9 -1

CHAPTER
Standard
Costing: A
Managerial
Control Tool
 9 -2

Objectives
Objectives
1. Tell how unit standards
After arethis
studying set and why
After studying this
standard costing systems
chapter, are adapted.
chapter, you
you should
should
2. State the purposebeofable
a standard
to: cost sheet.
be able to:
3. Describe the basic concepts underlying
variance analysis, and explain when
variances should be investigated.
4. Compute the material and labor variances,
and explain how they are used for control.
Continued
Continued
 9 -3

Objectives
Objectives
5. Calculate the variable and fixed overhead
variances, and give their definitions.
6. Appendix: Prepare journal entries for
materials and labor variances, and show how
to account for overhead variances.
 9 -4

Cost
Cost control
control often
often means
means
the
the difference
difference between
between
success
success and
and failure.
failure.
 9 -5

Why Standard Cost Systems

Are Adopted
Standard costing systems enhance planning
and control and improve performance
measurement.
Standard costing systems facilitate product
costing.
 9 -6

Manufacturing Costs
Direct Direct
Materials Labor Overhead
Actual costing system Actual Actual Actual
Normal costing system Actual Actual Budgeted
Standard costing system Standard Standard Standard
 9 -7
Standard Costs
Managers focus on quantities and costs
that exceed standards, a practice known as
management by exception.

Standard
Amount

Direct
Material
Direct Manufacturing
Labor Overhead

Type of Product Cost

 9 -8
Controlling Costs

Standard Actual
performance performance
level level

Comparison between
standard and actual
performance
level

Cost
variance
 Next
Page
9 -9
Standards vs. Budgets Click
Here

A standard is a per
unit cost.
Are standards A budget sets forth
the same the total amount of
as budgets? planned costs.
Standards are often
used to develop a
budget.
 9 -10
Sources for Quantitative Standards

1. Historical experience
2. Engineering studies
3. Input from operating
personnel
 9 -11
Setting Direct Material Standards

Price Quantity
Standards Standards

Final, delivered Use product

cost of materials, design specifications.
net of discounts.
 9 -12
Factors for Price Standards - Materials

1. Market forces

2. Discounts
3. Freight
4. Quality
 9 -13
Setting Direct Labor Standards

Rate Time
Standards Standards

Use wage Use time and

surveys and motion studies for
labor contracts. each labor operation.
 9 -14
Factors for Price
Standards - Labor

1. Market forces

2. Trade unions
3. Payroll taxes
4. Qualifications
 9 -15
Setting Variable Overhead Standards

Rate Activity
Standards Standards

The rate is the The activity is the

variable portion of the base used to calculate
predetermined overhead the predetermined
rate. overhead.
 9 -16

Standard Cost Sheet

for Corn Chips
Standard Standard Standard
Description Price Usage Cost Subtotal
Direct materials:
Yellow corn $0.006 18 oz. $0.108
Cooking oil 0.031 2 oz. 0.062
Salt 0.005 1 oz. 0.005
Lime 0.400 0.01 oz. 0.004
Bags 0.044 1 bag. 0.044
Total direct materials $0.223
 9 -17

Standard Cost Sheet

for Corn Chips
Standard Standard Standard
Description Price Usage Cost Subtotal
Direct materials $0.223
Direct labor:
Inspectors $7.000 0.0070 hr. $0.049
Machine operators 10.000 0.0008 hr. 0.008
Total direct labor 0.057
Overhead:
Variable overhead 3.850 0.078 hr. $0.030
Fixed overhead 32.050 0.0078 hr. 0.250
Total overhead 0.280
Total standard unit cost $0.560
 9 -18

During
During the
the first
first week
week of
of March,
March, 100,000
100,000
packages
packages of of corn
corn chips
chips are
are produced.
produced.

The
The standard
standard quantity
quantity of
of yellow
yellow corn
corn
meal
meal per
per package
package isis 18
18 ounces.
ounces.
 9 -19

Standard Quantity of Materials Allowed

SQ = Unit quantity standard x Actual output
= 18 x 100,000
= 1,800,000 ounces

Standard Hours Allowed

SH = Unit labor standard x Actual output
= 0.0008 x 100,000
= 80 direct labor hours
 9 -20

Total variance = Price variance + Usage variance

= (AP – SP)AQ + (AQ – SQ)SP
= [(AP x AQ) – (SP x AQ)]
+ [(SP x AQ) – (SP x SQ)]
= (AP x AQ) – (SP x AQ)]
+ (SP x AQ) – (SP x SQ)
= (AP x AQ) – (SP x SQ)
 Variance Analysis: General Description 9 -21

1. AP x AQ 2. SP x AQ 3. SP x SQ
(Actual Quantity (Actual Quantity (Standard
of Input at Actual of Input at Quantity of Input
Price) Standard Price) at Standard Price)

Price Variance Usage

(1-2) Variance (2-3)

Budget
Variance (1-3)
 9 -22

Unfavorable
Unfavorable variances
variances
occur
occur whenever
whenever actual
actual Favorable
Favorable variances
variances
prices
prices or
or usage
usage ofof inputs
inputs occur
occur whenever
whenever the
the
are
are greater
greater than
than standard
standard opposite
opposite occurs.
occurs.
prices
prices or
or usage.
usage.
 9 -23

