Direct materials expenses include raw materials, components, and stock items utilized in product manufacturing.
Add all component costs and divide by units generated to calculate these expenses.
Direct Materials Cost Components
Here are the 5 primary direct material cost components:
1) Raw Material Costs
Raw materials are the building blocks of products. These can be polymers, metals, or adhesives. To become part of your product, they must be converted, which costs money.
2) Container and Packaging Costs
Packaging protects and promotes your goods, making it crucial to production.
Packaging expenses range from $0.25 for a little bag to $20+ for a gift box, depending on size and material.
3) Shipping/storage fees
Transporting products costs money. This could be air, sea, or ground conveyance.
Your calculations must consider this because these prices can rise dramatically depending on your suppliers’ location.
Find out what your supplier charges for freight since rates vary by location.
Having a huge inventory can quickly increase storage costs, so keep an eye on it.
4) Indirect Tax
GST and VAT are indirect taxes that apply to all products.
You should include indirect tax costs in your computation, but make sure they match your country’s rates.
This varies by location, so include it in your calculations.
Discounts cut goods prices and can be upfront or promotional.
Instead of asking for free shipment, ask if your supplier has any special offers to decrease your expenditures.
Distributors may give discounts to get products into retail outlets.
When estimating direct materials, this can also lower costs.
Example of Direct Material Cost Calculation
Add all component costs to calculate direct materials costs. Based on the components below, Company ABC’s November 2020 direct material costs are:
The raw material cost was $108,000.
Indirect taxes on invoice: $16,200
Company production workers’ wages: $ 45,000
The invoice said $1,000 for packing and container charges.
Inward freight: $750
The computation for direct material costs will include all Company ABC expenses excluding labor.
Wages are directly tied to manufacturing products and cannot be considered indirect materials. Company ABC’s direct material costs total $125,950.
Examples of Direct Materials
Direct materials cost can be understood using several instances.
These give great real-world insight into determining direct material prices and include examples from the manufacturing industry:
Clothing can be made using fabric.
The direct materials cost includes all production tools and equipment, including heavy machinery and oil drums.
Another direct material for furniture and other wooden objects is wood.
Direct manufacturing materials include welding gases.
Resistors, switches, and other direct materials are found in goods and production lines.
Why Does Direct Materials Cost Matter?
Reasons a corporation must examine the entire price of each component are listed below:
Direct materials prices can significantly affect your product pricing, thus they should be considered when calculating the cost of manufacturing each component.
Direct material costs are crucial to manufacturing firms. It ensures their products are not too expensive to create or sell profitably.
It also shows management if their vendors are pricing product-making materials correctly.
This information can assist managers negotiate better supplier rates, lowering firm costs.
It tells management if each product sold is profitable or if production has a problem.
It tells management if they need to increase production efficiency or switch suppliers.
Finally, it shows how much income each product generates and helps them make smarter expense selections.
As shown, your organization must evaluate the direct materials cost to make smart product sales decisions and determine how much money you generate on each sale.
Managers can assess if a product’s price has to be adjusted or if it has a problem by understanding its materials.
This can help you make better products at reduced costs and build long-term relationships with suppliers who offer fair material prices.