3901853 Standard Costing

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Standard Costing



Standard Costs

ü Distinguish between a standard and a budget.ü Identify the advantages of standard costs.ü Describe how standards are set.ü State the formulas for determining direct materials and direct

labor variances.ü State the formulas for determining manufacturing overhead

variances.ü Discuss the reporting of variances.

Our Focus



The Need for Standards

§ Standards• Are common in business• Are often imposed by government agencies (and

called regulations)§ Standard costs• Are predetermined unit costs• Used as measures of performance



Distinguishing Between Standards andBudgets

§ Standards and budgets are both• Pre-determined costs

• Part of management planning and control

§ A standard is a unit amount whereas a budget is a total amount

• Standard costs may be incorporated into a cost accounting

system



Advantages of Standard Costs



Setting Standard Costs

§ Setting standard costs• Requires input from all persons who have responsibility for

costs and quantities• Standards costs need to be current and should be under

continuous review

§ There are two levels of standard costs• Ideal standards represent optimum levels of performance under

perfect operating conditions• Normal standards represent efficient levels of performance

attainable under expected operating conditions (rigorous butattainable)



Direct Materials Price Standard

§ Direct materials price standard• Cost per unit which should be incurred

• Based on the purchasing department’s best estimate of the cost of raw materials

• Includes related costs such as receiving, storing, and handling



Direct Materials QuantityStandard

§ Direct materials quantity standard• Quantity of direct materials used per unit of finished goods

• Based on physical measure such as pounds, barrels, etc.• Considers both the quantity and quality of materials required

• Includes allowances for unavoidable waste and normal storage



Total Direct MaterialsCost/Unit

STANDARDDIRECT

MATERIALS

PRICE

x=

STANDARDDIRECT

MATERIALS

QUANTITY

STANDARDDIRECT

MATERIALSCOST

PER UNIT

§ The standard direct materials cost per unit is calculated as follows



Direct Labor Price Standard

§ Direct labor price standard • Rate per hour incurred for direct labor

• Based on current wage rates adjusted for anticipatedchanges, such as cost of living adjustments

• Includes employer payroll taxes,and fringe benefits



Direct Labor Quantity Standard

§ Direct labor quantity standard• Time required to make one unit of the product

• Critical in labor-intensive companies

•

Allowances should be made for rest periods, cleanup,machine setup and machine downtime



Direct Labor

§ The standard direct labor cost per unit iscalculated as follows

STANDARDDIRECTLABOR

RATE

x =STANDARD

DIRECTLABOR HOURS

STANDARDDIRECT

LABOR COSTPER UNIT



Manufacturing Overhead Standard

§ For manufacturing overhead, a standard predetermined overhead rate is used

• The predetermined rate is computed by dividing budgeted

overhead costs by an expected standard activity index• The standard manufacturing overhead rate per unit is the

predetermined overhead rate times the activity index quantitystandard (for example, direct labor hours)



Standard Cost Per Unit

§ Standard cost per unit• Sum of the standard costs for direct materials, direct labor, and

manufacturing overhead

• Is determined for each product and often recorded on a standard cost

card which provides the basis for determining variances from standards

materials labour ManufacturingOverheads



Variances from Standards

§ Variances from standards• Differences between total actual costs and total standard

costs• Unfavorable variances occur when too much is paid for

materials and labor or when there are inefficiencies inusing materials and labor

• Favorable variances occur when there are efficiencies inincurring costs and in using materials and labor

– A variance is not favorable if quality control standards aresacrificed



Analyzing variances

§ Variances must be analyzed todetermine their significance

• First, determine the cost elements that comprise the

variance• For each manufacturing cost element, a total dollar

variance is computed. Then this variance is analyzedinto a price variance and a quantity variance



Variance Relationships



Formula for TotalMaterials Variance

Actual Quantityx Actual Price(AQ) x (AP)

Standard Quantityx Standard Price

(SQ) x (SP)

Total MaterialsVariance(TMV)

= _

§The total materials variance is computed fromthe following formula:



Formula for MaterialsPrice Variance

Actual Quantityx Actual Price(AQ) x (AP)

Actual Quantityx Standard Price

(SQ) x (SP)

Materials PriceVariance(MPV)

= _

§The materials price variance is computedfrom the following formula:



Formula for MaterialsQuantity Variance

Actual Quantityx Standard Price

(AQ) x (SP)

Standard Quantityx Standard Price

(SQ) x (SP)

MaterialsQuantityVariance

(MQV)

