Cost of goods sold (COGS) for SaaS is the direct cost of delivering the service — hosting, support and payment fees.
SaaS COGS = hosting & infrastructure + third-party software/APIs in the product + payment processing fees + support & customer-success staff + data/bandwidth (excludes R&D, sales & marketing, and overhead)
On £100,000 of monthly revenue you spend £9,000 on hosting, £4,000 on support staff, £3,000 on payment processing, and £2,000 on third-party APIs.
COGS = £9,000 + £4,000 + £3,000 + £2,000 = £18,000, giving gross margin of (£100,000 − £18,000) ÷ £100,000 = 82%
Cost of goods sold (sometimes called cost of revenue) is the direct cost of delivering your product to paying customers. For SaaS it has no physical inventory, so COGS instead captures the cost of running and supporting the software: cloud hosting and infrastructure, third-party software and APIs baked into the product, payment processing fees, data and bandwidth, and the customer support and success staff needed to keep customers up and running.
The defining test is directness. A cost belongs in COGS if it scales with serving customers and would not exist without them; it belongs below the line — in operating expenses — if it is about building or selling the product rather than delivering it. So hosting and support are COGS, but engineers building new features (R&D), sales and marketing, and general overhead are not. Getting that boundary right is what makes gross margin meaningful.
COGS is the figure that sets gross margin, and through it nearly every unit-economics calculation. Revenue minus COGS is gross profit; divide that by revenue and you have gross margin. Because margin-adjusted LTV, CAC payback, and the gross-margin-based efficiency metrics all depend on it, a sloppy or inconsistent COGS definition quietly corrupts the rest of your numbers — which is why where you draw the COGS line matters as much as the total.
COGS sets your gross margin, which caps how profitable and efficient the whole business can ever be — every other cost comes out of what it leaves behind. Because it feeds margin-adjusted LTV, CAC payback, and the Rule of 40, an inconsistent COGS definition silently distorts your unit economics, so drawing a clean, stable line between cost of delivery and the rest of the P&L is foundational financial hygiene for any SaaS.
Well-run SaaS keep COGS low enough to deliver 75–80% gross margins, with best-in-class pure software at 80–90%; COGS materially above 25–30% of revenue (margin below ~70%) usually signals heavy infrastructure costs or a services-heavy mix (sources: KeyBanc SaaS survey; Bessemer cloud benchmarks).
The direct cost of delivering the service: cloud hosting and infrastructure, third-party software and APIs embedded in the product, payment processing fees, data and bandwidth, and customer support and success staff. R&D, sales and marketing, and general overhead are excluded.
Generally no. Engineers building new features are R&D, an operating expense, because that work creates the product rather than delivering it to existing customers. The exception is staff dedicated to running production infrastructure or direct customer delivery, who can sit in COGS.
Directly. Gross margin is revenue minus COGS, divided by revenue. Lower COGS means higher margin, and because margin-adjusted LTV and CAC payback depend on it, a consistent COGS definition keeps those metrics honest.
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