JOB & CONTRACT COSTING

Job Costing refers to the method of ascertaining costs where product is manufactured or  service is provided against specific order, as distinct from continuous production for stock and sale.

Under this method, costs are collected and recorded for each job. or a batch of similar jobs, under a separate production order number.

Each job has its own characteristics and needs special treatment.

 A job may be a product, unit, batch, sales order, project, contract, service, specific program or any other cost objective that is distinguishable clearly and unique in terms of materials and other services used.

 The cost of completed job will be the materials used for the job, the direct labour employed for the same and the production overheads and other overheads if any charged to the job.

Thus, the special features relating to production and cost ascertainment in industries where job costing can be applied are :

 i) Each job is unique, specific and dissimilar.

ii) Each job is undertaken to customer's special requirements and not for stock.

 iii) Each job is comparatively of a short duration.

iv) Each job is capable of identification at all stages of production.

v) Each job order is separately identified by a job order number. vi) There is no uniformity in the flow of production from department to department.

vii) Direct costs of labour, materials and expenses are booked directly against the job order.

viii) Overheads are charged on the basis of predetermined rates

Applicability

Keeping in view the above features, job costing may be usefully employed in the following   organisations :

 Printing Press : Each item to be printed, whether it is a handout, a book or an advertising flyer, is a separate job,

 Garage : Each car to be repaired or tuned up becomes a separate job.

 Furniture Manufacturer : Each order for furniture is treated as an individual job. For example, several units of one style of chairs will be produced in one batch.

 Service organisation' stations : A firm of Chartered Accountants is an example of a service Organisation. Each work-order assigned by the client is treated as a separate job and fees charged accordingly.

 Construction Companies : Each building is a separate job because each building has different covered area and a different design.

These companies include printing shops, accounting firms, equipment companies, and construction companies. Companies that are likely to use a process costing system have homogeneous products or services. Such companies include automobile manufactures, food processors, and textile companies

Procedure

Job Costing involves considerable amount of recording and analysis. It requires reliable production control records which must show material issued to various jobs, labour time spent on different jobs and the appropriate allocation of overheads as work on each job passes through production cost centres. A concern using job costing usually adopts the following procedure for costing purposes.

1) Estimating the job costs : Estimating is an essential requirement of a job costing procedure. It is useful for submission of tenders and price quotations. The Costing Department has to prepare an estimate of the total cost for each job before it is undertaken. This forms the basis for quoting the price to the customer.

2) Allocating job order number : As soon as an order is received and accepted, it must be assigned a separate job order number. This facilitates reference for production as well as for costing purposes

3) Preparing production order : If the job is accepted, a production order is made out by the Planning Department in the form . A production order refers to the work order or job order that constitutes a written authority to factory foremen to proceed with a job. It stipulates all essential details of the order to be executed. In fact, it serves as the authority for accounting costs assigned to a job.

4) Collecting and recording costs : The costs are collected and recorded for each job separately. A job cost sheet  is used for recording and summarising the cost of materials, labour and overheads applicable to each job. A job cost sheet is often referred lo as the basic document of job costing. It is used to credit the Work-in-progress Control Account when a job is completed and also to ascertain the profit or loss on each job.

The sources for collection of job costs are:

a) Materials : Material Requisition Slip, Materials Abstract or Materials Issue Analysis Sheet.

b) Wages : Job Card or Labour Abstract (Wages Analysis Sheet)

c) Direct Expenses : Vouchers pertaining to direct expenses

d) Overheads : Charged on the basis of pre-determined rates based on the method of absorption used.

5) Comparing actual costs with estimated cost;  On completion of a job, a completion report is sent by the Production Shop to the Costing Department. The Costing Department, then, prepares the job cost sheet and ascertains the actual cost and profit on the job. Thereafter, a comparison is made with estimates to find out any variance and suggest future course of action.

This method is also used when contracts are accepted on a 'cost plus' basis i,e., actual costs plus an agreed percentage of profit.

The main drawback of job costing relates to the expenditure involved in the paper work in estimating costs, and designing and scheduling of production. It should, therefore, be used when absolultely necessary.

Advantages of Job costing

• Helps in detecting profitability
• The cost of materials, labour and overhead for every job or product in a department
• The adoption of predetermined overhead rates in job costing necessitates the application of a system of budgetary control of overheads with all the advantages.
• Spoilage and defective work can be easily identified with specific jobs or products so that responsibility may be fixed on departments or individuals.
•  Job costing is particularly suitable for cost plus and such other contracts where selling price is determined directly on the basis of costs.

