Chapter 10

Are standards the same as budgets?

A standard is the expected cost for one

unit.

A budget is the expected cost for all

units.

Standards vs. Budgets

Standard Costs

Provide benchmarks formeasuring performance.

Establish the expected levelof performance.

Based on carefullypredetermined amounts.

Used for planning material, labor,and overhead requirements.Standard

Costs are

Standard Costs

DirectLabor

Managers focus on quantities and coststhat exceed standards, a practice known as

management by exception.

Type of Product Cost

Am

ou

nt

DirectMaterial

ManufacturingOverhead

Standard

Setting Standard CostsPractical standards

should be set at levelsthat are currently

attainable withreasonable andefficient effort.

Setting Standard CostsI agree. Ideal standards,

that are based on perfection, are

unattainable and discourage most

employees.

Standard Cost Card – Variable Production Cost

A standard cost card for one unit of product might look like this:

A A x BStandard Standard StandardQuantity Price Cost

Inputs or Hours or Rate per Unit

Direct materials 3.0 lbs. 4.00$ per lb. 12.00$ Direct labor 2.5 hours 14.00 per hour 35.00 Variable mfg. overhead 2.5 hours 3.00 per hour 7.50 Total standard unit cost 54.50$

B

A General Model for Variance Analysis

Variance Analysis

Price Variance

Difference betweenDifference betweenactual price and actual price and standard pricestandard price

Quantity Variance

Difference betweenDifference betweenactual quantity andactual quantity andstandard quantitystandard quantity

A General Model for Variance Analysis

AQ(AP - SP) SP(AQ - SQ)

AQ = Actual Quantity SP = Standard Price AP = Actual Price SQ = Standard Quantity

Price Variance Quantity Variance

Actual Quantity Actual Quantity Standard Quantity × × × Actual Price Standard Price Standard Price

Standard Cost VariancesP

rod

uct

Co

st

Standard

This variance is unfavorablebecause the actual cost

exceeds the standard cost.

A standard cost variance is the amount by whichan actual cost differs from the standard cost.

Standard Cost Variances

I see that thereis an unfavorable

variance.

But why arevariances

important to me?

First, they point to causes ofproblems and directions

for improvement.

Second, they trigger investigations in departments

having responsibility for incurring the costs.

Setting Direct Material Standards

PriceStandards

Summarized in a Bill of Materials.

Final, deliveredcost of materials,net of discounts.

QuantityStandards

Price variance Quantity variance

Actual Quantity Actual Quantity Standard Quantity × × × Actual Price Standard Price Standard Price

Material Variances Summary

Materials Price VarianceMaterials Quantity Variance

Production Manager Purchasing Manager

The standard price is used to compute the quantity varianceso that the production manager is not held responsible for

the purchasing manager’s performance.

The standard price is used to compute the quantity varianceso that the production manager is not held responsible for

the purchasing manager’s performance.

Responsibility for Material Variances

Setting Direct Labor Standards

RateStandards

Often a singlerate is used that reflectsthe mix of wages earned.

TimeStandards

Use time and motion studies for

each labor operation.

Rate variance Efficiency variance

Actual Hours Actual Hours Standard Hours × × × Actual Rate Standard Rate Standard Rate

Labor Variances Summary

Responsibility for Labor Variances

Production Manager

Production managers and H. R. managers are usually held

accountablefor labor variancesbecause they can

influence the:

Mix of skill levelsassigned to work tasks.

Level of employee motivation.

Quality of production supervision.

Quality of training provided to employees.

Setting Variable Manufacturing Overhead

Standards RateStandards

The rate is the variable portion of the

predetermined overhead rate.

QuantityStandards

The quantity is the activity in the allocation

base used for predetermined overhead.

Rate variance Efficiency variance

Actual Hours Actual Hours Standard Hours × × × Actual Rate Standard Rate Standard Rate

Variable Manufacturing Overhead Variances Summary

Responsibility for Overhead Variances

Production Manager

Production managers areusually held accountablefor overhead variances

because they caninfluence the:

Costs incurred on the shop floor.

Quality of production supervision.

Variable Overhead Variances – A Closer Look

Rate Variance Efficiency Variance

Results from paying moreor less than expected foroverhead items and from

excessive usage ofoverhead items.

Controlled bymanaging the

overhead cost driver.

Variance Analysis and Management by Exception

How do I knowwhich variances to

investigate?

Larger variances, in dollar amount or as a

percentage of the standard, are

investigated first.

Advantages of Standard CostsManagement by

exception

Improved cost control and performance

evaluation

Better Informationfor planning anddecision making

Possible reductionsin production costs

Advantages

PotentialProblems

Emphasis on negativemay impact morale.

Emphasizing standardsmay exclude other

important objectives.

Favorable variancesmay be misinterpreted.

Continuous improvementmay be moreimportant than

meeting standards.

Standard costreports may

not be timely.

End of Chapter 10