1. Chapter 10 Standard Costing: A Managerial Control Tool
COPYRIGHT © 2012 Nelson Education Ltd.

2. Learning Objectives
Explain how units 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 variances should be investigated
Compute the materials variances and explain how they are used for control
Compute the labour variances, and explain how they are used for control
(Appendix) Prepare journal entries for materials and labour variances

3. OBJECTIVE  1
Explain how unit standards are set and why standard cost systems are adopted

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

5. Quantity & Price Decision
The amount of input that should be used per unit of output
Quantity Standard
The amount that should be paid for the quantity of input to be used
Price Standard
Quantity Standard × Price Standard = Unit Standard

6. Unit Standard & Development of Standards
Used to enhance cost control
Budgeted ‘unit’ costs
Unlike budgets which contain aggregate amounts of total revenue and total costs
Quantity Standards are developed by:
Historical experience
Engineering studies
Input from operating personnel

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

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

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

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

11. Costs are assigned to products using standards for:
Product Costing
Costs are assigned to products using standards for:
Direct materials quantity
Direct materials price
Direct labour quantity
Direct labour price
Overhead quantity
Overhead price

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

13. Explain the purpose of a standard cost sheet
OBJECTIVE  2
Explain the purpose of a standard cost sheet

14. Example: Cornerstone 10-1
HOW TO Compute Standard Quantities Allowed (SQ and SH)
Information:
Assume that 100,000 packages of corn chips are produced during the first week of March
Unit quantity standard is 18 grams of yellow corn per package
Unit quantity standard for machine operators is 0.01 hour per package produced
Required:
For the actual output of 100,000 packages:
How much yellow corn should have been used?
How many operator hours should have been used?

15. Example SQ x = SQ = 18 x 100,000 SQ = 1,800,000 grams Corn allowed:
Unit Quantity Standard
Actual Output SQ x =
Standard quantity of materials allowed SQ = 18 x
100,000 SQ =
1,800,000 grams

16. Example SH x = SH = 0.01 x 100,000 SH = 1,000 direct labour hours
Operator hours allowed:
Unit Quantity Standard
Actual Output SH x =
Standard hours allowed SH =
0.01 x
100,000 SH =
1,000 direct labour hours

17. OBJECTIVE  3
Describe the basic concepts underlying variance analysis, and explain when variances should be investigated

18. 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

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

20. Price (Rate) Variance - Actual Price Standard Price
Number of inputs used - x
Favourable variance = Actual price is less than standard price
Unfavourable variance = Actual price is greater than standard price

21. Usage (Efficiency) Variance
Actual Quantity
Standard Quantity
Standard Unit Price - x
Favourable variance = Actual quantity is less than standard quantity
Unfavourable variance = Actual quantity is greater than standard quantity

22. 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

23. Example: Cornerstone 10-2
HOW TO Control Limits to Trigger a Variance Investigation
Information:
Standard cost: $100,000; allowable deviation: $10,000; actual costs for six months:
June
$97,500
September
$102,500
July
105,000
October
107,500
August
95,000
November
112,500
Required:
Plot the actual costs over time against the upper and lower control limits. Determine when a variance should be investigated

24. Acceptable Range (Don’t Investigate)
Example
$120,000
110,000
Acceptable Range (Don’t Investigate)
Standard
100,000
90,000
June
July
August
September
October
November

25. Example $120,000 Investigate 110,000 100,000 90,000 June July August
September
October
November

26. OBJECTIVE  4
Compute the materials variances, and explain how they are used for control

27. Example: Cornerstone 10-3
HOW TO Calculate the Total Variance for Materials
Information:
Unit standards: Standard price: $0.01 per gram Standard usage: 18 grams Actual results for the first week in March: Actual production: 48,500 bags of corn chips Actual cost of corn: 780,000 grams at $0.015
Required:
Calculates the total variance for corn for the first week in March

28. Example Corn $11,700 Total variance for corn: Actual Costs
Budgeted Costs
Total Variance – =
AQ x AP
780,000 grams x $0.015
Corn
$11,700

29. Example Corn $11,700 $8,730 Total variance for corn: Actual Costs
Budgeted Costs
Total Variance – =
SQ x SP
(18 grams x 48,500 bags)
x $0.01
Corn
$11,700 –
$8,730

30. Example Corn $11,700 $8,730 $2,970 U Total variance for corn:
Actual Costs
Budgeted Costs
Total Variance – =
Corn
$11,700 -
$8,730 =
$2,970 U

