A job order costing system is used to accumulate the costs associated with a specific batch of products. This system is most commonly used for small batch sizes, and especially when the products within each batch are different from the products created in other batches. In these situations, management wants to ensure that the costs incurred are reasonable when compared to the prices charged to customers. Without a job order system, it is likely that a business would quote the prices of some batches too low and incur losses that it is not aware of.
An accountant using a job order costing system may track job-specific information on a job cost sheet, or this information may be coded into a job order database, where each job is assigned a unique identifying number.
A job order costing system can be quite complex. It must track information from multiple sources, including the following:
- Supplier invoices, from which only those line items pertaining to a job should be charged to that job.
- Payroll records, from which the hours worked on a specific job are charged to that job, possibly also including payroll taxes, overtime, and shift differentials.
- Material costs, where inventory items are relieved from stock and charged to a job as used.
- An overhead allocation, which is derived from a cost pool and charged to each job based on some form of usage, such as labor hours incurred or machine hours used.
The number of sources of information and the volume of detail that may be associated with a job means that the underlying records could contain any number of errors. To mitigate the risk of errors, job order records must be scrutinized with great care. This is especially important when job costs will then be summarized and billed to customers under cost plus billing arrangements.
In situations where large quantities of the same products are manufactured, a process costing system is used instead, since it provides a more streamlined approach to the related accounting.