= _

§The materials quantity variance is determinedfrom the following formula:



Matrix for DirectMaterials Variance

AQ X AP4200 X 3.10=13020

AQ XSP4200 X 3.00 =12,600

SQ XSP4000 X3= 12,000

1 - 2Price Variance13,020-12,600=Rs 420 UF

2 - 3Quantity Discount

12,600- 12,000=Rs 600 uf

1-3Total Variance13,020-12,000

=Rs 1020 UF

1 2 3



Causes of Materials Variances

§ Materials variances may be caused by avariety of factors, including both internaland external factors

• Investigating materials price variances begins in the purchasing department, but the variance may be beyond thecontrol of purchasing (for ex., prices rise faster thanexpected)

• Investigating materials quantity variance begins in the

production department, but the variance may be beyond thecontrol of production (for ex., faulty machinery)



Formula for TotalLabor Variance

Actual Hoursx Actual Rate(AH) x (AR)

Standard Hoursx Standard Rate

(SH) x (SR)

Total LaborVariance

(TLV)=

_

§The total labor variance is obtained from

the following formula:



Formula for Labor Price Variance

Actual Hoursx Actual Rate(AH) x (AR)

Actual HoursX Standard Rate

(AH) x (SR)

Labor PriceVariance

(LPV)=

_

§The formula for the labor price variance isas follows:



Formula forLabor Quantity Variance

Actual Hoursx Standard Rate

(AH) x (SR)

Standard Hoursx Standard Rate

(SH) x (SR)

LaborQuantityVariance

(LQV)

= _

§The labor quantity variance is derived fromthe following formula:



Matrix for DirectMaterials Variance

AH X AR 2100 X 9.80=20580

AH XSR 2100 X 10 =21,000

SH XSR 2000 X10= 20,000

1 - 2Price Variance20,580-21,000

=Rs 420 F

2 - 3Quantity Variance

21,000- 20,000=Rs 1000 uf

1-3Total Variance20,580-20,000

=Rs 580UF

1 2 3



Causes of Labor Variances

§ Labor variances may be caused by avariety of factors

• Labor price variances usually result from either paying

workers higher wages than expected or misallocatingworkers (for ex., using skilled workers in place of unskilledworkers)

• Labor quantity variances relate to the efficiency of workersand are usually related to the production department



Actual Overhead Costs

§The total overhead variance is the differencebetween actual overhead costs and overhead

costs applied to work done.



Formula for TotalOverhead Variance

ActualOverhead

OverheadApplied basedon Standard

Hours Allowed

TotalOverheadVariance

= _

§With standard costs, manufacturing overheadcosts are applied to work in process on the basis of the standard hours allowed for the work done. Standard hours allowed are the hours that should

have been worked for the units produced. Theformula for the total overhead variance is:



Formula for OverheadControllable Variance

ActualOverhead

OverheadBudgeted based

on Standard

Hours Allowed

OverheadControllable

Variance

= _

§The formula for the OverheadControllable Variance is shown below:



Formula forOverhead Volume Variance

FixedOverhead

Rate

Normal CapacityHours - Standard

Hours Allowed

OverheadVolume

Variance=X

§The Overhead Volume Variance indicates whether fixedcosts were efficiently used during the period. The formulafor computing the volume variance is as follows:



Alternative Formula for OverheadVolume Variance

OverheadBudgeted based

on StandardHours Allowed

OverheadApplied basedon Standard

Hours Allowed

OverheadVolume

Variance=

_

§An alternative formula for computing thevolume variance is shown below:



Causes of Manufacturing OverheadVariances

§ Manufacturing overhead variances may becaused by a variety of factors

• The controllable variance relates to variable manufacturingcosts and usually is the responsibility of the productiondepartment

• May result from either higher than expected use of indirect materials,indirect labor or supplies or increases in indirect manufacturing costs such asfuel

• The volume variance may be the responsibility of the

production department (inefficient use of direct labor hours) or may come from outside the productiondepartment (lack of sales orders)



Reporting Variances

§ Reporting variances• All variances should be reported to appropriate levels of

management as soon as possible so that corrective actioncan be taken

• The form, content, and frequency of variance reports varyconsiderably among companies

• Variance reports facilitate the principle of “management by exception”

• In using variance reports, top management normallylooks for significant variances



Let’s Review

The setting of standards is:

a. A managerial accounting decision.

d. Preferably set at the ideal level of performance

c. A worker decision.

b. A management decision

3901853 Standard Costing

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