Standard Costs and Variances

Chapter 10

PowerPoint Authors:
Susan Coomer Galbreath, Ph.D., CPA
Charles W. Caldwell, D.B.A., CMA
Jon A. Booker, Ph.D., CPA, CIA
Cynthia J. Rooney, Ph.D., CPA
McGraw-Hill/Irwin Copyright 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
 10-2

Standard Costs
Standards are benchmarks or norms for
measuring performance. In managerial accounting,
two types of standards are commonly used.

Quantity standards Price standards

specify how much of an specify how much
input should be used to should be paid for
make a product or each unit of the
provide a service. input.

Examples: Firestone, Sears, McDonalds, hospitals,

construction, and manufacturing companies.
 10-3

Standard Costs
Deviations from standards deemed significant
are brought to the attention of management, a
practice known as management by exception.

Standard
Amount

Direct
Material
Direct Manufacturing
Labor Overhead

Type of Product Cost

 10-4

Variance Analysis Cycle

 10-5

Setting Standard Costs

Should we use I recommend using practical
ideal standards that standards that are currently
require employees to attainable with reasonable
work at 100 percent and efficient effort.
peak efficiency?

Engineer Managerial Accountant

 10-6

Setting Direct Materials Standards

Standard Price Standard Quantity
per Unit per Unit

Final, delivered Summarized in

cost of materials, a Bill of Materials.
net of discounts.
 10-7

Setting Direct Labor Standards

Standard Rate Standard Hours
per Hour per Unit

Often a single Use time and

rate is used that reflects motion studies for
the mix of wages earned. each labor operation.
 10-8

Setting Variable Manufacturing

Overhead Standards
Price Quantity
Standard Standard

The rate is the The quantity is

variable portion of the the activity in the
predetermined overhead allocation base for
rate. predetermined overhead.
 10-9

A General Model for Variance Analysis

Variance Analysis

Quantity Variance Price Variance

Difference between Difference between

actual quantity and actual price and
standard quantity standard price
 10-10

Quantity and Price Standards

Quantity and price standards are
determined separately for two reasons:

The purchasing manager is responsible for raw

material purchase prices and the production manager
is responsible for the quantity of raw material used.

The buying and using activities occur at different times.

Raw material purchases may be held in inventory for a
period of time before being used in production.
 10-11

A General Model for Variance Analysis

Variance Analysis

Quantity Variance Price Variance

Materials quantity variance Materials price variance

Labor efficiency variance Labor rate variance
VOH efficiency variance VOH rate variance
 10-12

A General Model for Variance Analysis

Actual quantity is the amount of direct materials, direct
labor, and variable manufacturing overhead actually used.

(1) (2) (3)

Standard Quantity Actual Quantity Actual Quantity
Allowed for Actual Output, of Input, of Input,
at Standard Price at Standard Price at Actual Price
(SQ SP) (AQ SP) (AQ AP)

Quantity Variance Price Variance

(2) (1) (3) (2)

Spending Variance
(3) (1)
 10-13

A General Model for Variance Analysis

Standard quantity is the standard quantity allowed
for the actual output of the period.

(1) (2) (3)

Standard Quantity Actual Quantity Actual Quantity
Allowed for Actual Output, of Input, of Input,
at Standard Price at Standard Price at Actual Price
(SQ SP) (AQ SP) (AQ AP)

Quantity Variance Price Variance

(2) (1) (3) (2)

Spending Variance
(3) (1)
 10-14

A General Model for Variance Analysis

Actual price is the amount actually
paid for the input used.

(1) (2) (3)

Standard Quantity Actual Quantity Actual Quantity
Allowed for Actual Output, of Input, of Input,
at Standard Price at Standard Price at Actual Price
(SQ SP) (AQ SP) (AQ AP)

Quantity Variance Price Variance

(2) (1) (3) (2)

Spending Variance
(3) (1)
 10-15

A General Model for Variance Analysis

Standard price is the amount that should
have been paid for the input used.

(1) (2) (3)

Standard Quantity Actual Quantity Actual Quantity
Allowed for Actual Output, of Input, of Input,
at Standard Price at Standard Price at Actual Price
(SQ SP) (AQ SP) (AQ AP)

Quantity Variance Price Variance

(2) (1) (3) (2)

Spending Variance
(3) (1)
 10-16

Responsibility for Materials

Variances
Materials Quantity Variance Materials Price Variance

Production Manager Purchasing Manager

The standard price is used to compute the quantity variance

so that the production manager is not held responsible for
the purchasing managers performance.
 10-17

Responsibility for Labor Variances

Production managers are Mix of skill levels
usually held accountable assigned to work tasks.
for labor variances
because they can
Level of employee
influence the:
motivation.

Quality of production
supervision.

Quality of training
provided to employees.
Production Manager
 10-18

Advantages of Standard Costs

Management by Promotes economy

exception and efficiency

Advantages
Enhances
Simplified responsibility
bookkeeping accounting
 10-19

Potential Problems with Standard Costs

Emphasizing standards Favorable
may exclude other variances may
important objectives. be misinterpreted.
Potential
Problems
Standard cost Emphasis on
reports may negative may
not be timely. impact morale.

Invalid assumptions Continuous

about the relationship improvement may
between labor be more important
cost and output. than meeting standards.
 10-20

Fixed Overhead Volume Variance

Fixed Budgeted Actual
Overhead Fixed Fixed
Applied Overhead Overhead
SH FR DH FR

Volume
variance
Volume variance = FPOHR (DH SH)

FPOHR = Fixed portion of the predetermined overhead rate

DH = Denominator hours
SH = Standard hours allowed for actual output
 10-21

Fixed Overhead Budget Variance

Fixed Budgeted Actual
Overhead Fixed Fixed
Applied Overhead Overhead

Budget
variance

Actual Budgeted
Budget
= fixed fixed
variance
overhead overhead
 10-22

Reconciling Overhead Variances and

Underapplied or Overapplied Overhead
In a standard
cost system:

Unfavorable Favorable
variances are equivalent variances are equivalent
to underapplied overhead. to overapplied overhead.

The sum of the overhead variances

equals the under- or overapplied
overhead cost for the period.
 10-23

Cost Flows in a Standard Cost System

Inventories are recorded at standard cost.

Variances are recorded as follows:
Favorable variances are credits, representing
savings in production costs.
Unfavorable variances are debits, representing
excess production costs.
Standard cost variances are usually closed out
to cost of goods sold.
Unfavorable variances increase cost of goods sold.
Favorable variances decrease cost of goods sold.
 10-24

End of Chapter 10