Cost accounting helps managers determine the costs of running a business by recording costs of materials, processes, and projects. Analyzing trends on costs of production and overhead along with revenue helps management make informed decisions on how to improve, scale, or grow effectively. Cost accounting utilizes either job costing, process costing, or a hybrid of both. In this article, we will discuss the differences between job costing and process costing as well as advantages or disadvantages of each.
What is Process Costing?
Companies adopt process costing when they need to assign product costs to units of output. Mass production of identical units such as beverages, pharmaceuticals, cereal, utilize process costing to determine the cost of each unit. Companies that produce identical units such as lumber, tile, brick manufacturers, cereal makers, or pharmaceutical companies utilize process costing. Generally, companies utilize process costing when:
- Mass production of identical products
- Output of products is of low value
- The inability to track costs to an individual product
Because of those factors, managers track costs by each department. Each department has its own budgets to track the costs as a product moves through procurement, manufacturing, quality assurance, and distribution.
Advantages of Process Costing
Process costing is very easy to track versus the detailed record keeping in job costing. Each department tracks their material and labor costs as the product moves through their department. Accountants divide costs by the number of units to total an average production cost.
With standardization of products, managers track performance, productivity and costs over time. Process costing allows for greater flexibility when making changes in the production process. Managers can target specific departments’ processes or materials in order to lower production costs.
Disadvantages of process costing
In process costing, it is easy to create cost errors. Tracking all costs as a production cost, including non-production costs such as overhead, inflates the production price. This creates a higher priced product to consumers. Leaving out non-production costs, under-costs the production price. This will have a lower price, but can potentially lower a company’s profits.
What is Job Costing?
While companies utilize process costing to track costs of mass produced items, other companies utilize job costing to track costs of producing unique products. In Job Costing, product costs are tied to specific jobs. Examples of companies that utilize job costing include:
- Service oriented businesses such as law firms or accounting companies that need to track hours worked against client activity
- Hospitals or medical services that tracking materials and labor to a patient activity
- Construction, film studios, or companies that do custom fabrication in order to track labor and material costs from project to project
Job costs are broken down into specific cost codes and tracked specifically to certain projects. Managers can track actual costs against the budget to determine how costs and work is progressing on the project.
Advantages of Job Costing
In job costing, companies can track profit on specific jobs to determine which types of projects are most profitable. After several projects, a construction company may determine that their profit margins are higher in hospitality than healthcare. They may choose to specialize in hospitality projects to maintain higher profit margins throughout all projects.
Job costing reporting is very detailed. Managers can determine which tasks are taking longer than estimated or perhaps which crews are productive. By tracking these items in real time, companies utilizing job costing can make adjustments as needed to keep projects profitable.
Disadvantages of Job Costing
In order to get the detailed reporting provided by job costing, employees must keep accurate records. Materials and all labor activity including lunches and breaks must be accurately documented and tracked. If not done correctly in project management or accounting software, this can be time consuming and a source of frustration among employees.
We have outlined the differences, advantages, and disadvantages between process costing and job costing. Your company may use to use either process costing, job costing, or maybe a hybrid of both. The important factor is to utilize a form of cost accounting that is appropriate for your business model.