Job costing (aka job order costing or job cost accounting) is a method of tracking all the expenses associated with a specific project. It’s like a magnifying glass for your finances, zooming in on the details of each job to monitor job profitability and identify money-saving opportunities.
The process sorts all project costs into three main categories: labor (wages, salaries, benefits), materials (direct supplies used), and overhead (indirect costs like rent and utilities). Tracking time and resources lets you calculate a job’s total cost and compare it to the revenue generated to find the project’s overall profitability.
If you’re new to the concept of job costing, keep reading for a closer look at how it works. And if you’re familiar with what job costing is but aren’t sure where to start, jump to the last section to learn how Fishbowl can help.
Job costing versus process costing
Job costing and process costing are both accounting methods used to track expenses, but they’re best suited for different types of production.
Job costing focuses on individual projects or jobs. It’s ideal for businesses that create unique products or offer custom services, like construction firms, furniture makers, or marketing agencies. Plus, it lets you see how much it costs to complete a specific job, helping set appropriate prices to ensure profitability.
Process costing, on the other hand, is used by businesses that produce large volumes of identical or similar products, like food processing plants, oil refineries, or paper manufacturers. This accounting method tracks the costs of each step in the production process, then averages them to determine the cost per unit. When managing thousands or millions of identical products, process costing is a much more efficient way to track costs than job costing.
5 benefits of job costing
Job costing is a great way to get a comprehensive view of your financial performance. Here’s what your business gains from that knowledge.
1. Profit maximization
By tracking every cost associated with a project, you gain a crystal-clear understanding of profit margins. With this level of detail, it’s easier to identify areas to cut costs or increase prices to optimize profitability.
2. Effective cost management
It’s much easier to control costs when you know where money is going. Job costing allows you to set realistic budgets, track expenses in real time, and quickly identify any cost overruns. Proactively managing your finances this way avoids unpleasant surprises down the line.
3. Better decision-making
With detailed insights into the financial performance of individual projects, you can make informed decisions about which projects to pursue, how to allocate resources, and where to focus future efforts. This data-driven approach avoids costly mistakes and capitalizes on lucrative opportunities.
4. Increased efficiency
Job costing pinpoints inefficiencies in your processes. Say a project consistently goes over budget on labor costs because of production slowdowns — you’ll know you need a solution for better time management or more efficient workflows. Addressing these issues streamlines operations and reduces unnecessary expenses.
5. Improved pricing accuracy
Understanding the true cost of each job empowers you to set accurate and competitive prices for products or services. You’ll avoid leaving money on the table while reducing the risk of losing customers who you inadvertently overcharged.
Who uses job costing?
We touched on the types of businesses that might benefit from job costing, but let’s explore this accounting method’s versatility. Here are some organizations and industries that frequently use job costing.
Construction companies
From residential developers to commercial contractors, many builders heavily rely on job order costing for construction jobs. This includes tracking labor, materials, and equipment expenses, ensuring precise bidding and profitability analysis. No two projects are the same, and job costing guarantees every expense is tracked.
Marketing and advertising agencies
Job costing allows agencies to monitor expenses for client campaigns, including creative development, media placement, and production costs. These insights help agencies stay within budget and demonstrate value to clients.
Consulting firms
Consulting firms often work on multiple projects simultaneously, each with unique requirements and deliverables. Job costing allows firms to track time spent by consultants, travel expenses, and other project-related costs.
Engineering offices
Whether an engineering firm is designing bridges or developing software, they can use job costing to track the hours engineers spend on each project, as well as the costs of materials and testing. This helps them manage complex projects and maintain profitability.
Healthcare organizations
Some hospitals and clinics use job costing to track the costs of providing care to individual patients, including surgery, medication, and therapy, making evaluating the effectiveness of different treatments and identifying cost-saving opportunities easier.
Retail companies
Retailers that offer custom-made products or services, like furniture stores or jewelry shops, can use job costing to track the cost of materials, labor, and overhead for each order.
