Usually, direct costs are thought of as variable because their costs depend on the number of units the company plans to produce. The most common examples of direct costs in a business are the materials necessary to carry out production and the amount of labor. Here are some of the differences between direct and indirect costs: Direct costsĪ direct cost is an expense that you allocate specifically to an object or activity. indirect costsĪ cost driver can be anything that influences the cost of business activity, both directly and indirectly. This would result in a revenue of $600 for all of the shirts, giving the company a profit of $400. For example, if the total cost of producing 100 T-shirts is $200, the seller can set the price per T-shirt at $6 each. Analyzing cost drivers helps businesses ensure that their cost of production does not exceed their earned revenue.īy accounting for cost drivers, businesses can calculate their total production costs and use this number to determine product pricing. Why are cost drivers important?Ĭost drivers are an essential part of keeping a company's finances in order and determining future profits. This concept demonstrates that all activities require the consumption of resources, and as people complete work activities, there is an associated resource cost for each activity. The units of water are the cost drivers, and the water bill is the cost. An example of this could be how the amount of water your office uses in a month determines the price of your water bill. A cost driver is any activity that triggers a cost of something else. Related: A Guide to Traditional Costing Systems What are cost drivers?Ĭost drivers are the direct cause of a business expense. In this article, we discuss what cost drivers are, why they're important for businesses, the different types of cost drivers and some examples. With cost drivers, companies are able to estimate their profits, making them an essential component of business finance. In order for businesses to keep track of their finances, they may keep a detailed record of the driving force behind expenses, known as cost drivers. In the world of business, every decision requires a cost-benefit analysis.
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