, and then for someone to install and test it. You might have to pay to train your staff to use it and for additional fittings or tools that are required to use the machine.
All of those costs that are related to the purchase of the machine are added together to get the Gross Cost of the machine.
The Net Cost of an item is the Gross Cost, less any benefit you might gain from owning that item or spending the money (such as when you are calculating the Net Cost of getting a degree or special training that improves your earning potential.)
Net Cost = Gross Cost - Discounts - Rebates
So, to calculate the Net Cost of the machine we used in the example above, you would calculate how much profit you would make by using that machine to produce items for sale or to perform services you are paid for. That profit would be deducted from the Gross Cost you’ve already calculated and tell you what the Net Cost of the item or expenditure would be.
Very often, companies calculate the Net Cost of an item before they purchase it as part of their financial planning.
Three possible scenarios could result from a Net Cost calculation. You might find that you neither make nor lose any money from the purchase. Or you might find that you make less than you would spend to make the purchase. Or finally, you might find that you will make more from the item you’re purchasing than you would pay.
Of course, the third scenario is ideal for any company. You only want to purchase things that will result in net gains.
Now that you know what is Net Cost and what the Net Cost formula is, it should be easier to calculate if a purchase is a good business decision or if you should look for different options that might be more financially favorable.
To work with Net Cost, you need to open the Income Statement or the Profit & Loss report. You can import your P&L report from the QuickBooks accounting platform with LiveFlow. LiveFlow is a powerful financial tool that can help you to sync your financial reports in real time and decide which purchases make the most financial sense for your business. So use it before you make any large purchases.