Direct material cost is the amount of money spent on raw materials to make a product. Raw materials must be identifiable and consistently used to be part of this cost. It is used to determine product cost, establish selling price, and assess profitability.
Direct material cost is the amount of money a company has to spend on raw materials to make a product. To be part of the direct cost of materials, raw materials must be identifiable and used consistently. Most of the products have raw materials that are used infrequently, such as screws used to build a cabinet, so they are not part of this cost due to their lower usage. Companies typically need this figure to know how much a product costs, so they know how much to charge and if they’re making money.
In direct cost of materials, the main thing considered is the price of the raw materials used to make a product. For example, a tailor’s raw materials will be the fabrics used to make the clothing items. While the term “raw materials” may imply that the materials are raw and natural or unprocessed, they don’t need to be. Companies that use a significant amount of plastic would consider it a raw material, simply because it’s a building block of their final product.
A necessary aspect of including raw materials in the direct cost of materials is whether the materials are easily identifiable. For example, dye may be considered a direct raw material for a textile manufacturer, but its component ingredients are not. This is because the ingredients are not easily identifiable and the company may purchase dyes from different suppliers who produce their dyes in different ways. Another aspect for raw materials that must be direct raw materials is that they are used consistently.
Raw materials that are rarely used or those that make up a small part of the final product are often not considered part of the direct material cost. When a company creates the packaging for a product, the ink used for printing and the cardboard for the box will count towards these costs, but the tape or glue used to seal the packaging may not. This is because, while these infrequently used raw materials increase the price of the product, the increase is considered insignificant compared to other more commonly used materials.
Direct material cost is most frequently used to determine the manufacturing price of a product, excluding labor and shipping costs. If the material costs are much higher than the labor and other costs, this figure can also be used as a basis for establishing the selling price of the product. Another use for this cost measurement is to determine if the company is making its money back in sales.
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