Explicit Costs are payments made by a business that represents an expenditure of its resources. By making a payment, the business part with its resources, like money, equipment, and time, that it had expected to keep. Explicit costs are the main expenses used to determine a company’s profit, as they are observed to directly reduce a business’s profit.

Explicit costs are easily identifiable, tangible costs that appear in the accounting records of a business. Examples of explicit costs include rental payments, salaries and wages, cost of material, professional fees, salaries and wages paid to employees, and income taxes. These costs are also known as out of pocket expenses as they involve actual monetary payments. In contrast, implicit costs occur when a business forgoes utility or value without making any payment. Since implicit costs do not involve an actual outlay of money, they are not considered as explicit costs.

Explicit costs are necessary for the smooth running of a business. They need to be accounted for when preparing financial records and preparing a budget. Companies evaluate their explicit costs for budgeting and measuring the efficiency of the company’s operations. Costs that are not recorded as explicit costs can still affect the bottom line, as they may represent an opportunity cost to the business.

Explicit costs are used to evaluate the profitability of a business. By looking at the explicit costs that the business incurs, companies can estimate the amount of resources spent on producing and selling a product or service. Analyzing explicit costs can help a company identify areas of operational inefficiency and areas where costs can be reduced. Explicit costs can also be important factors when evaluating whether to start a new business, enter a new market, or expand an existing market.

Explicit costs can also help a company understand the tangible investment in its business. For example, the company’s payroll and rent are explicit costs that help identify the actual dollar amount of resources a company has invested in the business. The up-front costs associated with acquiring or renting equipment, or paying for supplies or other items, provides clear indications of the actual amount of money spent by a business on its operations.

Explicit costs are an important consideration for companies when preparing their financial statements and budgets. Although explicit costs do not factor in to potential future costs or benefits, they are important for understanding a business’s true expenses. By comparing the explicit costs reported in the records to the actual out-of-pocket costs, businesses can assess the overall financial health of the company.