Topic 11: Standard costing and variance analysis

standard costing

• enables derivations from budget to be calculated and analysed

• typically applied in cost centres

standard costs

• predetermined costs that should be incurred under efficient operating conditions

• CPU

standard v budget

standard = CPU while budget = total

how dow standard costing systems work?

• input required to produce a unit of output can be specified

• fast food restaurants

• banks - loan applications

• must be a repetitive activity to set standard

  • can have a verity of products as long as they are similar operations

Product standard costs

found by combining the standard costs from the operations necessary to make the product

price standard

the amount that should be paid for each unit of input

quantity standard

the amount of input that should be used per unit of output

who acts on the variance of standard costing

•The accountant identifies variances, and the responsible managers investigate the reasons for the variance.

This should result in appropriate remedial action being taken, or perhaps the standard should be changed

what are the two approaches of cost standards

1. historical records

   1. widely used

   2. doesnt focus on finding best combination of resources

2. engineering studies

   1. detailed study of each operation with careful specs of material, labour, and equipment

direct material standards

• derived from input quality necessary

  • establish the most suitable materials for the operation

  • optimal quality should be used, taking into account unavoidable wastage/loss

material quantity standards

• recorded on a bill of materials

• shows required quantity of materials for reach operation to complete product

Standard material product cost

multiplying standard quantities by appropriate standard prices

standard prices

obtained from purchasing department

• must select suppliers who can provide P & Q

direct labour standards

• standard labour time

  • eliminate unnecessary elements and determine most efficient method

  • smite # of hours to complete

  • unavoidable delays are included - machine breakdown and routine patience

• standard labour cost

  • contractual wage rates

why standard costing?

• decision making purposes

  • provides prediction of future costs

  • preferrable to estimates based on adjusted past costs which may incorporate inefficiencies

• challenging target

  • motivates individuals

  • Research evidence suggests that the existence of a defined quantitative goal motivates higher levels of performance.

• setting budgets

  • evaluating managerial performance

• control device

  • hihglihts non conforming activities that need corrective action

• profit measurement and inventory valuation purposes

variance

the difference between standard and actual cost

material price variance

• adverse

  • failure to get best source of supply

  • change in market conditions

• favourable

  • inferior quality goods,

material usage variance

Did we use more or less materials than the standard?

• controllable by manager

  • carless handling

  • purchase of inferior quality

  • pilferage

  • changes in quality control

  • changes in methods of productions

total material variance

wage rate variance

Did we use more or less materials than the standard?

• least subject to control by management

• changes in wage rate standards

labour efficiency variance

Were our employees more or less efficient than the standard?

• controllable by manager

• inferior quality materials

• failure to maintain machinery

• introduction of new equipment/tools/processes

total labour variance

variable overhead expenditure variance

•Did we pay more or less for our variable overheads than the standard?

variable overhead efficiency variance

•The difference between actual and budgeted hours worked, applied to the standard variable overhead rate per hour.

total variable overhead variance

• changes due to prices of individual items changing

• can be affected by efficiency

• not very informative

• need comparison of actual expenditure against each line time

fixed overhead

Did we pay more or less for our fixed overheads compared to   the budget?

budgeted - actual overheads

sales margin price variance

Did we sell our products for more or less than the standard?

sales margin volume variance

Did we sell our products for more or less than the standard?

total sales margin variance

•It may not be very meaningful to analyse the total sales margin variance into price and volume components, since changes in selling prices are likely to affect sales volume.

•A favourable price variance will tend to be associated with an adverse volume variance, and vice versa.

•A further problem: the sales variances may arise from external factors not controllable by management. E.g. changes in selling prices may be a reaction to changes in selling prices of competitors.

•Alternatively, a reduction in both selling price and sales volume may be the result of an economic recession.

•For control and performance appraisal it may be preferable to compare actual market share with target market share for each product.

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