How to Project Direct Costs for Your Small Business

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Accurate Projection of Direct Costs for Your Small Business

In this part of the course, we focus on how to accurately project the direct costs of your small business. We discuss different types of direct costs, provide methods for their calculation, and explain how they impact your bottom line.

How to Project Direct Costs for Your Small Business – Transcript

So far in this small business course, we've shown you how to calculate how much revenue your business will bring in. But that is not the same as the dollar amount of money that you're going to make. You're going to need to account for the cost of doing business. In this video, we're going to start doing that by taking a look at the direct costs that you'll incur each time you sell a product. 

Hey everybody, Will Scheren here from Small Business Startup Guide by TRUiC. This video is part of a larger course dedicated to helping small business owners cut through the noise and get to the essentials of starting and operating their business. If that sounds like it would be really useful to you, be sure to like and subscribe. 

Direct costs are costs that increase every time you make a sale. Common examples of direct costs are raw materials that you need to manufacture your products, wholesale purchases of products that you're selling, and sales commissions. Where regular expenses like rent, marketing, insurance stay steady as your sales fluctuate, making more sales often means incurring more direct costs. 

It's possible that if you have a service business, you may not have any direct costs at all. Labor can also be considered a direct cost. Personnel such as factory workers or commission salespeople can be costs that you want to treat as direct costs. 

Separating direct costs from other expenses helps you understand your gross margin, which is shown on a business's profit and loss statement. Gross margin shows the portion of your revenue that is left over after paying direct costs but not your other expenses. This gives you an understanding of how much potential profit your company has to work with. 

Projecting direct costs requires you to research all of the supplies and the materials that you'll need to produce one unit of whatever it is your company will produce as a product or service. It's important to note that these costs may slide. As you produce more units, direct costs often become less expensive per unit. So be sure to research the cost of labor and materials that you'll need to sell your products while sourcing them at quantities that match the revenue that you projected earlier in the course. 

After obtaining this information, we're ready to open up LivePlan.com to continue creating a financial forecast.

At TRUiC our mission is to offer all our resources and information for free - but we support our work by using affiliate links, meaning we earn a commission on many of the amazing deals we’ve negotiated for you. Full transparency, LivePlan.com is one such affiliate partner. Link in description below. 

After logging in, click on the “Forecast” tab and then click the “Direct Costs” sub-tab. Start by adding all of the non-labor direct costs by clicking the “Add Direct Cost” button. Provide the direct cost with the descriptive name and let LivePlan know whether you would like for the cost to be applied to a specific revenue stream that you created on the “Revenue” sub-tab or if you would like to enter it as a general cost. 

“General cost” can be applied in LivePlan as a constant amount that is applied each month or year, a varying amount that can change monthly, or a percentage of your overall revenue. Finish adding direct cost by letting LivePlan know when you would like to start incurring the direct cost. 

After adding all of the direct costs associated with your products, you want to add the direct labor costs associated with your products. Remember to use the direct labor option only for personnel whose expenses are directly related to revenue. 

For example, a factory worker who's paid to assemble products for sale would be direct labor, so would a freelance designer hired to make contract work from a design agency. The key distinction here is whether you want to treat the employees' expenses as a direct cost. We'll be accounting for other personnel later. 

To add direct labor costs in LivePlan, click on the “Add Direct Labor” button in the “Direct Cost” sub-tab and let LivePlan know whether you'd like to account for the direct labor as an individual or group of employees. Give the direct costs a name, and if you're entering the costs as a group of employees, let LivePlan know how many employees are in the group and if the number is constant or if it will vary each month. Then confirm with LivePlan that these employees are to be accounted for as direct labor. 

Next, Let LivePlan know how you would like to account for their cost, whether they are paid a constant amount, if their cost should be applied as a percentage of your overall revenue, or if it should be applied to a specific revenue stream that you created in the “Revenue” sub-tab. 

Finally, let LivePlan know when the costs should start and if you would like to account for an annual raise for the employee or group of employees which can be entered as a percentage increase, which will have tax and benefit implications for your forecast projections later down the road. 

Repeat this process for each of the direct costs you can think for the products or services that your business will be selling, and after adding each direct cost, you'll see that the costs have been added to the direct costs dashboard. 

In the next video in the course, we’ll be forecasting labor considerations for our business in LivePlan.com. 

This video is part of a step-by-step course that gives small business owners all of the essential information to start and operate their business. We've provided a link for you to get access to all of the free and discounted business tools that we mentioned in the course below this video. 

Be sure to like and subscribe to get more of this content. We'll see you in the next video, and if you have any questions, let us know.