How the heck do I know if my company is making money? Where am I making money? Are all of my product lines making the same amount of money? Is there an easy way to figure out which area of my business is making the most money? Which area is making the least? Why is this area profitable and another area declining?
These are questions that any serious business owner needs to constantly be processing. The questions themselves are big ones and intimidate people away from learning how to engage with answers. But today let me show you how all of these questions can be answered through one amazing tool. Job Costing.
What is job costing?
Job costing is the idea of tracking income and expenses of a specific job or from a segment of the business. For example, let’s say a roofing company does a job for $100,000, they would then apply all the expenses related to that job to see how much profit they made on that specific job. The three major expense categories of expenses are materials, labor and overhead. You can apply this same formula to any job, business segment, client etc. The formula is simple:
Income for the job
<minus> job materials
<minus> job labor
<minus> overhead applied to the job
= Profit from the job
Okay, so how do you job cost?
So, how can you figure this out? Many accounting software packages have job costing capabilities where you code every transaction to a specific job as it is entered. However, if you don’t have an accounting software with this capability, not to worry, you can code your chart of accounts accordingly in order to track your profit by job or segment. Now, by doing this you will be able to do your job costing in excel, which makes life so much easier. Just make sure to speak with your accountant before setting this up so you don’t get lost.
One tricky thing about job costing can be the allocation of overhead to a specific job. Typically you can create a formula to determine this, but every job is different so unfortunately there is no all-encompassing formula – it will have to be tailored specifically to each individual business.
Let’s say a company spends $100,000 in advertising. There is probably no easy way to allocate this expense to each job or business segment. You and your accountant need to determine the best way to accurately allocate this expense. This may sound a little intimidating, but just like anything new, you only need a few experiences before it becomes routine. And at the end of the day, this is what your accountant exists’ for, use them!
Can you give me some examples?
Yes! So lets close this time by looking at some illustrations that will give you a much better picture of what we’ve been talking about.
Example 1: You have a roofing company and complete two jobs for $100,000 each. Job #1 your profit is $25,000 and job #2 you lose $75,000. Don’t you think it would be important to analyze these two jobs to see why one made you a profit and the other lost you money? Without a job costing system in place, you would have no idea this occurred. I cannot tell you how many times a business will focus only on the top line revenue and, missing entirely the profit, or deficit, of specific jobs.
Example 2: You have a service company that offers clients three different service lines. One of the service lines has a profit margin of 70% and the other two have margins of 20%. Wouldn’t it make sense to focus a majority of your efforts on building up the service line with a 70% profit margin? Of course it would! However, if you didn’t break down your profit and loss by these segments, you would never know.
As you can see from the above examples, it is imperative to understand which aspects of your business are profitable and which are not. Job costing is one of the best ways to figure this out.