1. STANDARD COSTING A MANAGERIAL CONTROL TOOL Slides by: Perpetua D. Cahayag

2. Learning Objectives: Explain how unit standards are set and why standard cost systems are adopted. Explain the purpose of a standard cost sheet. Describe the basic concepts underlying variance analysis and explain when variance should be investigated. Compute the material variances and labor variances with the explanation of how they are used for control

3. UNIT STANDARDS COST CONTROL- the difference between success and failure or between above average profits and lesser profits. For example: A certain company had a specific plan to produce 883 trucks for a given month at a cost of P41 million. In reality they produced 1,228 units at a cost of 48 million pesos.

4. Does the P48 million associated with 1,228 trucks was consistent with the original plan or not? Were production cost in control or not? Cost per unit= Total cost/total units

5. Therefore, cost per unit for both scenarios can be calculated as follows: BudgetedActual Cost per unit= P46,433P39,088 There is a favorable variance of P7,345 per truck, about 16% savings.

6. Two Decisions Must be Made to Determine Unit Standard Cost 1.The quantity decision- the amount of input that should be used per unit of output. It produces quantity standards 2. The pricing decision- the amount that should be paid for the quantity of the input to be used. -Produces price standards Standard cost per unit= QS*PS

7. Example A soft drink bottling company may decide that 5 ounces of fructose should be used for every 16-ounce bottle of cola ( the quantity standard) and the price of fructose should be P.05 per ounce. The standard cost per unit is P0.25. If the 10,000 bottles of cola are produced, how much is the total expected cost of fructose?

8. HOW STANDARDS ARE DEVELOPED 3 potential sources of quantitative standards: 1.Historical experience- it can provide guideline for setting standards, but should be used with caution because they can perpetuate existing inefficiencies. 2.Engineering studies-it can identify efficient approaches and can provide rigorous guidelines, but they are often too rigorous. 3.Input from operating personnel- they are accountable for meeting standards, they should have significant input in setting standards.

9. TYPES OF STANDARDS 1.Ideal standards (perfection standards): developed under the assumption that no obstacles to the production process will be encountered.Ideal standards 2.Currently Attainable Standards: developed under the assumption that there will be occasional problems in the production process.Currently Attainable Standards

10. Why Standard Cost System are Adopted 1. Planning and Control Enhances planning and control and improves performance evaluation Identifies variances ( difference between the actual and planned costs for the actual level of activity)

11. Why Standard Cost System are Adopted 2. Product Costing In standard costing, costs are assigned to products using quantity and price standards for all three manufacturing costs: Direct materials, direct labor and overhead. In actual costing system, it assigns the actual costs of the 3 manufacturing inputs to products. Normal costing system- it predetermines overhead costs for the purpose of product costing but assigns actual direct costs to products by using actual costs.

12. Cost Assignment Approaches Standard NormalActual Costing Costing Costing Direct Materials Standard ActualActual Direct Labor Standard ActualActual Overhead Standard BudgetedActual

13. STANDARD PRODUCT COSTS In manufacturing firms, SC is developed for DM, DL and OH. Using these costs, SC/unit is computed. The standard cost sheet provides the production data needed to calculate the standard unit cost.

14. STANDARD PRODUCT COSTS

15. The standard cost sheet also shows the quantity of each input that should be used to produce one unit of output. The unit quantity standards can be used to compute the total amount of inputs allowed for the actual output. This computation is an essential component in computing efficiency variances. A manager should be able to compute the standard quantity of materials allowed (SQ) and the standard hours allowed (SH) for the actual output.

16. SQ= Unit Quantity Standard *Actual Output SH= Unit Labor Standard *Actual Output Reasons for Computing Standard Quantities Allowed (SQ and SH) 1. Used to calculate the total inputs allowed for the actual output( by multiplying the unit quantity standard by the actual output produced) 2. It can be used for planning 3. For control by comparing allowed inputs with actual inputs used.

17. Illustration: Assume that 100,00 packages of corn chips are produced during the first week of March. Recall from the previous exhibit that the unit quantity standard is 18 ounces of yellow corn per package and the unit quantity standard for machine operators is 0.01 hours/packaged produced. How much yellow corn and how many operator hours should be used for actual output of 100,000 packages?