Cost

x
$110,000
x
x
x $100,000
x
x $ 90,000

Time
 9 -24

Variance
Variance Analysis:
Analysis: Materials
Materials and
and Labor
Labor
Actual production 48,500 bags of corn chips
Actual cost of corn 780,000 ounces of $0.0069 = $5,382
Actual cost of
inspection labor 360 hours at $7.35 = $2,646

Actual Costs Budgeted Costs Total Variance

Corn $5,382.00 $5,238.00 $144.00 U
Inspection labor 2,646.00 2,376.50 269.50 U
 Variance Analysis: Columnar Approach 9 -25

AQ x AP AQ x SP SQ x SP
780,000 x 0.0069 780,000 x $.0.0060 873,000 x $0.0060
$5,382 $4,680 $5,238

$558 F
$702 U
Usage
Price Variance
Variance

$144 U
Total Variance
 9 -26

Variance Investigation
Variances are investigated if two conditions are met:
1. The variance is material
2. The benefits of investigating and taking corrective
action are greater than its costs
 9 -27

Material
Material Price
Price Variance
Variance

MPV = (AP – SP)AQ

The actual
The actual
The standard
quantity of
price per price
unit per unit
material used
 9 -28

Material
Material Price
Price Variance
Variance
MPV = (AP – SP)AQ
= ($0.0069 – $0.0060)780,000
= $0.0009 x 780,000
= $702 U

Percent
Percent of
of SP
SP xx SQ
SQ== $702/$4,680
$702/$4,680 == 15%
15%
 9 -29

Direct
Direct Materials
Materials Usage
Usage Variance
Variance

MUV = (AQ – SQ)SP

The standard
The actual
The standard
quantity
quantity of of
price per unit
materials
materials used
allowed for the
actual output
 9 -30

Direct
Direct Materials
Materials Usage
Usage Variance
Variance
MUV = (AQ – SQ)SP
= (780,000 – 873,000)($0.006)
= 93,000 x $0.006
= $558 F

Percent of SQ x SP = $558/$5,238 = 10.7%

 9 -31

Labor
Labor Rate
Rate Variances
Variances

LRV = (AR – SR)AH

The actual The actual

The standard
hourly wage direct labor
hourly wage
rate rate hours used
 9 -32

Labor
Labor Rate
Rate Variances
Variances
LRV = (AR – SR)AH
= ($7.35 – $7.00)360
= $0.35 x 360
= $126 U

Percent of SR x SH = $126/$2,520 = 5%
 Labor Variances: Columnar Approach 9 -33

AH x AR AH x SR SH x SR
360 x $735 360 x $7.00 339.5 x $7.00
$2,646 $2,520 $2,376.50

$126 U $143.50 U
Rate Variance Efficiency Variance

$269.50 U
Total Variance
 9 -34

Labor
Labor Efficiency
Efficiency Variances
Variances

LEV = (AH – SH) SR

The actual The standard

The standard
direct labor hourly wage
direct labor
hours used hours that rate
should have
been used
 9 -35

Labor
Labor Efficiency
Efficiency Variances
Variances
LEV = (AH – SH)SR
= (360 – 339.5)$7
= 20.5 x $7
= $143.50 U

Percent of SH x SR = $143.50/$2,376.50 = 6%
 9 -36

Variable Overhead Variances

Variable overhead rate (standard) $3.85/DLH
Actual variable overhead costs $1,600
Actual hours worked 400
Bags of chips produced 48,500
Hours allowed for production 373.3
Applied variable overhead $1,456
Variable Overhead Variances: Columnar Approach 9 -37

Actual VO Rate x VO Rate x

VO Actual Hours Standard Hours
$1,600 $1,540 $1,456

$60 U $84 U
Spending Efficiency Variance
Variance

$144 U
Total Variance
 9 -38

Variable
Variable Overhead
Overhead
Spending
Spending Variances
Variances
VOSV = (AVOR x AH) – (SVOR x AH)
= (AVOR – SVOR)AH
= ($4.00 – $3.85)400
= $60 U
 9 -39

Crunch Chips, Inc.

Flexible Budget Performance Report
For the Week Ended March 8, 2004
Cost Actual Spending
Formula Costs Budget Variance

Gas $3.00 $1,190 $1,200 $10 F

Electricity 0.78 385 312 73 U
Water 0.07 25 28 3 F
Total cost $3.85 $1,600 $1,540 $60 U
 9 -40

Crunch Chips, Inc.

