Cost Driver

Understanding cost drivers helps managers explain why costs rise and fall and assign costs more accurately to products and customers.

Different costs have different drivers. Raw material costs are driven by production volume. Purchasing department costs may be driven by the number of purchase orders. Customer service costs may be driven by the number of calls. Delivery costs may be driven by the number of deliveries or the distance travelled.

For example, a warehouse finds that its costs depend more on the number of separate orders picked than on the total weight shipped. Customers who place many small orders therefore cost more to serve than those placing a few large ones, even if they buy the same total amount.

Cost drivers are central to activity-based costing, which uses them to assign overheads. They also help managers reduce costs, by changing the driver itself, for example by encouraging customers to place fewer, larger orders, rather than simply cutting spending.