Cost System Definition
A form of accounting system which captures cost data that will then form the basis of cost information for managers’ use.
Costs are assigned to products or services using some recognized method which reflects the interrelationship with the cost object and how a business or organization runs.
There are three cost accounting system types typically associated with manufacturing companies and in some service-sector organizations: job costing, process costing and contract costing.
Job Costing System
A job costing system (sometimes called a job-order costing system) is one where many uniquely identifiable products/services are the norm.
A job may consist of a single unique product or a group of identical products referred to as a batch. In practice, this means that some unique product identifier, code or order number is used as the basis for tracking and assigning costs.
For example, if an individual orders one laptop from Dell, this order (job) has a unique order number. Similarly, if a business were to order a batch of 50 laptops, a unique order number would also be assigned. In both cases, a ‘job’ exists to which costs can be assigned.
Contract Costing System
A contract costing system is similar to job costing in that a unique job can be identified. In this case, the job is typically longer term in nature and unique in that it is for a contracted product of service.
Engineering or construction-type companies typically use a contract costing system whereby costs are assigned to each construction contract. More direct costs are normal in contracting-type businesses.
For example, construction projects may have specific plant and equipment used on one contract–depreciation on this can be treated as a direct cost. Likewise, the salary of a construction site supervisor is often directly assigned to a single project. As contracting-type businesses may have contracts spanning many years, it is important to track costs accurately to determine their long-term profitability.
Process Costing System
A process costing system is used when a manufacturing process exists in which a unique product or unit cannot be identified.
The easiest way to think of a ‘process’ in manufacturing terms is to think of it as a formula or recipe where the output cannot be broken down into its original components.
For example, baking a cake involves mixing flour, eggs, milk and other ingredients which results in the final cake(s). Once mixed and baked, the cake cannot be broken down to the original ingredients. In other words, the output or ‘unit’ from a process does not materialize until the end of the process. Thus, it is not possible to calculate costs for a unit so the process itself is costed.
A cost of a unit of output is derived by dividing the process cost by the expected output from the process.