What Is Management Accounting?

Management accounting differs from financial accounting in that it emphasizes analyzing and conveying financial information to a company's managers and stakeholders. Essentially, financial accounting deals with standardized reporting for external parties, while management accounting focuses on internal reporting for organizational leaders. It's worth noting that financial accounting must adhere to Generally Accepted Accounting Principles (GAAP) in the U.S. or International Financial Reporting Standards (IFRS) abroad. In contrast, management accounting lacks such formal standards, allowing for more flexibility in reporting practices.

What Is Job Costing?

Job costing is a technique employed by management accountants to estimate the cost of completing a particular task or project, referred to as a "job." This approach is beneficial as it enables you to calculate the net profit margin associated with each piece of work. To arrive at your profit margin, simply subtract the job cost from the revenue generated by that job.

This technique becomes crucial, especially for freelancers managing multiple clients, as income can vary significantly across different projects. While an overall profit figure may provide a snapshot of your business health, it won't highlight which clients or projects are truly driving profitability. Without this clarity, you might miss out on understanding which clients offer the most value or what types of projects to pursue moving forward.

How to Implement Job Costing

Now that you understand what job costing entails, you might be wondering how to implement it effectively. Fortunately, for freelance writers, the process is quite straightforward.

Identifying Your Jobs

Begin by identifying the jobs you want to analyze. Strive for a balance between being too detailed and too vague; your objective is to gather useful insights without excessive complexity. For freelancers who tackle numerous one-off projects, each can be easily classified as a distinct "job." For ongoing clients, categorize work into identifiable jobs or group them into time blocks based on the type of work performed.

For instance, when working with my three largest ongoing clients, I categorize projects by client and month. This way, I can easily track three distinct jobs each month.

Material Costs

The first significant expense category is materials. These are the tangible items consumed during the job. While freelance writers may not have many material costs, those who do utilize supplies like paper or stationery should factor these into their calculations.

Labor Costs

Labor represents a more prevalent expense category for freelancers. Even if you are the sole operator of your business, it's vital to account for your labor costs. Assign yourself a wage, whether that be an hourly rate or an estimated cost based on what you would pay someone else to perform your tasks.

Calculate the total hours worked on each job and multiply that by your hourly rate. If you hired anyone else to assist on a project, their labor costs should also be included here, but general employee wages for those who work across multiple jobs should be allocated to overhead.

Overhead Costs

Overhead encompasses all expenses necessary for running your business, such as rent, utilities, software subscriptions, and administrative wages. Any costs that cannot be directly attributed to a specific job should be divided among all relevant jobs. For example, if your monthly rent is $1,000 and you have three active jobs, each job would bear $333 of the rent cost.

Final Calculation

After tallying your material, labor, and overhead costs for each job, subtract these totals from your gross revenue to determine your net profit for that job.

Here's a practical example to illustrate the process:

Working Example: ACME Writing LLC

Imagine I operate ACME Writing LLC, serving three ongoing clients with the following billing amounts last month:

• Client 'A': $6,000
• Client 'B': $5,000
• Client 'C': $4,000

For expenses:

• My hourly rate: $100
• Hours worked: 20 for Client 'A', 20 for Client 'B', 10 for Client 'C'
• Virtual assistant wages: $20/hour for 20 hours/month
• Monthly rent: $500
• Internet: $50
• SEO software: $100 (only for Client 'A')
• Vendor for Client 'A': $1,000
• Annual legal and accounting fees: $1,200

Calculating Monthly Overhead

Monthly overhead costs would total $1,050, which should be allocated among the three jobs.

Calculating expenses for Client 'A':

• Labor: $2,000 (20 hours x $100)
• Vendor: $1,000
• SEO software: $100
• Overhead allocation: $350

Total expenses for Client 'A': $2,000 + $1,000 + $100 + $350 = $3,450

Net job profit for Client 'A': $6,000 - $3,450 = $2,550.

Repeating this process for Clients 'B' and 'C' will yield their respective net profits.

Insights Gained

It's apparent that while Client 'A' generated the most revenue, it incurred the highest expenses, resulting in the lowest net profit. This example emphasizes the importance of analyzing job profitability to make informed business decisions.

Final Thoughts

This overview merely scratches the surface of management accounting and job costing. Numerous resources are available for deeper insights into these topics. However, I hope this guide provides a foundational understanding of how to assign costs to specific jobs and leverage that information to assess net profit on a project-by-project basis.

In this video, you will learn the Top 10 Tips to Build a 6 or 7 Figure Freelance Business, offering invaluable advice for aspiring freelancers.

This video provides an Overview of Profit First for Freelancers, along with the best bank recommendations for managing your finances effectively.