Every manufacturing process involves the use of several resources specifically materials and labor. The consumption of resources must be measured, recorded and allocated to determine manufactured product costs. This determination is the first step to several important decisions such as product pricing, profitability analysis, cost control etc. One of these major consumable resources is materials which include all parts, components or any items which serve as raw materials or input materials in the manufacturing process.
This article looks at meaning of and differences between two types of materials – direct materials and indirect materials.
Definitions and meanings
Direct materials are those items consumed in the production process, that can be easily identified and directly traced to the production of a specific product. They are generally the core materials required for manufacturing a product and form part of the final product.
In a shoe manufacturing company, each type of shoe manufactured requires a specific quantity of say leather or suede, specific number of premanufactured soles. These materials thus have a direct one-to-one relation with the product manufactured and thus qualify as direct materials.
Direct materials form part of the bill of materials prepared by a manufacturing entity which lists down comprehensively all materials that go towards manufacturing a specific product. This forms the basis of maintaining stock of direct materials and indenting for their time-to-time purchase.
The cost of direct materials is directly allocated to the product manufactured without the need for any separate allocation basis or formula.
Albert Inc. manufactures 3 different types of shoes – Leather shoes, Leather boots and rubber flats. Each pair of these require the following materials:
- Leather shoe: 3 sq. ft. of leather, 2 regular shoe laces and 2 soles
- Leather boots: 7 sq. ft. of leather, 2 premium shoe laces and 2 soles
- Rubber flats: 6 sq. ft. of rubber and 2 soles
The cost of materials is:
- Leather: $3 per sq. ft.
- Rubber: $1.50 per sq. ft.
- Shoe laces premium: $1 each
- Shoe laces regular quality: $0.60 each
- Premanufactured soles: $2 each
Therefore, the direct material cost of each of the shoes manufactured by Albert Inc. is:
- Leather shoe: (3 × 3) +( 2 × 0.60) + (2 × 2) = $14.20
- Leather boots: (7 × 3) + (2 × 1) + (2 × 2) = $27
- Rubber flats: (6 × 1.50) + (2 × 2) = $13
Indirect materials are those materials that cannot be directly traced or corelated to the production of a specific product. Such materials are generally used in some aspect of the production process but do not necessarily become an identifiable part of the final manufactured product.
Examples of indirect materials include machine oil, safety gear for factory workers, cleaning supplies, and stationery items etc.
Indirect materials costs can be recorded in either of the following ways:
- They can be measured, accumulated and allocated across each type of product manufactured on the basis of some reasonable allocation base such as machine hours, labor man-hours etc. For example, the cost of machine oil and machine spares can be allocated to each product on the basis of machine hours required to produce each product
- They can be directly expensed out in case the amounts are not material in relation to the overall manufacturing cost. For example, cost of factory cleaning supplies being minimal in amount can be directly expensed out
Difference between direct and indirect materials cost
The eight key points of difference between direct and indirect materials cost have been detailed below:
- Direct materials are those materials that are core to the production process and can be directly traced to the specific product manufactured.
- Indirect materials are those materials that are ancillary to the production process and cannot be directly traced or attributed to the production of a specific product
2. Traceability to specific product
- Direct materials have a one-to-one relation with product being manufactured i.e., there will be a specific quantity of direct material that can be identified as required for every product/process.
- Indirect materials cannot be directly identified with the production of a specific product i.e., they are used in the overall production process.
3. Form part of final product
- Direct materials are directly incorporated in and form part of the final product manufactured.
- Indirect materials are consumed in various processes but do not become a traceable part of the final product.
- The cost of direct materials is directly attributed to the specific product on a per unit basis.
- The cost of indirect materials can either be accumulated as overheads and allocated to each product on some allocation base or can be expensed out if cost is insignificant and below set materiality threshold.
5. Considered in bill of materials
- Direct materials form part of the bill of materials. On this basis they are indented in line with the production schedule.
- Indirect materials are generally not included in bill of materials as they cannot be directly traced to a specific product. They are thus typically purchased in bulk quantities rather than being indented on the basis of specific production schedule.
6. Proportion of product cost
- Direct materials typically make up a significant amount of the total product cost.
- The proportion of indirect materials cost to product cost is comparatively low as they are typically used in smaller and unidentifiable quantities.
7. Grouping and position in cost sheet
- Direct materials form part of prime cost and are recorded first in the cost sheet.
- Indirect materials form part of overhead costs and are subsequently allocated in the cost sheet after recording prime costs.
- Examples of direct materials include leather for a shoe company, wood for a furniture company, fabric for clothes making company etc.
- Examples of indirect materials include maintenance and housekeeping supplies, machine oils, safety equipment, stationery expenses etc.
Conclusion – direct vs indirect materials cost:
Generally, both direct and indirect materials form part of the final product cost, either through direct attribution or through overhead allocation. It is essential that both of these costs are accurately measured, recorded and allocated because they will eventually impact the final product cost. Additionally, inventory management of both, especially of direct materials, is essential as any shortage can impact overall production supply or production efficiency.