economic development principles in business

economic

1. Chapter 5:
Standard Costs and Variances

2. Learning Objectives
1.Distinguish between a standard and a
budget.
2.Identify the advantages of a standard cost.
3.Describe how companies setstandards.
4.State the formulas for determining direct
materials and direct labor variances.
5.State the formulas for determining the total
manufacturing overhead variance
6.Discuss the reporting of variances.

3. Standard Costs
Standard cost
are predetermined unit costs,
which companies use as
measure of performance.

4. Standard Costs and Budgets
Both standards and budgets are
predetermined costs and both
contribute to management planning
and control.
The difference is:-
1.Standard cost is the cost of a single
unit.
2.Budgeted cost is the cost of the total
units.

5. Advantages of Standard Costs
1.Standard costs offer a number of
advantages to organization such as:
Facilitate management planning.
Promote greater economy by making
employees more “ cost-conscious”.
Useful in setting selling prices.
Contribute to management control by
providing basis for evaluation of cost
control.

6. Advantages of Standard Costs
(Continued)
Useful in highlighting variances
in management by exception.
Simplify costing of inventories
and reduce clerical costs.

7. Ideal Versus Normal Standards
Companies set standard at one of two
levels: ideal or normal.
1.Ideal standards(perfection standards):
represent optimum levels of
performance under perfect operating
conditions.
2.Normal Standards: represent efficient
levels of performance that are attainable
under expected operating conditions.

8. Ideal Versus Normal
Standards (Continued)
Most companies use standard at a
normal level. Normal standard should
be rigorous but attainable.

9. Standards for manufacturing
cost elements
Direct Materials Direct Labor Manufacturing
Overhead
Direct
materials
price
standard
Direct
materials
quantity
standard
Direct labor
price
standard
Direct labor
quantity
standard
Standard
manufacturi
ngoverhead
rate
Standard
manufacturi
ngoverhead
quantity
Is the cost
per unit of
direct
material or
cost of raw
material,
based on
current
purchase
price.
the quantity
ofdirect
material
should be
used per unit
of finished
goods
The rate per
hour should
be incurred
fordirect
labor, based
on current
wage rate.
The time
shouldbe
required to
make one
unit of
product.
Is
determined
by dividing
budgeted
overhead
costs by an
standard
activity
index.
Is the
activity
index
quantity
standard.
Such as uses
direct labor
hours as it’s
activity
index.

10. Example 5-1

11. Analyzing and Reporting
Variances from standards
Standard cost systems allow for comparison
of total standard costs versus total actual
costs.
Differences are referred variances.
Variance is expressed in total dollars.
When actual costs > standard costs: the
variance is unfavorable(negative connection).
When actual costs < standard costs: the
variance is favorable (positive connection).

12. Direct Material Variance
Total material variance = Material price
variance+ Material quantity variance.
Material price variance= (AP –SP) x AQ
p
(AP) = actual price per unit of material.
(SP) = standard price per unit of direct
material.
(AQ
p
) = actual quantity of material
purchased.

13. Direct Material Variance (Continued)
Material quantity variance= (AQ
u
–SQ)SP.
(AQ
u
) = actual quantity of material used.
(SQ) = standard quantity of material allowed.
(SP) = standard price of material.

14. Example 5-2

15. Direct Labor Variance
Total labor variance = Labor price variance+
Labor quantity variance.
Labor rate (price) variance= (AR –SR)AH
(AR) = actual wage rate (price).
(SR) = standard wage rate (price).
(AH) = actual labor hours.

16. Direct Labor Variance (Continued)
Labor quantity (efficiency) variance=
(AH –SH)SR
(AH) = actual number of hours worked.
(SH) = standard number of hours
worked.
(SR) = standard labor wage rate.

17. Example 5-3

18. Example 5-3 (continued)

19. Example 5-3 (continued)

20. Cases of labor variance
Labor price variances result from two factors:-
1.Paying workers different wages than expected.
2.Misallocation of workers.
When workers are not unionized, the manager who
authorized the wage change is responsible for the
changing wages.
The production department generally is responsible
for labor price variances resulting from Misallocation
of the workforce.

21. Cases of labor variance
Labor quantity variances:-
1.Relates to the efficiency of workers.
2.Also the responsibility of the
production department.

22. Manufacturing Overhead
Variances
The overhead variance is generally analyzed
through a price and a quantity variance.
Overhead controllable variance is referred to the
price variance.
Overhead volume variance is referred to the
quantity variance.

23. Example 5-4

24. Example 5-4 (continued)