PowerPoint Authors:Susan Coomer Galbreath, Ph.D., CPACharles W. Caldwell, D.B.A., CMAJon A. Booker, Ph.D., CPA, CIACynthia J. Rooney, Ph.D., CPA
Standard Costs and Variances
Chapter 10
McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
10-2
Standard CostsStandards are benchmarks or “norms” for
measuring performance. In managerial accounting,two types of standards are commonly used.
Quantity standardsspecify how much of aninput should be used to
make a product orprovide a service.
Price standardsspecify how muchshould be paid foreach unit of the
input.
Examples: Firestone, Sears, McDonald’s, hospitals, construction, and manufacturing companies.
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Standard Costs
DirectMaterial
Deviations from standards deemed significantare brought to the attention of management, apractice known as management by exception.
Type of Product Cost
Am
ou
nt
DirectLabor
ManufacturingOverhead
Standard
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Variance Analysis Cycle
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Setting Standard Costs
Should we useideal standards that require employees towork at 100 percent
peak efficiency?
Engineer Managerial Accountant
I recommend using practical standards that are currently
attainable with reasonable and efficient effort.
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Setting Direct Materials Standards
Standard PriceStandard Priceper Unitper Unit
Summarized in a Bill of Materials.
Final, deliveredcost of materials,net of discounts.
Standard QuantityStandard Quantityper Unitper Unit
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Setting Direct Labor Standards
Use time and motion studies for
each labor operation.
Standard HoursStandard Hoursper Unitper Unit
Often a singlerate is used that reflectsthe mix of wages earned.
Standard RateStandard Rateper Hourper Hour
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Setting Variable Manufacturing Overhead Standards
The rate is the variable portion of the
predetermined overhead rate.
PriceStandard
The quantity is the activity in the
allocation base for predetermined overhead.
QuantityQuantityStandardStandard
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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
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Quantity and Price Standards
Quantity and price standards are Quantity and price standards are determined separately for two reasons:determined separately for two reasons:
The purchasing manager is responsible for raw material purchase prices and the production manager is responsible for the quantity of raw material used.
The purchasing manager is responsible for raw material purchase prices and the production manager is responsible for the quantity of raw material used.
The buying and using activities occur at different times. Raw material purchases may be held in inventory for a period of time before being used in production.
The buying and using activities occur at different times. Raw material purchases may be held in inventory for a period of time before being used in production.
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Variance Analysis
Materials price varianceMaterials price varianceLabor rate varianceLabor rate varianceVOH rate varianceVOH rate variance
Materials quantity varianceMaterials quantity varianceLabor efficiency varianceLabor efficiency varianceVOH efficiency varianceVOH efficiency variance
A General Model for Variance Analysis
Quantity Variance Price Variance
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A General Model for Variance Analysis
Actual quantity is the amount of direct materials, direct labor, and variable manufacturing overhead actually used.
Quantity Variance(2) – (1)
Price Variance(3) – (2)
(1)Standard Quantity
Allowed for Actual Output,at Standard Price
(SQ × SP)
(2)Actual Quantity
of Input,at Standard Price
(AQ × SP)
(3)Actual Quantity
of Input,at Actual Price
(AQ × AP)
Spending Variance(3) – (1)
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A General Model for Variance Analysis
Standard quantity is the standard quantity allowed for the actual output of the period.
Quantity Variance(2) – (1)
Price Variance(3) – (2)
(1)Standard Quantity
Allowed for Actual Output,at Standard Price
(SQ × SP)
(2)Actual Quantity
of Input,at Standard Price
(AQ × SP)
(3)Actual Quantity
of Input,at Actual Price
(AQ × AP)
Spending Variance(3) – (1)
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A General Model for Variance Analysis
Actual price is the amount actuallypaid for the input used.
Quantity Variance(2) – (1)
Price Variance(3) – (2)
(1)Standard Quantity
Allowed for Actual Output,at Standard Price
(SQ × SP)
(2)Actual Quantity
of Input,at Standard Price
(AQ × SP)
(3)Actual Quantity
of Input,at Actual Price
(AQ × AP)
Spending Variance(3) – (1)
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A General Model for Variance Analysis
Quantity Variance(2) – (1)
Price Variance(3) – (2)
(1)Standard Quantity
Allowed for Actual Output,at Standard Price
(SQ × SP)
(2)Actual Quantity
of Input,at Standard Price
(AQ × SP)
(3)Actual Quantity
of Input,at Actual Price
(AQ × AP)
Spending Variance(3) – (1)
Standard price is the amount that shouldhave been paid for the input used.
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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 Materials Variances
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Responsibility for Labor Variances
Production Manager
Production managers areusually held accountable
for 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.
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Advantages of Standard Costs
Management byexception
Advantages
Promotes economy and efficiency
Simplifiedbookkeeping
Enhances responsibility
accounting
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PotentialProblems
Emphasis onnegative may
impact morale.
Emphasizing standardsmay exclude other
important objectives.
Favorablevariances may
be misinterpreted.
Continuous improvement maybe more important
than meeting standards.
Standard costreports may
not be timely.
Invalid assumptionsabout the relationship
between laborcost and output.
Potential Problems with Standard Costs
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FPOHR = Fixed portion of the predetermined overhead rate DH = Denominator hours SH = Standard hours allowed for actual output
SH × FR DH × FR
Fixed Overhead Volume Variance
Volume variance FPOHR × (DH – SH)=
FixedOverheadApplied
ActualFixed
Overhead
BudgetedFixed
Overhead
Volumevariance
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Budget variance
Fixed Overhead Budget Variance
Budgetvariance
Budgetedfixed
overhead
Actualfixed
overhead= –
FixedOverheadApplied
ActualFixed
Overhead
BudgetedFixed
Overhead
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Reconciling Overhead Variances and Underapplied or Overapplied Overhead
In a standardIn a standardcost system:cost system:
Favorablevariances are equivalentto overapplied overhead.
The sum of the overhead variancesequals the under- or overapplied
overhead cost for the period.
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Cost Flows in a Standard Cost System
Inventories are recorded at standard cost.
Variances are recorded as follows: Favorable variances are credits, representing
savings in production costs. Unfavorable variances are debits, representing
excess production costs.
Standard cost variances are usually closed out to cost of goods sold. Unfavorable variances increase cost of goods sold. Favorable variances decrease cost of goods sold.
Inventories are recorded at standard cost.
Variances are recorded as follows: Favorable variances are credits, representing
savings in production costs. Unfavorable variances are debits, representing
excess production costs.
Standard cost variances are usually closed out to cost of goods sold. Unfavorable variances increase cost of goods sold. Favorable variances decrease cost of goods sold.
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End of Chapter 10