Explicit Cost

Published Mar 5, 2023

Definition of Explicit Cost

Explicit costs refer to the out-of-pocket expenses that a business incurs during its course of operations. These costs are easily quantifiable and can be identified as direct monetary payments made for acquiring goods or services needed to produce a product or render a service. They are the opposite of implicit costs.

Example

To illustrate this, suppose you have just started a bakery. To produce your cakes and pastries, you have to incur various expenses, including the cost of ingredients, rent for the bakery, electricity bills, advertising expenses, wages of the employees, etc. All of these expenses are examples of explicit costs since they involve direct monetary payment.

Moreover, if you decide to expand your business and invest in a new oven, the cost of the oven, as well as any installation fees, will also be considered explicit costs.

Why Explicit Costs Matter

Explicit costs are essential for calculating the profitability of a business. By keeping track of all the explicit costs, business owners can accurately determine the expenses incurred in producing their goods or services. By comparing these expenses to their revenue, they can calculate their net income and determine whether their business is profitable.

In addition to that, understanding explicit costs is necessary for making decisions about pricing and budgeting. Accurate knowledge of explicit costs can help businesses set competitive prices that cover their expenses and generate a profit. Finally, understanding explicit costs also helps businesses streamline their operations and identify areas where they can reduce expenses and save money.