Cost accounting is a useful tool as it serves the managerial decision-making purpose. The development of cost accounting arose from the need for managers to have an in-depth understanding of the costs of products and services. The process identifies, measures, records and reports information on production costs such as the input and fixed costs. The process also evaluates the efficiency of cost usage. Cost accounting is a significant process to many organizations since it helps to manage costs through identification of wastages and unprofitable activities (Zahller, 2017, p.3). Also, it contributes to determining the actual cost of each product or service thereby ascertaining the productive capacity of resources engaged in the production and departmental efficiencies. Process and job order costing are two major cost accounting systems. This paper gives a description of the job order cost system and also highlights its advantages and limitations. Also, the paper will describe how management uses the accounting information for improving the financial management of Specter Inc., a company in the construction industry.
Job order costing system separately determines unit costs for each product while maintaining records for each unique order on a job cost sheet (Francioli & Quagli, 2016, p.11). The job cost sheet is the primary document which tracks the costs associated with each particular job. The cost accounting system applies to companies that undertake batch production and those that make distinct product units (Francioli & Quagli, 2016, p.11). Job order costing classifies product costs as either direct or indirect cost (Hoque, 2005, p.62). The direct product costs are those that can be traced to specific job orders, and they include material purchase and labor costs. Indirect product costs are the factory overheads such as the manufacturing overheads. The average unit cost for each job order is calculated by dividing the aggregate manufacturing costs for the job by the total units manufactured (Hoque, 2005, p.62). The flow of events under job order costing commences when customer orders are received then jobs are scheduled after which ordering of materials follow and finally production (Francioli & Quagli, 2016, p.11). Job order costing goes through several steps. The first step is to identify the chosen cost object which is the particular job order, then the identification of the costs that are traceable to the job. The base for allocating costs is then selected after which the indirect product costs are identified. Machine or direct labor hours can be used as the base for allocating costs (Francioli & Quagli, 2016, p.12). This information is then sufficient to compute the rate per unit, indirect costs and the total cost of the job.
Why job order costing? Specter Company applies this costing system since it enables it to appraise construction jobs before taking them up. The presence of sufficient data permits an evaluation on the profitability of the job. Similarly, the method presents a means of estimating costs and time for future alike jobs (Palanivelu, 2007, p.216). Also, it enables the company to determine how much profit it makes for every single construction job, therefore, informing the management on the profitable and non-profitable jobs. The job cost sheet records all cost for each order which enables management to undertake analysis of all incurred costs, therefore, identifying ways of controlling them contributing to improved profitability. Job order costing assists in the evaluation of the efficiency of the factors of production and enables the ascertainment of wastage and defectiveness which allow management to take corrective action. Lastly, this system of cost accounting is useful in the efficient control of costs since the method shows costs at each and every stage hence addressing any deviations on time.
Despite the above advantages of job order costing system, it has several limitations that limit its use. Firstly, the requirement to track materials and labor through records for each job order and entering this data into a system makes job order costing unfavorable. Consequently, there are high chances of errors during data entry. Job order costing creates a shortage of information on departments or activities if there is no system to record such information since its primary focus is on products. This cost accounting system requires maintenance of records starting from the list of materials to the final product and thus making it very expensive (Palanivelu, 2007, p.216). Job order costing allocates overheads using estimates thus may lead to errors in determining total price of a product consequently occasioning losses on a product due to the quotation of lower prices. Another limitation of job order costing is that it is not applicable in all sectors such as the service industry like retailing and software industry whose development costs are high with minimal direct costs. Significant changes in the economy such as recession and inflation may render comparison of different jobs meaningless limiting the use of this method. Lack of standardization under job order costing necessitates careful monitoring and supervision of staff. Lastly while using this system, the cost of a job order is only determined after completion of work which makes it impossible to make any necessary adjustments to the direct costs or process.
Job cost accounting system generates information that provides management of the company with essential information for the budgeting process and preparation of financial reports. The cost information from the system enables the company's management to reduce and control costs hence improving the profits. Also, the information facilitates measurement of performance thus management can evaluate the productivity of the labor force. Consequently, the company saves on costs by doing away with non-productive or excess capacity. Job order costing gives the unit price which enables the managers to ascertain if the prevailing market price will generate a reasonable profit for the company and in case not take a corrective action (Narsis, 2009).
In conclusion, the job order cost system presents Spector Company with an efficient system that monitors its costs against revenues. The system is complex, but it provides sufficient information regarding costs that are production related however it is prone to errors due to clerical work of data entry. The system enables the company to maximize profits while simultaneously working on improving the weak areas to avoid wastages and losses. Job order costing system has its advantages and drawbacks which must be analyzed to determine if the benefits outweigh the cost before implementing the system.
Francioli, F., & Quagli, A. (2016). Management accounting change in a manufacturing company. Performance Measurement and Management Control: Contemporary Issues, 31(2), 11.
Hoque, Z. (2005). Handbook of Cost and Management Accounting. London: Spiramus Press.
Narsis, I. (2009). Theory in Cost Accounting. New Delhi: Atlantic Publishers and Distributors.
Palanivelu, V. R. (2007). Accounting for Management. New Delhi: Laxmi Publishers and Publishers.
Zahller, K. A. (2017). Truffle in Paradise: Job costing for a small business. Journal of Accounting Education, 2(3), 3.
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