Job Order Costing
Job order costing is a form of accounting that attributes individual costs directly to a completed job or service rather than to the manufacturing department.
It is utilised when things are created to order or when it is simple to trace individual expenses to specific activities, presuming that the additional information adds value. Under these circumstances, it is straightforward to attribute particular expenses to specific projects.
Assume, for instance, that a homeowner desires to build a custom deck for her home. Also, imagine that she needs a custom-designed deck to accommodate the topography of her lot and her intended uses for the addition. Her contractor will design, price, and build the deck.
This project’s final cost will be unique. If another homeowner asked the contractor to build a deck, the contractor would go through the same design and price process; however, you would anticipate the design and costs to be different from those of the deck in the previous example, as the decks would be unique.
Advantages of job order costing
- Accurate costing for custom products: Job order costing provides accurate costing for custom products, as it tracks the costs of each individual job.
- Ability to track costs for specific customers: Job order costing can be used to track costs for specific customers, as it tracks the costs of each individual job.
- Flexibility: Job order costing is flexible and can be used to track the costs of a wide variety of products and services.
Disadvantages of job order costing
- Complexity: Job order costing can be complex to implement and use, as it requires businesses to track the costs of each individual job.
- Costly: Job order costing can be costly to implement and maintain, as it requires businesses to maintain detailed records for each individual job.
- Inaccurate costing for complex products: Job order costing can be less accurate for complex products, as it can be difficult to allocate costs accurately to each unit of product.
In contrast, process costing is utilised when the production process is continuous, making it impossible to determine how much of each material and how much time is spent on each unit of the completed product.
In process costing, costs are therefore accounted for by the manufacturing process or production department rather than by product or by the job. This strategy is effective for product manufacturers.
This approach divides the total production costs by the overall quantity of units produced over a specific time period. The resultant unit cost is an average sum. Both manufacturing and service businesses can employ process costing. In a process costing system, a business may employ distinct work-in-process (WIP) accounts for each of the production divisions.
Advantages of process costing
- Accurate costing for standardized products: Process costing provides accurate costing for standardized products, as it averages the costs of each process over a period of time.
- Simple to implement and use: Process costing is relatively simple to implement and use, as it does not require businesses to track the costs of each individual job.
- Cost-effective: Process costing is relatively cost-effective to implement and maintain.
Disadvantages of process costing
- Inaccurate costing for complex products: Process costing can be less accurate for complex products, as it can be difficult to allocate costs accurately to each unit of product.
- Difficulty tracking costs for specific customers: Process costing can make it difficult to track costs for specific customers.
- Difficulty detecting cost fluctuations: Process costing can make it difficult to detect cost fluctuations due to changes in production volume or product mix.
Job Costing or Process Costing?
The increase of automation in the manufacturing process, which is often followed by a decrease in direct labour, is a factor that might complicate the decision between task order costing and process costing. The cost of the increase in equipment (generally indicated as depreciation expense) is allocated to overhead, although the lower requirement for labour normally results in a reduction in direct labour costs.
Due to these challenges, some businesses opt for a hybrid system, employing process costing to account for the mass production of a part and work order costing to account for the assembly of some of those individual pieces into a custom product.
The best costing method for your business will depend on the type of products or services you produce. If you produce unique or custom products, then job order costing is the best option. If you produce large quantities of standardized products, then process costing is the best option.