18. Solution: Corn allowed: SQ= Unit Quantity Standard x Actual Output =18 x 100,000 =1,800,000 ounces Operator hours allowed: SH= Unit Labor Standard x Actual Output =0.01 x 100,000 =1,000 direct labor hours

19. VARIANCE ANALYSIS Actual input cost can be calculated as: Actual Cost = AP x AQ Where AP= Actual Price per Unit AQ= Actual Quantity of Input Used It is also possible to calculate the costs that should have been incurred for the actual level of activity. Planed Cost= SP x SQ Where SP=Standard Price per Unit SQ= Standard Quantity of Input Allowed for the Actual Output

20. TOTAL BUDGET VARIANCE It is the difference between actual cost of the input and its planned cost Total Variance= Actual Cost-Planned Cost =(AP x AQ)- (SP x SQ)

21. PRICE AND USAGE VARIANCES Price (rate) variance = (AP- SP) x AQ Usage Variance= ( AQ-SQ) x SP Unfavorable (U) variances occur whenever actual price or actual usage of inputs are greater than standard prices or standard usage. When the opposite occurs, favorable variances (F) are obtained.

22. Formula: Price Variance= (AP x AQ) – (SP x AQ) = (AP –SP) x AQ Usage Variance= (SP x AQ) – (SP x SQ) = (AQ- SQ) x SP Total Variance= (AP x AQ)- (SP x SQ)

23. VARIANCE ANALYSIS: MATERIALS The total variance for materials measures the difference between the actual costs of the materials and their budgeted costs for the actual level of activity: Total Materials Variance= Actual Costs- Planned Cost =(AP x AQ)- (SP x SQ)

24. CALCULATING THE TOTAL VARIANCES FOR MATERIALS The total direct materials variance is the difference between the actual cost of materials and the standard cost of materials. The total variance can be due to a difference between actual and planned prices or between actual and standard quantities or both.

25. Corn chips example The actual result for the first week of March are: Actual Production48,500 bags of corn chips Actual cost of corn780,000 ounces @.015= P11,700 Actual cost of inspection labor360 hours @ P8.35= P3,006 Required: Calculate the total variance for corn for the first week of March

26. Solution: Actual Costs Budgeted CostTotal Variance AP x AQ SP x SQ (AP*AQ)-(SP*SQ) 780,00*.015 873,000*.01 11,700-8,730 =P11,700= P8,730 = P2,970

27. Calculating Materials Variances: Formula and Columnar Approaches Computing the MPV (direct material variance) and the MUV ( direct materials usage) tells managers how much of the total direct materials variance is due to price and how much is due to usage. The more detailed information then enables a manager to exercise a better control over his input.

28. Illustration: The actual results for the 1 st week of March are: Actual production48,500 bags of corn chips Actual cost of corn780,000 ounces@P0.015ounces@P0.015 Solution: 1.Formula (recommended approach for materials variances because materials purchased may differ from materials used) MPV= (AP-SP)*AQ =(0.015-0.01)*780,000 =P3,900 U MUV= (AQ-SQ)*SP =(780,000-873,000)*.01 P930

29. Columnar( this approach is possible only if materials purchased equal materials used)

30. VARIANCE ANALYSIS: DIRECT LABOR The total labor variance measures the difference between the actual cost of labor and their budgeted costs for the actual level of activity: Total Labor Variance=(AR*AH)-(SR*SH) Where AH= Actual Direct Labor Used SH= Standard hours Allowed AR= Actual Hourly Wage Rate SR= Standard Hourly Rate

31. Calculating The Total Variance for Labor Reason: The total variance can be due to a difference between actual and planned wage rates, or between actual hours worked or a combination of both Illustration: The actual result for the first week in March are: Actual Production48,500 bags of corn chips Actual cost of inspection labor 360 hrs. @P8.35 = P3,006

32. Calculate the total labor variance for inspection labor: Solution: Actual cost Budgeted Cost Total Variance AR*AH SR*SH (AR-AH)- (SR*SH) Ins. L P3,006P8*485P3,006-3,880 = P3,880= P874 F

33. DIRECT LABOR VARIANCES Labor variances cannot be purchased and stored for future use as can be done with materials (there can be no difference between the amount of labor purchased and the amount of labor used). Therefore, unlike the total materials variance, the labor rate and labor efficiency variances always will add up to the total labor variance. Total Labor Variance= Labor Rate Variance+ Labor Efficiency Variance

34. DIRECT LABOR VARIANCES LRV( labor rate variance) computes the difference between what was paid to direct laborers and what should have been paid. Thus LRV= (AR-SR)*AH LEV (labor efficiency variance) measures the difference between the labor hours that were actually used and the labor hours that should have been used. LEV= (AH-SH)*SR

35. Example Actual Production48,500 bags of corn chips Actual cost of inspection labor 360 hrs. @P8.35 Solution: LRV= (AR-SR)*AH = (8.35-8.00)*360 =P126.00 U LEV= (AH-SH)*SR = (360-485)*P8.00 = P1,000.00 F Total Variance= P126.00-P1,000.00 = P874.00 F