Job Order Costing and Process Costing

Job Order Costing and Process Costing

 

Job order costing and process costing are two different methods of cost calculation. Job order costing is mainly used for customized services or products, say you want a portrait done or you want some plumbing work done at your home, you are going to get a job order costing. But when you go shopping and buy your mobile phone or TV – those prices are based on process pricing. We are going to discuss the benefits, similarities, and differences between these two methods. 

Keywords – job order costing, process costing

 

 

 

 

 

 

 

 

 

 

Job costing is used when a direct order for a product or service is received from the customer. And the goods or service is produced per customer instructions the job costing method would be used to determine the cost.

Any custom order from the customer, say companies building custom yachts or custom private jets, even custom furniture or car servicing companies can use job costing method. Here is one example –  I take my car to Jiffy Lube for the oil change and I request synthetic oil. The quantity of oil costs $15 and the labor to change the oil costs $20 – they have other overhead expenses too. Such as the rent of the garage, utilities, the cost for the person handling the billing.

Let us make some assumptions to make this easier to calculate –Say the person who changes the oil – takes 30 mins to handle one request

So in a whole day, he would be able to handle 14 jobs ( 1 hr lunch, so effectively he works 7 hrs)

Rent of the garage is $80 per day, so $10 / hr and Electricity costs -$5 / HR. And the accountant’s labor cost say $2.5

The job cost sheet will look like for this 30 mins oil change job –

Direct Labor Material Cost Overhead Grand Total
Time Rate Total Qty Cost Total Total  
30 mins $20 $10          
      1 $15 $15    
            $10  
              $35

Benefits of job costing can be used when it is easier to quantify direct material cost, direct labor cost, and overhead cost. Although it is important to remember it is easier to calculate direct material and direct labor costs for most of the jobs but the overhead cost cannot be calculated accurately for a specific job. The labor cost and material cost is usually the bigger component than the overhead cost component. The job costing sheet is easier to produce and maintain.

According to David Ingram, job costing has following benefits –

Assigning costs – since business owners can easily calculate how much profit business earns from each job, it is easy to determine to do more of the profitable jobs

Reporting – for job order since all the costs for labor material and overhead are recorded it is easier to track the performance of the individual and team.

 Process Costing is used for products with long production cycle. Products such as Pepsi or Coke or steel from iron ore are good examples of products for which companies could use process costing method.

For example, to make coke the plant has to get the raw materials, bring them to bottling plant, and then bottle them up in the correct ratio. So, before the final product comes out there are long processes.

Here is another example – Vedanta has many mines globally, let us talk about one specific one in India. It operates one Zinc mine. First, it had to bid for the mining rights. So first they paid money to obtain rights to extract the metal ore. They have labor cost and another overhead cost such as their machines and transport vehicles to operate the mine. And then they transport the ore to plant and extract/process the final material from the ore.

Each step of the process of obtaining final metal from the ore consists small jobs and each job has material cost, labor cost and overhead cost associated with them.

It is possible to create job cost sheet for each step of the process and then add them up to get the process cost.

To produce a process cost for Vedanta, we will need to do a job cost for extracting ore out of mine, the second job costing would be for transporting the ore to plant, then processing the ore and producing metal could be another job cost. When we add all these job costs, we will get final process cost.

According to Osmond Vitez there are two benefits of using process costing

Easy to use – In process costing the business owners can allocate the overhead costs equally between the different processes along with the labor and material cost and obtain the total cost to produce the homogeneous product. Then it becomes easy to calculate the cost of one unit.

Flexible – process costing is flexible because it is easier to calculate which step (in a process) costs how much. So business owner can add or subtract a process out and easily find out a way to increase profitability.

 

The job costing and process costing are different in a sense that process costing could be sliced into multiple jobs costing since each long process to produce the homogeneous products has steps which could use job costing.

 

 

The difference between these job costing and process cost –

 

 

Job Costing Process Costing
For job costing it is possible for business owners to get break up of labor, material and overhead for each job For process costing the manager or business owner can get cost for a part of process or a group or department, and this is mainly used in continuous manufacturing settings
For job ordering costing it could be required to keep track of exact material, labor and overhead But for process costing it is not required and that makes it easy to keep records
With job costing it is easier for business owner or managers to track individuals performance With process order costing managers or business owners can track department or workgroups performance

 

 

 

 

 

 

 

 

 

 

References

Ingram, D. Advantages & Disadvantages of Job Order Costing & Process Costing.

Retrieved from http://smallbusiness.chron.com/advantages-disadvantages-job-order-costing-process-costing-3082.html

Vitez, O. What Are the Advantages & Disadvantages of Process Costing?

. Retrieved from http://smallbusiness.chron.com/advantages-disadvantages-process-costing-4098.html

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