What is an example of a direct cost?

A direct cost is an expense that can be directly traced to a specific cost object, such as a product, department, or project. In this context, raw materials used in production represent a direct cost because they are necessary for creating the product and their cost can be directly assigned to that product.

When manufacturers produce goods, the materials that are consumed in the process are specifically associated with the items being manufactured. This makes it easy to identify how much each product costs in terms of its raw material inputs. As a result, raw materials are always categorized as direct costs, as they contribute directly to the price of the product being produced.

Other expenses listed, such as depreciation on equipment, rent for the factory building, and utilities for the office, are considered indirect costs. These costs are not directly traceable to any one specific product or service because they support overall operations rather than being tied to individual units in production. For example, depreciation on equipment supports the entire production facility rather than a single product, and similarly for rent and utilities; they are necessary for the business's functioning as a whole but cannot be directly linked to the production cost of a specific item.