Standard Costing and Analysis of

Direct Costs

Chapter 10

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Managing CostsManaging Costs

Standardcost

Actualcost

Comparison between standard and actual

performancelevel

Costvariance

10-2

Perfection versus Practical Perfection versus Practical Standards: A Behavioral IssueStandards: A Behavioral Issue

Should we usepractical standards

or perfection standards?

Practical standardsshould be set at levels

that are currentlyattainable with reasonable andefficient effort.

10-3

I agree. Perfection standards are

unattainable and therefore discouraging

to most employees.

Perfection versus Practical Perfection versus Practical Standards: A Behavioral IssueStandards: A Behavioral Issue

10-4

Standard Cost Variances

Cost Variance AnalysisCost Variance Analysis

Quantity VariancePrice Variance

The difference betweenthe actual price and the

standard price.

The difference betweenthe actual quantity andthe standard quantity.

10-5

A General Model for Variance A General Model for Variance Analysis Analysis

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

Price Variance Quantity Variance

Materials price variance Materials quantity variance Labor rate variance Labor efficiency variance Variable overhead Variable overhead spending variance efficiency variance

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

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

10-6

A General Model for Variance A General Model for Variance Analysis Analysis

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

Price Variance Quantity Variance

Standard price is the amount that should have been paid for the resources acquired.

10-7

A General Model for Variance A General Model for Variance Analysis Analysis

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

Price Variance Quantity Variance

Standard quantity is the quantity that should have been used.

10-8

Significance of Cost VariancesSignificance of Cost Variances

1. Size of variance1. Dollar amount2. Percentage of

standard

2. Recurring variances3. Trends4. Controllability5. Favorable variances6. Costs and benefits

of investigation

What clues help me to determine the

variances that I should investigate?

10-9

If I buy cheaper materials, my direct-materials expenses will be lower than

what is budgeted. Then I’ll get my bonus. But we may lose customers because of

lower quality.

Behavioral Impact of Standard Behavioral Impact of Standard CostingCosting

10-10

Interaction among VariancesInteraction among Variances

I am not responsible for the unfavorable labor

efficiency variance!

You purchased cheapmaterial, so it took more

time to process it.

You used too much time because of poorly

trained workers and poor supervision.

10-11

Standard Costs and Product Standard Costs and Product CostingCosting

Standard material and labor costsare entered into Work-in-Process inventory instead of actual costs.

Standard material and labor costsare entered into Work-in-Process inventory instead of actual costs.

Standard cost variancesare closed directly toCost of Goods Sold.

Standard cost variancesare closed directly toCost of Goods Sold.

10-12

Advantages of Standard CostingAdvantages of Standard CostingManagement by

Exception

Stable Product Costs

Sensible CostComparisons

Advantages

PerformanceEvaluation

EmployeeMotivation

10-13

Criticisms of Standard CostingCriticisms of Standard CostingNot specific

Focus on cost minimization

Too aggregate, too late

DisadvantagesToo much focus on direct-labor

Narrow definition

Stable production required

Shorter life cycles

10-14

Use of Standard CostsUse of Standard Costsfor Product Costingfor Product Costing

Actual quantity atstandard cost

Raw-material Inventory

Unfavorable Favorablevariance variance

Direct-Material Price Variance

Actual quantity atactual cost

Accounts Payable

10-15

Unfavorable Favorablevariance variance

Direct-Material Quantity Variance

Standard quantityat standard price

Work-in-Process Inventory

Use of Standard CostsUse of Standard Costsfor Product Costingfor Product Costing

Actual quantity atstandard cost

Raw-material Inventory

10-16

Unfavorable Favorablevariance variance

Direct-Labor Rate Variance

Actual quantity atactual cost

Wages Payable

Standard quantityat standard price

Work-in-Process Inventory

Use of Standard CostsUse of Standard Costsfor Product Costingfor Product Costing

Unfavorable Favorablevariance variance

Direct-Labor Efficiency Variance

10-17

Use of Standard CostsUse of Standard Costsfor Product Costingfor Product Costing

Unfavorable Favorablevariance variance

Cost of Goods Sold

10-18