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ACC304/ACC324 – COST & ACTIVITY MANAGEMENT TOPIC 6 – Standard Costing & Variance Analysis

Sub-topic 6.1 – Standard Costing
INTRODUCTION 1) In this chapter, we look at standard costs of products and services and the purposes of preparing standard costs. 2) The sub-topics in this chapter includes; • What is standard costing? • Setting standards.

WHAT IS STANDARD COSTING?

3) Standard costing is a control technique, which compares standard costs and revenues with actual results to obtain variances, which are used to stimulate improved performance. Standards are predetermined measurable quantities, set in defined conditions and expressed in monetary terms. Thus, a standard cost is a planned unit cost. 4) Standard costing is most effectively used where output or production is routine and regular. Thus, it can be easily and accurately measured. It enables a detailed comparison of individual inputs of material, labour and other production costs to be made with standard inputs. 5) The total standard cost is built up from standards for each cost elements; • Standard quantities of materials at standard prices. • Standard quantities of labor time at standard rates. • Standard variable production overheads will usually be calculated based on standard labor times. • If absorption costing is used, pre-determined fixed production overhead absorption rates will be calculated based on budgeted information. 6) Therefore, management has to estimate the following; • The expected prices for material, labor & expenses. • Efficiency levels in the use of material & labor. • Budgeted overhead costs and budgeted volumes of activity. 7) Standard Cost Card – the standard cost of each of the elements of a product is brought together and totaled here.

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2 . Budgetary control (Variance Analysis) Promote the use of Management By Exception.8) Standard costs are comprised of 2 elements which are multiplied together. ii. £ Direct Materials Material Y – 4 kg at £2 per kg 8 Material Z .00 per hour Standard Full Production costs Administration & Marketing Overheads Standard Cost of Sale Standard Profit Standard Selling Price 30 53 12 65 24 89 11 100 30 130 === 10) Standard costs set. iv. wastage discounts & inefficiency) Expected price to be paid for each unit of the resource (allowing for inflation level) 9) Below.5 litres at £3 per litre 15 Direct Labour Grade A – 4 hours at £1. Attainable std and Current std.50 per hour Grade B – 8 hours at £3. shows the standard cost for a single unit of a product. Std Costs = Physical measure of the resources required X for each unit of output (allowing for NL.00 per hour Standard Variable Production costs Fixed Production Overheads – 12 hours at £2. i. Stock valuations and valuation of production costs. should be revised on a regular basis. 11) Uses of standard costs are for. 12) There are 4 types of standards that an organization can set. ie at least once a year to reflect any changes made in the organization in respect of methods of operations or otherwise. v. See below for explanation. Budget preparations Basis for pricing decisions.00 per hour 6 24 £ 23 Standard Direct Costs Variable production overheads – 12 hours at £1. Basic std. iii. Ideal std.

waste and machine downtime. iii. The comparison of the actual costs with the predetermined estimates. • The establishment of predetermined estimates of the costs of products or services. Standard costing therefore involves the following. Current Standard – a standard established for use. Basic Standard –a standard established for use over a long period. The process by which the total difference between standard and actual results is analyzed is known as variance analysis . i.13) Types of performance standards will include. Allowances are made for normal losses. which can be attained under the most favorable conditions (ie perfect operating conditions). This standard has a desirable motivational impact on employees because it represents future performance and objectives. related to current conditions. from which. 3 . Attainable Standard – a standard. a machine properly operated or material properly used. 14) Standard costing as a control technique i. ie suited to mass production and repetitive assembly work . a current standard can be developed. Ideal Standard – a standard. Also known as potential standards. iii. which can be attained if a standard unit of work is carried out efficiently. over a short period of time. which are reasonably attainable. Standard costing is best suited in situation where there is a degree of repetition in the production process. with no allowance for normal losses. wastages and machine downtime. ii. The collection of actual costs. iv. The predetermined costs are known as standard costs and the difference between standard and actual costs is known as a variance. • • ii.

iii. ii. Deciding how to incorporate inflation into planned unit costs. i. i. ii. v. 16) The advantages of standard costing are. Incurring the cost of establishing standards. Deciding on the quality of materials to be used. Std costs provide a yardstick against which actual costs can be measured. vi. which exceed acceptable tolerance-limit need to be investigated by management with a view to control action. iv. Only the variances. because they are easier to use than LIFO. setting up and maintaining a system for Dealing with possible behavioral problems. Standard performance levels might provide an incentive for individuals to achieve targets for themselves at work. Agreeing on a performance standard. v. Carefully planned standards are an aid to more accurate budgeting . iii. vii. Finding sufficient time to construct accurate standards as standard setting can be a time-consuming process. FIFO and weighted average costs. viii. 4 . managers responsible for the achievement of standards possibly resisting the use of a standard costing control system for fear of being blamed for any adverse variances. Estimating material prices where seasonal price variations or bulk purchase discounts may be significant. The setting of standards involves determining the best materials and methods. vi. cost Variances can be calculated which enable the principle of ‘ management by exception’ to be operated. Standard costs simplify the process of bookkeeping in cost accounting. which may lead to economies . A target of efficiency is set for employees to reach and consciousness is stimulated. iv. vii.15) Problems in setting standards includes. Standard times simplify the process of production scheduling .

B and C is £2. skilled and semi-skilled. £3 and £4 respectively. 5 litres of direct material B and 4 meters of direct material C are needed. The budgeted fixed production overheads are £270. 8kgs of direct material A. A mark-up of 25% is made on the Boomerang. Variable production overheads are incurred at BOOM Ltd at the rate of £3. 5 . Skilled labour is paid £10 per hour and semi-skilled labour is £6 per hour. A unit of Boomerang is made up of three types of materials. The basis of absorption is direct labour (skilled) hours. Required: Draw up a standard cost card for the Boomerang.000 units.QUESTION 1 BOOM Ltd makes a product called the ‘Boomerang’. three semi-skilled labour hours being needed.00 per direct labour (skilled) hour. Two types of labour are involved in the production of a Boomerang. Administration. A system of absorption costing is in operation at BOOM Ltd.000 and the budgeted production of the Boomerang is 6.00 per unit. selling and distribution overheads are added to products at the rate of £13. The cost per unit of measurement for direct material A. Thrice as many skilled labour hours as semi-skilled labour hours are needed to produce a Boomerang.