Applications, Definitions, and Objectives

Standard Costs and Variance Analysis • Standard Costs – Predetermined or target unit costs
or production
 Applications, Definitions and Objectives
• Variance Analysis – Explains the difference between
actual costs and the standard costs allowed for output
 Setting Standard Costs • In variance analysis, when actual results are better
than the expected results, we have a favorable
 Variance Analysis and Variance variance. If actual results are worse than expected
Formulas results, we have an unfavorable variance

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Applications, Definitions, and Objectives Applications, Definitions, and Objectives

Objectives of a standard cost system Uses of standard costing

• To help a business function more effectively and Inventory valuation
efficiently
Planning and controlling costs
• To accomplish organizational goals by obtaining
optimum output from inputs available Measurement of performance

Budget preparation

Price formulation

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 Applications, Definitions, and Objectives Applications, Definitions, and Objectives

Drawbacks of standard costing systems Drawbacks of standard costing systems

• Standard costing principles are at odds with • Elaborate and complex variances are not well
modern business tools understood by managers

• May be time consuming and expensive to run
• If standard is incorrect or outdated, any
comparison with the actual is likely to be incorrect
or misleading
• There may be several reasons why actual results may
be different from the standard
• The information may not be given in time
• The reason for variance is not located in the
accounting records

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Setting Standard Costs Setting Standard Costs

Types of Standards
Standard Quantity
• Basic (Fixed) Cost Standards – Standards that are
unchanged year after year
Standard Price
• Perfection (Ideal or Theoretical) Cost Standards –
Absolute minimum costs attainable under perfect Standard Time/ Hours
operating conditions
• Currently Attainable Cost Standards – standards that Standard Labor Rate
can be attained under efficient operating conditions
Overhead Standard

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 Setting Standard Costs Setting Standard Costs

Classifications of variances Classifications of variances

• Direct Materials Variance Analysis • Direct Materials Variance Analysis
o Difference between actual costs and budgeted oPossible causes of variance:
costs of direct materials
 Failure to take cash discounts available
oPossible causes of variance:
 Purchasing materials of substandard quality
 Fluctuation in market price of materials
 Unfavorable purchase terms
 Purchasing from distant suppliers

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Setting Standard Costs Setting Standard Costs

Classifications of variances Classifications of variances

• Direct Labor Variance Analysis
oDifference between actual labor cost and standard
labor cost
oPossible causes of labor rate variance:
 Inexperienced workers hired
 Change in labor rate
• Direct Labor Variance Analysis
oPossible causes of labor rate variance :
 Using employees with a different wage
classification
 Use of a number of higher paid employees

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 Setting Standard Costs Setting Standard Costs

Classifications of variances Classifications of variances

• Direct Labor Variance Analysis
oPossible causes of labor efficiency variance:
 Good or poor training of workers
 Poor materials or faulty equipment
 Good or poor supervision and scheduling of
work
• Direct Labor Variance Analysis
oPossible causes of labor efficiency variance:
 Experience or lack of experience on the job
 Inefficient equipment
 Machine breakdown
 Nonstandard materials being used

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Setting Standard Costs Setting Standard Costs

Classifications of variances Classifications of variances

• Variable Manufacturing Overhead Variance
Analysis
oDifference between actual variable overhead
and standard variable overhead allowed on
actual output
• Variable Manufacturing Overhead Variance
Analysis
oPossible causes of variable overhead spending
variance:
 Fluctuations in market prices or rates
 Increase in energy costs

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 Setting Standard Costs
Classifications of variances
• Variable Manufacturing Overhead Variance
Analysis
oPossible causes of variable overhead spending
variance:
 Waste in using supplies
 Avoidable machine breakdowns
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Setting Standard Costs
Classifications of variances
• Fixed Manufacturing Overhead Variance Analysis
oPossible causes of capacity or volume variance
 Storms or strikes
 Fluctuations over time
 Decrease in consumer demand
 Excess plant capacity
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Setting Standard Costs
Classifications of variances
• Fixed Manufacturing Overhead Variance Analysis
oDifference between the actual fixed overhead
and budgeted fixed overhead at normal capacity
oPossible causes of capacity or volume variance
 Poor production scheduling
 Unusual machine breakdowns
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Setting Standard Costs
Standard costing responsibilities
• When using standard costing and variance
analysis, the management reports show only
budgeted amounts and variances
• The fact that a variance is favorable does not
mean that it should not be investigated
• Managers should be held responsible only for
the costs they can control
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 Variance Analysis and Variance Formulas

• Rate Variance
oAlso known as price variance
o

• Volume Variance
oAlso known as quantity variance
o

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