                                                             JOB COSTING-

                                            Job Cost Sheet for the year ended –

Particular	Details	Amount
Direct Material                                                   Direct Wages                                                     Direct Expenses    PRIME COST                                                                 Factory Overheads                                                      WORKS COST                                                                  Administration Overheads                                     COST OF PRODUCTION                                               Selling and Distribution Overheads                             COST OF SALES Profit                                                                                           SALES VALUE  ?

Contract Costing-

Contract costing is a special form of job costing used for ascertaining cost and profit on contracts undertaken for big jobs like constructing a building, a road, a bridge or a ship.

Such jobs mainly comprise activities outside the contractor's premises and involve huge – amount. a special method of accounting known as 'contract costing' or 'terminal costing' has been developed for ascertaining cost and profit on such jobs.

 In contract costing each contract is treated as a cost unit and costs are ascertained separately for each contract. It is suitable for business concerned with building or engineering projects or structural or construction contracts

Features regarding Production

1.  to customer's specific requirements.
2.  Long duration and involves large amount.
3.  Site based Work
4.   Constructional nature work
5. Plant and equipment may be puchased or hired for the duration of the contract.
6. Completion date is fixed In advance, and penalties follow delays.
7. Work are sometimes assigned to sub-contractors.

Features regarding Cost

1. The cost unit - contract.
2. A Contract account is  prepared to ascertain the profit or loss on each contract.
3.  Cost can be classified as direct
4. Indirect costs are normally restricted to Head Office expenses and storage costs.
5. The contract price is  fixed in advance and payment is received at various stages of completion based on architect's certificate.
6. A separate contract ledger is maintained for recording costs when the number of contracts is large.

Job Costing vs Contract costing          

Contract jobs, while they resemble jobs, have a few distinctive features:

 - Under job costing, the cost is first allocated to cost centres and then to individual jobs. In contract costing, most of the expenses are of direct nature, overhead forms only a small percentage of total expenditure and it represents expenses like share of head office expenses, share of central storage cost etc.

 -Under job costing pricing is influenced by individual conditions and general policy of the organisation. Under contract costing, pricing is influenced by specific clauses of the contract.

 - Unlike job costing, each contract is a cost unit in contract costing.

 -Under contract costing, the work is usually carried out at a site other than contractee’s own premises. Job costing is often applied where jobs are carried out at the contractee’s own premises.

The procedure

There are two parties to a contract :

1. The contractor
2. Contractee
3. Retention Money – Warranty period

Treatment of Important items-

Material-

Cost of material is to be debited in the Contract account.

If any materials are transferred from one contract to another, their costs would be adjusted on the basis of Material Transfer Note, signed both by the transferor and transferee foreman.

In case certain materials charged to contract are returned to stores, the same will be credited to the contract account.

Materials stolen or destroyed by fire will be transferred to profit and loss account.

Materials in hand at the end of the year will appear on the credit side of the contract account.

                                                         

-Labour:

 On the basis of the analysis of the job cards, labour analysis sheets are prepared for ascertaining the actual cost of labour on different operations.

-Direct expenses:

The direct expenses will be charged in the contract account. These include cost of special tools, cost of design, electric charge, insurance etc.

-Plant used in a contract

There are two treatments-

Note down as an opening & closing balance

Record the depreciation only

-Overhead expenses:

Combined overhead expenses are allocated on the basis  of cost of material or wages paid or the prime cost.

-Extras:

  If it is not very substantial, expenses incurred up on extra work should appear on the debit side of the contract account as ‘cost of extra work’, and the extra amount which the contractee has agreed to pay should be added to the contract price.

• Sub-contracts:

Work of a specialised character e.g. the installation of lifts, special flooring etc. is entrusted to other contractors by the main contractor.

 -Escalation clause:

Escalation clause is usually provided in the contract as a safeguard against any likely changes in the price or utilisation of material and/labour. This clause provides that in case prices of items of raw materials, labour etc. specified in the contract change during the execution of the contract, beyond a specified limit over the prices prevailing at the time of signing the agreement, the contract price will be suitably adjusted.

