What is a direct cost?
A direct cost is a type of expense that a business can tie directly to their products, services, or other goods. These expenses are defined as direct because the quantity and value of the object is known.
For example, if a business rents a facility to build furniture, all of the products needed to build that furniture – the wood, screws, varnish, sandpaper – can be directly traced to it. All of those items are purchased and used specifically for the furniture. The rented facility itself can be attached to many things related to the business, but that facility and its rent fee cannot be tied directly to the furniture in a one-to-one relationship.
To keep up with direct costs and related items or services , many businesses implement accounting software to record expenses. These software ensure accurate tracking, reporting, and invoicing. Specific projects can be tracked, and each line item can be assigned to or labeled for different projects, therefore identifying them as direct costs for their assigned projects.
Types of direct costs
There are two types of direct costs: variable and fixed. Both types can be traced directly to a product or service.
Variable direct costs are expenses that change based on a variety of factors, namely demand, volume, or produced output. Examples of variable direct costs types include:
- Cost of needed materials
- Amount of needed materials
- Labor cost
- Labor hours
- Electricity, water, and gas utilities
- Packing supplies
Fixed direct costs are expenses that remain the same cost, no matter what changes in the market. Examples of fixed direct costs types include:
- Insurance
- Rent or mortgage
- Item or equipment depreciation
- Salary or hourly rate for a specific project or item
- Advertising rate
- Royalties
It’s important to clarify that fixed direct costs can change. Insurance rates change often and rent fluctuates, but those changes are not caused by volume like variable direct costs are.
Examples of direct costs
There are hundreds of examples of direct costs that a business can expense and track that tie directly to a specific project. These include:
- Marketing campaigns and advertisements for a specific product or service
- All transportation-related costs for the project in question
- Publications or sponsorships
- Consulting
- Facility fees and rentals
- Wages and salaries for project-specific team members
- All travel-related expenses
How to calculate direct costs
Businesses calculate direct costs differently based on whether these costs are fixed or variable. It’s much easier to forecast expenses for fixed direct costs, but variable direct costs can be measured by paying attention to the current market or using accounting software to track changes.
In general, calculating direct costs includes keeping track of every related expense in every category, including labor and salaries, materials cost, and office rental fees.
Direct cost vs. indirect cost
Direct costs are costs that are directly related to a company’s product or service.
Simply put, indirect costs are costs that cannot be tied directly to a product or service. This may be because these costs are holistic or can be tied to more than one aspect of the business. Examples include office supplies, building use, employee salaries and wages, general maintenance, and marketing campaigns.
Whitney Rudeseal Peet
Whitney Rudeseal Peet is a former freelance writer for G2 and a story- and customer-centered writer, marketer, and strategist. She fully leans into the gig-based world, also working as a voice over artist and book editor. Before going freelance full-time, Whitney worked in content and email marketing for Calendly, Salesforce, and Litmus, among others. When she's not at her desk, you can find her reading a good book, listening to Elton John and Linkin Park, enjoying some craft beer, or planning her next trip to London.
