- Learn Basic Accounting in Less than 1 Hour!
- Accounting Basics
- What are Accounting Principles
- Accounting Cycle
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- Matching Principle of Accounting
- Conservatism Principle of Accounting
- Cash Accounting
- What are Accounting Policies?
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- Operating Cycle
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- Fiscal Year vs Calendar Year | Top Differences | Examples |
- Financial Reporting
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- What is Trial Balance ? | Examples | Steps | Prepare | Errors
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- Debit Note vs Credit Note | Top 7 Differences (Infographics)
- Balance Sheet
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- Current Assets
- FIFO vs LIFO
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- Common Stock vs Preferred Stock | Top 8 Differences You Must Know
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- Income Statement
- Income Statement | Top Examples | Template | Format | Analysis
- Cost of Goods Sold
- Direct Costs
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- Non Recurring Items
- EBIT vs EBITDA | Top Differences | Examples | Calculation
- Depreciation – Formula | Types | Most Comprehensive Guide
- EBITDA vs Operating Income
- Straight Line Depreciation Method
- Amortization of Intangible Assets
- Unrealized Gains (Losses)
- Non Cash Expense
- Share based compensation
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- Interest vs Dividend | Top 9 Differences (with Infographics)
- EBITDA vs Net Income
- EBIT vs Net Income
- EBIT vs Operating Income
- Accounting Profit vs Economic Profit
- Income Tax vs Payroll Tax
- Tax credits vs Tax deductions
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- Profit vs Revenue
- Revenue vs Earnings
- Revenue vs Income
- Profit vs Income
- Revenue vs Sales
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- Income Statement vs Balance Sheet | Top 5 Differences You Must Know!
- Statement of Comprehensive Income | Items | Colgate Example
- FOB Destination
- Explicit Cost
- Implicit Cost
- Direct cost vs Indirect Cost
- Nopat vs Net Income
- Marginal Costing vs Absorption Costing
- Cash Flow Statement
- Cash flow from Operations | Formula, Calculations & Examples
- Cash Flow from Investing Activities (Formula & Top Examples)
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- Cash Flow Analysis
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- Direct vs Indirect Cash Flow Methods
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- Accounting Careers
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- Accounting vs Engineering
- Finance vs Accounting
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- Bookkeepers vs Accountants
- Accounting vs Financial Management
- Cost Accounting vs Financial Accounting
- Cost Accounting vs Management Accounting
- Financial Accounting vs Management Accounting
- Accounting Books
What is Explicit Cost?
Explicit costs are the costs that a company spends to pay for the wages, raw materials, utilities, advertisements, mortgage, rents etc. We record these costs in the financial statements.
The only condition is that it should be cash outflow of the company. The emphasis is on “cash” here. That’s why, if an accountant includes depreciation and amortization under explicit costs, it wouldn’t be correct.
Here’s how we can calculate explicit costs –
Explicit Costs = Cash outflows that are recorded in company’s financial statements
Explanation of Explicit Cost
As you can understand, there isn’t a set of formula that can express such costs; however, there are few conditions that the “item” should adhere to, to be considered as an explicit cost.
Here are these conditions –
- First, the “item” should be expended in cash. For example, if you are buying advertisement space in the newspaper, you need to pay cash to the newspaper company. Advertisement expenses would be thus considered as explicit expenses. However, depreciation expense doesn’t mean an outlay of cash. That means depreciation expense won’t be considered as an explicit expense.
- Second, the expense should be tangible in nature (and not intangible).
- Third, the expense should be recorded in the financial statements of the companies.
To understand this, we also should understand implicit costs. Implicit costs are costs that are actually not spent but implied. Interest on owner’s capital, rent of owner’s building etc. are implicit costs.
On the other hand, explicit expenses are just the opposite of implicit costs and they actually are called “out of pocket” costs.
Use of Explicit Cost
To understand the usefulness of explicit cost, first, we need to talk about implicit cost.
There’re two kinds of profit every company ascertains – the accounting profit and the economic profit.
Accounting profit takes implicit costs into account along with explicit expenses. However, economic profit doesn’t take implicit costs into account. If we deduct the implicit costs from the accounting profit, we get economic profit.
By using the explicit expense, the company can understand what their actual costs are and what their implied costs are. For example, if top management decides to reduce the cost of the company, they usually look at the explicit expenses and not the implicit costs.
Explicit expenses are real costs that are recorded in the financial statements.
In the example below, we will see how explicit costs are used in a company.
Example of Explicit Cost
Let’s take a practical example so that we can understand how explicit costs work.
The top management of Kingsman Tailors asked the accountant to find out the total explicit costs for last 5 years – from the year 2013 to 2017.
Here’s a snapshot –
- The raw materials consumption for every year is same, i.e. $100,000.
- The advertisement expenses increased every year by $10,000. In 2013, the advertisement expense was $14,000.
- The rent for the factory increased $2000 every year. In 2013, it was $10,000.
- The equipment expense reduced drastically over the years. It was $150,000 back in 2013. It reduced $25,000 every year.
Find out the total explicit costs for the year 2013 to 2017.
Here’s the calculation –
This has been a guide to explicit costs, its explanation and top uses. Here we also calculate explicit costs with the help of an example. You may learn more about Corporate finance from the following article –
- Non Recurring Items in Financial Statements
- Top 20 Accounting Interview Questions
- Analysis of Financial Statements
- Fiscal Year vs Calendar Year