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

32. Direct Materials Variances
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
MUV =
(AQ
– SQ) SP

33. Example: Cornerstone 10-4
HOW TO Calculate Materials Variances:
Formula and Columnar Approaches
Information:
Unit standards: Standard price: $0.01 per gram Standard usage: 18 grams Actual results for the first week in March: Actual production: 48,500 bags of corn chips Actual cost of corn: 780,000 grams at $0.015
Required:
Calculates the materials price and usage variance using the 3-pronged (columnar) and formula approaches

34. Materials Price Variance
Example
Formula Approach
Materials Price Variance
MPV =
(AP
– SP) AQ
MPV =
($0.015
– $0.01)
780,000
MPV =
$3,900 U

35. Materials Usage Variance
Example
Formula Approach
Materials Usage Variance
MUV =
(AQ
– SQ) SP
MUV =
[780,000
– (18 x 48,500)]
($0.01)
MUV =
$930 F

36. Example Columnar Approach 1. AQ x AP $11,700 2. AQ x SP $7,800
3. SQ x SP $8,730
780,000 x $0.015
780,000 x $0.01
(18 x 48,500) x $0.01

37. Example Columnar Approach 1. AQ x AP $11,700 2. AQ x SP $7,800
3. SQ x SP $8,730
Price Variance (1 – 2) $3,900 U
Usage Variance (2 – 3) $930 F

38. Example Columnar Approach 1. AQ x AP $11,700 2. AQ x SP $7,800
3. SQ x SP $8,730
Price Variance (1 – 2) $3,900 U
Usage Variance (2 – 3) $930 F
Total Variance (1 – 3) $2,970 U

39. 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

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

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

42. Accounting and Disposition of Materials Variances
Materials variances are ADDED to cost of goods sold if they are UNFAVOURABLE
Materials variances are SUBTRACTED from cost of goods sold if FAVOURABLE

43. Direct Labour Variances
Labour Rate Variance
Computes the difference between what was paid to direct labourers and what should have been paid
LRV =
(AR
– SR) x AH

44. Direct Labour Variances
Labour Efficiency Variance
Measures the difference between the labour hours that were actually used and the labour hours that should have been used.
LEV =
(AH
– SH) SR

45. Compute the labour variances and explain how they are used for control
OBJECTIVE  5
Compute the labour variances and explain how they are used for control

46. Example: Cornerstone 10-5
HOW TO Calculate the Total Variance for Labour
Information:
Unit standards: Standard price: $8.00 per hour Standard usage: 0.01 hours Actual results for the first week in March: Actual production: 48,500 bags of corn chips Actual cost of corn: 360 $8.35
Required:
Calculate the total variance for inspection labour for the first week in March

47. Example Actual Costs Budgeted Costs Total Variance - = AQ x AP SQ x SP
Total variance for inspection labour:
Actual Costs
Budgeted Costs
Total Variance - =
AQ x AP
SQ x SP
Inspection labour
$3, $3,880 = $874F

48. Example: Cornerstone 10-6
How to Calculate Labour Variances:
Formula and Columnar Approaches
Information:
Unit standards: Standard price: $8.00 per hour Standard usage: 0.01 hours Actual results for the first week in March: Actual production: 48,500 bags of corn chips Actual cost of corn: 360 $8.35
Required:
Calculate the labour rate and efficiency variances using the 3-pronged (columnar) and formula approaches

49. Example LRV = (AR – SR) AH Formula Approach Labour Rate Variance LRV =
($8.35
– $8.00)
360
LRV =
$126 U

50. Labour Efficiency Variance
Example
Formula Approach
Labour Efficiency Variance
LEV =
(AH
– SH) SR
LEV =
(360
– )
$8.00
0.01 x 48,500
LEV =
$1,000 F

51. Example Columnar Approach 1. AH x AR $3,006 2. AH x SR $2,880
3. SH x SR $3,880
360 x $8.35
360 x $8.00
(0.01 x 48,500) x $8.00

52. Example Columnar Approach 1. AH x AR $3,006 2. AH x SR $2,880
3. SH x SR $3,880
Price Variance (1 – 2) $126 U
Usage Variance (2 – 3) $1,000 F

53. Example Columnar Approach 1. AH x AR $3,006 2. AH x SR $2,880
3. SH x SR $3,880
Price Variance (1 – 2) $126 U
Usage Variance (2 – 3) $1,000 F
Total Variance (1 – 3) $874 F

54. Causes of Labour Rate Variance
Labour rates are determined by external forces as labour markets and union contracts
Labour rates can vary when:
more skilled and more highly paid labourers are used for less skilled tasks
unexpected overtime occurs

55. Responsibility for the Labour Efficiency Variance
Production managers are responsible for the use of direct labour
But once the cause is discovered, responsibility may be assigned elsewhere