Define direct and indirect materials and list the reasons why a large company would have two separate departments to manage the purchasing of each?
Direct materials are any raw materials, parts or sub parts required for the completion of a product. The costs for direct materials can be allocated to:
- A cost centre
- A Product
- A work order
Indirect materials are products that are not used as direct inputs in the production process but are still used or required in the production process. Characteristics of an indirect material include:
- Costs are charged to overhead accounts
- They are not easily allocated to specific work orders or finished product
A company would want to have two separate departments to manage the purchasing of each because it would allow for more efficient accounting. Direct material cost can be measured and quantified in association with a particular product. This allows for proper allocation of resources and calculation of Return on Investment (R.O.I). This is however not possible with indirect material costs, so the accounting process is more streamlined if these costs are calculated and accounted for separately.