Job costing versus process costing
Construction and manufacturing projects are traditionally priced in one of two ways.
- Process costing: You identify the steps required to complete a job and assign an average cost to each one, based on past experience. Then you add the averages to produce an overall budget.
- Job costing: You look at the job in detail and break down the specific labor and materials requirements. After calculating these costs, you add a charge to cover your overheads.
Process costing works best in industries with uniform costs like some forms of manufacturing. Job costing is more rigorous, involves fewer assumptions and – when done right – gives you more certainty.
It’s particularly useful in construction, where there are so many variables from one job to the next. But it can be time-consuming and labor-intensive.
Breaking down job costing
Job costing only gives you a precise estimate if you’re precise with your inputs. You need to think the project through, double-check the drawings, and visit the worksite to figure out how the job will unfold. Then you separate the project into major cost centers:
Start by working out how much it costs per day (or hour) to have your direct employees on the job. Multiply that rate by the time you expect the job to take.
Identify where you’ll need subcontractors, then confirm their availability – you don’t want to be waiting on them. Have the contractors estimate the job but be aware they may not be as precise as you. It pays to do your own calculations based on their hourly rate. You might want to build in some contingency to cover the tricky tasks that always seem to come up.
Calculate a cost for direct materials like wood, steel and electrical wiring, then add indirect materials like fasteners and caulking. Make sure equipment hire is covered here too. You might also charge a margin on these materials to cover things like delivery and wastage.
You’ll need to charge an overhead to account for depreciation of equipment, and for other business expenses like office rental and administration. These costs don’t directly relate to the job so this step is an approximation rather than a calculation. Many builders work out the overhead by adding a percentage to each job – but each business is different. It’s best to have an accountant help you find out how you should treat overheads.
Job costing software
Doing job-costing calculations used to require hours on spreadsheets and there was a lot of room for error. Job costing software streamlines the process and automates the calculations to make everything easier and faster.
It allows you to:
- Price jobs accurately: By working out the specific costs for each job, you’ll have far more confidence in the final estimate or quote.
- Avoid customer conflict: An accurate upfront estimate or quote reduces the risk of a nasty surprise when your customer gets the final bill. And the happier the customer, the greater your chance of getting repeat work and referrals.
- Submit a timely estimate or quote: Job costing used to take a lot longer than process costing. With job costing software, however, you just punch in the numbers – let the software do the math – and your estimate is ready.
- Calculate realistic profit margins: Job costing software makes it easy to add your markup and calculate your margin – so you stay competitive but profitable.
- Track progress and costs in real time: As you work through the job, you can enter actual costs against estimated costs to see how the budget is looking. This will allow you to keep ahead of escalating costs and communicate with the client.
Get the security of accurate job costing
Avoiding cost overruns in construction isn’t easy. Job costing software gives you the best chance at estimating the right price upfront. It’ll also help you track budget as the project unfolds, so you can address issues quickly.
Packages like WorkflowMax will help you avoid risky assumptions and stay in control of your business’s profitability. If you’re a Xero customer, you can:
Disclaimer: Xero does not provide accounting, tax, business or legal advice. This guide has been provided for information purposes only. You should consult your own professional advisors for advice directly relating to your business or before taking action in relation to any of the provided content.