Understanding Job Costing: A Comprehensive Overview

Accounting: it’s not the sexiest subject in the world, but it can certainly make the difference between surviving and thriving in your business. As a contractor, you know all too well just how much there is to keep track of. From payroll to unexpected equipment downtime, there’s a lot more to maintaining profitability than simply doing great work on the jobsite. Preparedness is key, and that’s why job costing is so important.

Still, in my experience as a CPA for small and medium sized contractors across Texas, I’ve seen a lot of contractors dismiss job costing as something that’s not worth the time and effort to their teams. And while I understand where the sentiment is coming from, they’re doing a major disservice to their business by not prioritizing this crucial accounting process.

But what is job costing, exactly? In this guide, we’ll demystify the stuffy practice of job costing  and outline why it’s so crucial to construction contractors.

KEY TAKEAWAYS

• Job costing is an accounting process that tracks each project’s estimated expenses against its actual costs.
• This can help you maintain a positive cash flow by identifying inefficiencies in labor, material costs, and more.
• Proactive job costing offers contractors a way to predict how future jobs will go and adjust bids to target the most promising projects.

What is job costing?

Put simply, job costing is the process of tracking and measuring your estimated project expenses against actual costs. When done well, it can help you manage your spending, keep each job on budget, and ensure you and your team take home the highest profit possible at the end of the day.

Too often contractors try to keep track of everything by evaluating the income statement. While maintaining your income statement is important in keeping up with your company’s overall financial health, it doesn’t replace the precise level of information and analysis needed that job costing offers. Both of these work hand and hand. Job costing evaluates budgets and actuals at the individual job level, giving you insight into all of the expenses, receipts, revenue, and more from each job you work on. Ultimately, all of this financial data will still be recorded as part of your general ledger, but will give you an extra layer of visibility into the profits and losses associated with each specific job.

When you have access to this level of detail, it becomes much easier to recognize extra expenses that might be eating up your profitability. For example, if something ends up costing more than you budgeted for, you can quickly take note of it and fix the issue. This can be particularly handy when, say, you notice that a particular material is more expensive than it used to be. Having accurate data like this on hand can help you pivot quickly and identify when you need to switch vendors or look at another material option.

Another benefit of job costing is the ability to predict problems before they come up. Let’s say a certain job is about to exceed its intended budget. Knowing this ahead of time can help you reign in costs or get a change order, before your before profit margin goes out the window. As time goes on, you’ll be able to use this data to help you improve your business’s overall operations and make better decisions.

So what kind of expenses are usually associated with job costing?

• Direct costs – or costs associated with a specific job. This includes expenses like labor, materials, performance bonds, subcontractors, etc.
• Indirect costs – or costs not directly associated with a particular contract. Also known as overhead costs, these can include office rent, insurance, equipment, depreciation on property, and more.

Why is job costing necessary?

If your cash flow isn’t under control, it doesn’t matter if you and your team do the best work in the world, you’re going to run into financial problems sooner or later — cash is king in construction. As your construction business grows and expands, job costing can play an incredibly important role in making sure you stay successful.

👉🏻 Check Out How to Overcome Cash Flow Challenges in Construction

Below are just a few more benefits of job costing:

• Faster cash flow: No one likes being burdened with costs before you can actually send out an invoice. Accurate job costing can help you bill your customers for work performed faster, ensuring you’ve got enough cash left over to see projects to their completion.
• Opportunities for retraining: With more info on individual employee performance at your fingertips, you can identify who might be costing you money and offer retraining where needed. On the flip side, if someone is outperforming, it’s nice to be able to recognize them for their hard work and dedication.
• Fewer inefficiencies: Like we mentioned before, sometimes actual costs end up being much higher than what you had initially estimated. Knowing where these discrepancies are can help you find and correct inefficiencies in your workflow. Plus, if you catch something early enough on a job, you’ll have time to get the change orders if needed.
• Better jobs in the future: While job costing can’t tell you the future, it can clue you in on what potential jobs might cost – and whether or not they’ll ultimately be worth your time and money.

How the job costing process works

To properly job cost, you’ll need accurate and detailed cost estimates of a project’s expected expenses. These should be categorized by type, like labor, materials, subcontractors, equipment, etc. The more precise estimates you can start with, the better, because the closer your projected spend comes to your actual costs, the more effectively you’ll be able to control cash flow. As you use job costing across more projects, the process will become second-nature, and you’ll be able to use past projects to help you predict upcoming job costs. This is what we call the bid, build, measure, and improve feedback loop.

Regularly reviewing and measuring your estimates versus actual expenses within a single job is important – consistency here will help you adjust on the fly and make more informed decisions throughout each stage of your project.

An example of tracking and allocating costs

Effective tracking and allocation of a project’s expenses is essential to getting the most out of job costing. The good news is, there are several construction accounting strategies you can use to help with this.

One of the best methods you can use is to develop and use consistent cost code and cost type structures. With these, you’ll be able to improve expense allocation, measure expenses more precisely, and compare jobs with one another.

Below is an example cost code structure using a combination of cost codes and cost types:

• 26 10, Electrical Rough-In – $100,000
  • Labor – $50,000
  • Materials – $40,000
  • Subcontractor – $0
  • Equipment – $5,000
  • Other – $5,000
• 26 20, Electrical Trim-Out – $50,000
  • Labor – $25,000
  • Materials – $20,000
  • Subcontractor – $0
  • Equipment – $2,500
  • Other – $2,500

Here you can see two cost codes for two phases of an electrical project, broken down further by showing the cost types within each phase. In this example, you could budget the job against these break-outs to measure your performance and use the data later for future estimates.

Most generic accounting software built for small to medium sized construction companies doesn’t have a mechanism for tracking actuals against the cost types within a specific project, so many contractors resort to spreadsheets to keep track of all their job costs.

How to use construction job costing data to your advantage

Having more accurate information on hand can go a long way, especially when you take the time to actually understand the data you’re working with. This means regularly reviewing your budgets against the actual costs of your job, at least on a monthly basis. Not only will this allow you to review the overall costs of the job against how it was bid, it will allow you to course correct before you guarantee a net loss on the job.

When a job goes over budget, the first thing you’ll do is look at which cost codes exceeded your bid. These are your problem areas and you need to drill down into them to figure out why they went over budget. Then you can correct the process or use that information to make your next bid more accurate.

This kind of continuous analysis is crucial because it lets you make consistent improvements in how you manage labor, materials, and other everyday expenses. Over time, regularly reviewing this information makes spotting and eliminating anything affecting your profit much easier. What’s more, you’ll be in a better position to understand the challenges or rewards new projects may bring and plan your bids accordingly.

Whether you’re a veteran contractor or just getting started in your business, it’s always a good idea to revisit the basics from time to time to make sure you’re operating at the highest margin possible. And with job costing, you can make sure any past successes (or failures) can be learned from.

Ready to implement a job costing system? Keep reading – Job Costing Made Simple: A Detailed Guide for Contractors