Manufacturers
As we mentioned, process costing is a better choice for manufacturers that practice mass production. But job costing is a good way to track the cost of materials, labor, and machine time for each production run for manufacturers that produce custom-made or small-batch products.
Transportation and logistics providers
Job costing lets moving companies, freight forwarders, and other companies offering specialized transportation or logistics services track the costs of each journey.
How to calculate job costing
To calculate job costing, you need to consider all the expenses associated with a specific project and group them into three main categories:
- Direct material costs: Also known as cost of goods; the cost of all materials directly used in producing the product or service.
- Direct labor costs: The wages, salaries, and benefits paid to employees directly working on the project.
- Overhead costs: Indirect costs, like rent and utilities, allocated to the project using a predetermined rate.
In addition to these three main categories, it’s important to track spending for works in process (WIP), which refers to the costs associated with projects that aren’t yet complete.
Total job cost formula
The total job cost is calculated using the following formula:
Total job cost = Direct material costs + Direct labor costs + (Predetermined overhead rate x Actual allocation base)
Not sure what all of those terms mean? Here’s a quick breakdown.
Predetermined overhead rate (POHR)
- What it is: An estimated rate based on estimated overhead costs and an estimated allocation base (like direct labor hours or machine hours). This figure will be represented in dollars.
- How to calculate: POHR = Estimated total overhead costs / Estimated total allocation base
- Example: If a company estimates $100,000 in overhead costs and 10,000 direct labor hours for the year, the POHR would be $10 per direct labor hour ($100,000 / 10,000 hours).
Actual allocation base (AAB)
- What it is: The actual amount of the allocation base used by a specific job.
- Example: If a job required 500 direct labor hours, that would be the actual allocation base for that job.
Applied overhead
- What it is: The portion of the total overhead costs allocated to a specific job, calculated using the POHR and the AAB.
- How to calculate: Applied overhead = POHR x AAB
- Example: Using the POHR of $10 per direct labor hour and an AAB of 500 hours, the applied overhead for the job would be $5,000 ($10/hour x 500 hours).
Use this simplified job cost formula when you know your applied overhead:
Total job cost = Direct material costs + Direct labor costs + Applied overhead
An example of the job costing system in action
Let’s show the job costing formula in action for a furniture manufacturer building a custom dining table.
Costs
Direct materials
- Wood: $500
- Stain: $50
- Hardware: $30
- Total direct material costs: $580
Direct labor
- Carpenter’s wages (40 hours x $25/hour): $1,000
- Total direct labor costs: $1,000
Overhead costs
- POHR: $15/direct labor hour
- AAB (direct labor hours): 40 hours
- Applied overhead: $15/hour x 40 hours = $600
To figure out the total job cost for the custom dining table, input these values into the job costing formula:
Total job cost = $580 + $1,000 + ($15/hour x 40 hours)
Total job cost = $2,180
The total cost of building the custom dining table is $2,180. This includes the cost of materials used ($580), the labor costs for the carpenter ($1,000), and the applied overhead costs ($600).
By comparing this total cost to the price charged to the client, the furniture manufacturer can determine what they need to charge the client to break even or earn a profit. From there, they determine how profitable this job was.
Manage job costing with Fishbowl
You probably know Fishbowl as an all-in-one inventory management solution designed to control stock, warehouse operations, and manufacturing workflows. But Fishbowl also helps with job costing, thanks to a powerful plugin called Fishbowl Time.
Fishbowl Time empowers small and mid-sized businesses to effectively manage employee time and ensure everyone is engaged in the right projects. By tracking time spent on each task, you’ll have no problem calculating direct labor costs for individual jobs. And Fishbowl’s QuickBooks integration ensures that job costing data is accurately reflected in your financial records.
Ready to tap into a suite of powerful tools to help your business become more profitable? Schedule a demo of Fishbowl, the intuitive, scalable, and user-friendly inventory management platform.