1 Copyright © 2008 Cengage Learning South-Western. Heitger/Mowen/Hansen Standard Costing: A Managerial Control Tool Chapter Eight Fundamental Cornerstones of Managerial Accounting

2 Explain how units standards are set and why standard cost systems are adopted. Objective # 1

3 Unit Standards Developing standards enhances control. Need to determine the unit standard cost for a particular input Two decisions: Quantity decision Pricing decision

4 Quantity Decision The amount of input that should be used per unit of output Called “Quantity Standard”

5 Price Decision The amount that should be paid for the quantity of input to be used. Called “Price Standard” Quantity Standard x Price Standard = Unit Standard

6 Unit Standard Used to enhance cost control Are budgeted ‘unit’ costs ◦Unlike budgets which contain aggregate amounts of total revenue and total costs

7 Development of Standards Historical experience Engineering studies Input from operating personnel Quantity Standards are developed by:

8 Development of Standards Operations Purchasing Price Standards are the joint responsibility of: Personnel Accounting

9 Types of Standards Ideal standards --- demand maximum efficiency and can be achieved only if everything operates perfectly Currently attainable standards --- can be achieved under efficient operating conditions

10 Why Standard Cost Systems Are Adopted Two reasons: To improve planning and control To facilitate product costing

11 Planning and Control Actual costs are compared to budgeted costs and variances are computed Standards: Enhance planning and control Improve performance management Fundamental requirement for a flexible budgeting system

12 Product Costing Costs are assigned to products using standards for: Direct materials quantity Direct materials price Direct labor quantity Direct labor price Overhead quantity Overhead price

13 Standard Costing Advantages: Greater capacity for control Provides readily available unit cost information Simplifies cost assignments in both process and job costing systems

14 Explain the purpose of a standard cost sheet. Objective # 2

15 Example Corn allowed: SQ = Unit Quantity Standard x Actual Output Standard quantity of materials allowed

16 Example SQ = Unit Quantity Standard x Actual Output 18 x 100,000 = = SQ 1,800,000 ounces

17 Example Operator hours allowed: SH = Unit Quantity Standard x Actual Output Standard hours allowed

18 Example Operator hours allowed: SH = Unit Quantity Standard x Actual Output 0.01 x 100,000 = = SH 1,000 direct labor hours

19 Describe the basic concepts underlying variance analysis, and explain when variances should be investigated. Objective # 3

20 Variance Analysis Components SP = Standard unit price of an input SQ = Standard quantity of input for the actual output AP = Actual price per unit of the input AQ = Actual quantity of the input used

21 Total Budget Variance Total Variance = Actual Cost – Planned Cost (AP x AQ) (SP x SQ) –

22 Price (Rate) Variance Actual Price - Standard Price Number of inputs used Favorable variance = Actual price is less than standard price Unfavorable variance = Actual price is greater than standard price x

23 Usage (Efficiency) Variance Actual Quantity - Standard Quantity Standard Unit Price Favorable variance = Actual quantity is less than standard quantity Unfavorable variance = Actual quantity is greater than standard quantity x

24 The Decision to Investigate Performance rarely meets established standards exactly Random variations around the standard are expected Management should determine an acceptable range of performance

25 Cornerstone 9-2 HOW TO Use Control Limits to Trigger a Variance Investigation

26 Example Information: Standard cost: $100,000; allowable deviation: $10,000; actual costs for six months: June July August $97, ,000 95,000 $102,500 September October 107,500 November 112,500 Required: Plot the actual costs over time against the upper and lower control limits. Determine when a variance should be investigated.

27 Example June July August 90, , ,000 September October November $120,000 Standard Acceptable Range (Don’t Investigate)

28 Example June July August 90, , ,000 September October November $120,000 Investigate

29 Compute the materials variances, and explain how they are used for control. Objective # 4

30 MPV = (AP AQ – SP) x Materials Price Variance Measures the difference between what should have been paid for raw materials and what was actually paid Direct Material Variances

31 MUV = (AQ SP – SQ) Materials Usage Variance Measures the difference between the direct materials actually used and the direct materials that should have been used for the actual output Direct Material Variances

32 Responsibility for the Materials Price Variance Belongs to the purchasing agent Price can be influenced by: ◦Quality ◦Quantity discounts ◦Distance of the source from the plant

33 Responsibility for the Materials Usage Variance Belongs to the production manager Variance can be influenced by minimizing: ◦Scrap ◦Waste ◦Rework

34 Analysis of the Variances First step: Decide whether the variance is significant Second step: Find out why it occurred

35 Accounting and Disposition of Materials Variances Materials variances are ADDED to cost of goods sold if they are UNFAVORABLE. Materials variances are SUBTRACTED from cost of goods sold if FAVORABLE

36 LRV = (AR AH - SR) Labor Rate Variance Computes the difference between what was paid to direct laborers and what should have been paid Direct Labor Variances

37 LEV = (AH SR – SH) Labor Efficiency Variance Measures the difference between the labor hours that were actually used and the labor hours that should have been used Direct Labor Variances

38 Objective # 5 Compute the labor variances and explain how they are used for control.

39 Causes of Labor Rate Variance Labor rates are largely determined by such external forces as labor markets and union contracts. Labor rates can vary when: ◦More skilled and more highly paid laborers are used for less skilled tasks ◦Unexpected overtime occurs

40 Responsibility for the Labor Efficiency Variance Generally speaking, production managers are responsible for the use of direct labor But once the cause is discovered, responsibility may be assigned elsewhere.