Performance Report
For the Week Ended March 8, 2004
Budget
for
Cost Actual Spending Standard Efficiency
Formula Costs Budget Variance Hours Variance

Gas $3.00 $1,190 $1,200 $10 F $1,135 $65 U

Electricity 0.78 385 312 73 U 295 17 U
Water 0.07 25 28 3 F 26 2U
Total cost $3.85 $1,600 $1,540 $60 U $1,456 $84 U
 9 -41

Fixed Overhead Variances

Budgeted or Planned Items
Budgeted fixed overhead $749,970
Practical activity 23,400 direct labor hours
Standard fixed overhead rate $32.05

Hours allowed toActual

produce 3,000,000 bags of chips:
Results
0.078 x 3,000,000 = $23,400
Actual production 2,750,000 bags of chips
Actual fixed overhead cost $749,000
Standard hours allowed for actual
production 21,450
 9 -42

Total Fixed Overhead Variances

Applied fixed = Standard fixed overhead rate
overhead x Standard hours
= $32.05 x 21,450
= $687,473 (rounded)
Total fixed = $749,000 – $687,473
overhead variance
= $61,527 underapplied
Fixed Overhead Variances: Columnar Approach 9 -43

Actual FO Budgeted FO Applied FO

$749,000 $749,970 $687,473

$970 F $62,497 U
Spending Volume
Variance Variance

$61,527 U
Total Variance
 9 -44

Crunch Chips, Inc.

Performance Report
For the Year Ended 2004
Fixed Actual Budgeted
Overhead Items Costs Cost Variance
Depreciation $530,000 $530,000 $ ----
Salaries 159,370 159,970 600 F
Taxes 50,500 50,000 500 U
Insurance 9,130 10,000 870 F
Total fixed overhead $749,000 $749,970 $970 F
 9 -45

Volume Variance
Volume variance = $32.05(23,400 – 21,450)
= ($32.05 x 23,400) – ($32.05 x 21,450)
= $749,970 – $687,473
= Budgeted fixed overhead – Applied
fixed overhead
= $62,497 U
 9 -46
Advantages of Standard Costs

Possible reductions Management by

in production costs exception

Advantages

Improved cost control Better Information

and performance for planning and
evaluation decision making
 Disadvantages of 9 -47

Standard Costs

Emphasis on Favorable variances

negative may Potential may be
impact morale. Problems misinterpreted.

Continuous
improvement
Standard cost may be more
reports may important than
not be timely. meeting standards.

Emphasizing standards
Incentives to build may exclude other
inventories. important objectives.
 9 -48
Criticisms of Standard Costing

Standard costing may be inappropriate in

some modern manufacturing environments.

Undue concern for variances and cost

minimization may lead to lower quality.

Automation reduces labor costs and

the significance of labor variances.

Standard costing may not be applicable

in flexible manufacturing operations
with short life-cycle products.
 9 -49

Appendix:
Accounting for
Variances
 9 -50

The
The actual
actual price
price isis $0.0069
$0.0069 per per ounce
ounce of
of
corn
corn and
and standard
standard price
price isis $0.0060,
$0.0060, and
and
780,000
780,000 ounces
ounces of of corn
corn areare purchased.
purchased.

Materials Inventory 4 680 00

The receiving report and the invoice are
Materials Price Variance 702 00
used to record the receipt of the
Accounts Payable 5 382 00
merchandise and to control the payment.

Material
Material Price
Price Variance
Variance
 9 -51

During
During thethe period
period 780,000
780,000 ounces
ounces ofof corn
corn
isis placed
placed into
into production.
production. The The
standard
standard quantity
quantity isis 873,000
873,000 ounces,
ounces,
and
and standard
standard price
price isis $0.006.
$0.006.

Work in Process 5 238 00

The receiving report and the invoice are
Materials Usage Variance 558 00
used to record the receipt of the
Materials Inventory 4 680 00
merchandise and to control the payment.

Material
Material Usage
Usage Variance
Variance
 9 -52
During
During the the period
period thethe firm
firm has
has 360
360 actual
actual
inspection
inspection hours,
hours, while
while thethe standard
standard hours
hours
for
for the
the units
units produced
produced isis 339.5
339.5 hours.
hours. The
The
actual
actual rate
rate isis $7.35
$7.35 per per hour
hour while
while the
the
standard
standard raterate isis $7.00
$7.00 per
per hour.
hour.

Work in Process 2 376 00

The receiving report and the invoice are
Labor Efficiency Variance 143 50
used to record the receipt of the
Labormerchandise
Rate Variance and to control the payment.
126 00
Accrued Payroll 2 646 00

Labor
Labor Variances
Variances
 9 -53

At
At the
the end
end of
of the
the year,
year, the
the variances
variances for
for
materials
materials and
and labor
labor are
are usually
usually closed
closed to
to
Cost
Cost ofof Goods
Goods Sold.
Sold.

Cost of Goods Sold 971 50

The receiving report and the invoice are
Material Price Variance 702 00
used to record the receipt of the
Labor Efficiency Variance
merchandise and to control the payment. 143 50
Labor Rate Variance 126 00

Closing
Closing Variances
Variances
 9 -54

At
At the
the end
end of
of the
the year,
year, the
the variances
variances for
for
materials
materials and
and labor
labor are
are usually
usually closed
closed to
to
Cost
Cost ofof Goods
Goods Sold.
Sold.

Material Usage Variance 558 00

The receiving report and the invoice are
Cost of Goods Sold 558 00
used to record the receipt of the
merchandise and to control the payment.

Closing
Closing Variances
Variances
 9 -55

Chapter Nine

The
The End
End
9 -56