Companies incure a wide variety of expenses to finance their operations, which often include the payment of salaries to employees who provide services for the company. In business and finance management, labour costs are often divided into direct and indirect labour costs, depending on whether a particular worker contributes directly to the production of goods.
Direct labor cost
Direct labour describes workers who are directly involved in the production of goods or the provision of services. For example, factory workers who assemble, manufacture, paint or physically help produce products execute direct labour. Similarly, workers in a salon who effectively perform haircuts, treatments and other services are involved in direct labour. The cost of paying wages to workers who participate in production is the direct labour cost of a company.
Indirect labor costs
Indirect labour costs refer to wages paid to workers who perform tasks that do not contribute directly to the production of goods or the provision of services, such as support workers who help enable others to produce goods. For example, a factory can employ cleaning workers to keep facilities clean, foremen to supervise production workers and security guards to keep facilities safe. All these workers are involved in indirect labour since they do not, in fact, produce any good. Examples of other workers who perform indirect work include managers, accountants and maintenance personnel.
Gross income and cost of goods sold
Gross income is a measure of the amount of money a company absorbs over a certain period of time. It is equal to the cost of sales of the company minus total sales. The cost of sales includes all costs that are directly related to production, such as the costs of direct labour and the cost of raw materials and parts used to produce goods.
Net income or profit is the total amount of sales that a company makes during a certain period of time less its total expenses. Net income takes into account the cost of goods sold and all other costs, including indirect labour, taxes and insurance. A company with high indirect labour costs could potentially have a high gross income, but a low or even negative net income. If a company has a negative net income, it means that it lost money during the period in question. Reducing indirect labour costs by firing support workers is one-way companies can try to increase their net income.