Cost type: Direct & indirect

Firstly, all accountants love labels, consequently one of these applies to costs. 

Direct and indirect costs differences

Furthermore it is important to know the difference. As re result this helps when it comes to:

  • Pricing of goods and services
  • Business Planning
  • Controlling costs
  • Understanding profitability of customers, products and services
  • Improving efficiency

Direct cost

Most importantly, this refers to cost related to the production of products. 

Below are some examples:

  • For a manufacturing company direct costs would consist of raw materials (direct materials), wage and salary costs of those individuals making the product (direct labour). Similarly, royalty and patent costs (direct expenses).
  • For an airline company, direct materials would include the fuel used in the aircraft. Meanwhile, direct labour would be the wage costs of the pilot and crew.
  • For a restaurant, the direct materials would include the cost of the food and drink purchases. Subsequently, direct labour would include the wage costs of the chefs/cooks.
  • For a theatre company, direct materials would include the costs of state set and scenery. But direct labour would include the fees for the performers. Direct expenses would include copyright and royalty fees.

Indirect cost

Likewise, indirect costs (overheads) refer to costs which are incurred to support an organisations main activities.

Examples include:
  • For a manufacturing company indirect costs would consist of glues, screws, consumables, supervisory wages, depreciation and factory rent.
  • For an airline company, indirect costs would include the wage costs of the ground crew, IT and HR costs.
  • Indirect costs for a restaurant would include the costs of condiments, wage costs of the front of house staff.
  • For a theatre company, indirect costs wound include depreciation, and the rent payable on the building.

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