-Cost plus contract:

•  Cost plus contract is a contract in which the value of the contract is ascertained by adding a certain percentage of profit over the total cost of the work.
• Advantages-

1. Ensures reasonable profit
2. Simplifies work offering and quotations
3. covers the contractor from fluctuations in price and utilisation of elements of production.
4. The customer is assured of paying only reasonable amount of profit.
5. The customer has the right to conduct cost audit so that he can ensure that he is not being cheated by the contractor.

• Disdvantages-

1. Fixed amount would lead to less efforts from the contractor to reduce cost
2. Ultimate price cannot be ascertained
3. The customer has to pay not only the resultant high cost but also the resultant high profit.

Progress payment, Retention money and Architects’ certificate:

It may quite possible that at the end of a period a part of the work done may remain unapproved because it has not reached a stipulated stage. Such work which has not been so far approved by the contractee’s architect or surveyor is termed as work uncertified.

Profit on incomplete contracts:

The profit on completed contracts may be safely taken to the credit of the profit and loss account. In the case of incompleted contracts there are unforeseen contingencies which may lead to heavy fluctuations in costs and profit.

 If profit or loss is not shown in the intermittent years for the work in progress, contract will show high figure of profit in the year of completion and reverse may be the case in the year in which a large number of contracts remain incomplete.

Types of Contract –

Fixed price Contract-

• Fixed Price is decided
• Deductions are made for defectives and penalties
• Extra money is paid for additional work

Cost Plus Contract-

• Compensates for costs actually incurred by contractor
• A percentage of cost or any lump sum amount

Contract with Escalation cost

• Mixture of both of the above
• A fixed price will increase with increase in the cost of material, labour.

Rules to record profit during the intermittent years-

-Profit should be considered in respect of work certified only, work uncertified should always be valued at cost.

 -No profit should be taken into consideration if the amount of work certified is less than 1/4th  ( 25% ) of the contract price because in such a case it is not possible to foresee the future clearly.

 - If the amount of work certified is 1/4th (25%) or more but less than ½(50%) of the contract price, 1/3rd of the profit disclosed as reduced by the percentage of cash received from the contractee, should be taken to the profit and loss account or

       Profit =1/3 x Notional Profit x {Cash received / Work certified}

The balance be allowed to remain as a reserve.

If the amount of work certified is 1/2 or more of the contract price, 2/3rd of the profit disclosed, as reduced by the percentage of cash received from the contractee, should be taken to the profit and loss account. 

Profit= 2/3 x Notional Profit x {Cash received / Work certified}

  The balance should be treated as reserve.

-In case the contract is very much near to completion, if possible the total cost of completing the contract should be estimated. The estimated total profit on the contract then can be calculated by deducting the estimated cost from the contract price. The profit and loss account should be credited with that proportion of total estimated profit on cash basis, which the work certified bears to the total contract price.

Profit=Estimated total profit x {Work certified / Contract price}

Total estimated profit x {Work certified / Contract price} x {Cash Received/ Work certified }

The whole of loss, if any, should be transferred to the profit and loss account.

That part of the profit which is not credited to the profit and loss account is treated as a reserve against contingencies and is deducted from the amount of work-in-progress for balance sheet purpose. It is carried down as a credit balance in the contract account itself, the work-in-progress being represented by the debit balance in the contract account.

Work-in-Progress:

The work-in-progress account will appear in the assets side of the balance sheet. The amount of cash received from the contractee and reserve for contingencies will be deducted out of this amount.

                                 Balance sheet as on.............
 
Assets                                                                                                                                      Amount
 
Work-in-progress
Balance in contractee’s Account
Add: Work uncertified
Less: Reserve for unrealised  profit
 
 
Alternatively :
                                Balance sheet as on.....
 
Assets                                                                                                                                      Amount
 
Work-in-Progress:
Value of work certified
Cost of work uncertified
Less: Reserve for unrealised profit
Less: Amount received from the contractee

If the expenditure on incompleted contracts includes the value of plant and materials, these items may be shown separately in the balance sheet. Thus, instead of showing the total expenditure under the heading of work-in-progress, expenditure may split up and shown separately in the balance sheet, under the headings of plant at site, material at site, and work-in-progress.

 If the total profit on a contract for Rs.3,00,000 is RS. 60,000 and the contract is 60% complete and has been certified accordingly. The retention money is 20% of the certified value, then the amount of profit that can be prudently credited to Profit and Loss Account may be calculated as follows :
 
Profit – 2/3 X 60,000 X80/100 = Rs. 32,000