Standard Costing and Variance

Analysis as applied to Cost

Control
CHAPTER 06
Cost Control

 Cost control leads to cost reduction.

 Strategically,cost management techniques should
support the strategic position of the entity.
 Setting
standard costs would help an entity control
and mange it accordingly.
Standard Costs

 Arethe scientifically predetermined costs of

manufacturing a single unit or a number of units
of product or of rendering a service during a
specified future period.
 No single standard costing technique or
determination is appropriate for all situations.
Development of a standard cost system

 A primary objective in manufacturing a product is

to minimize unit cost while achieving certain
quality specification.
 Almost all products can be manufactured from a
variety of alternative inputs that would generate
similar output and output quality.
Where do standards information come from?

 Cost accounting
 Industrial engineering
 Human resources
 Data processing
 Purchasing
 Management
Development of standard for materials

 The first step in developing standards for

materials is to identify and list the specific direct
materials to manufacture the product.
Development of standard for materials

Is there a product specification document?

YES NO Material specification can be determined by:

• Observing the production area
• Questioning product personnel
• Inspecting material requisitions
• Reviewing product-related cost accounts
USE THE
PRODUCTSPECIFICATION
DOCUMENT
Development of standard for materials

Four things that must be known about material

inputs in standards development:
 Type of material needed
 Quality of materials
 Quantity needed
 Price (cost) per unit
Development of standard for materials

Quality decisions
 Managers should remember that as material grade
rises, so generally does price (cost).
Development of standard for materials

When converting quantities into costs, companies

should make allowances for normal waste of
components.
Development of standard for materials

 When all quantity and price information is

available, component quantities are multiplied by
unit prices to obtain each component’s total cost.
 These totals are summed to determine the total
standard material cost of one unit of product.
Development of standard for labor

 Each production operation performed by workers

or by machinery should be identified.
 Inspecifying operations and movements, activities
such as clean-up, set-up rework are also
considered.
Development of standard for labor

In the development of effective labor standards,

information can be obtained from the following:
 Industrial engineering methods
 In-house time-and-motion studies
 Historical data
Development of standard for labor

What about in-house time-and-motion studies?

 It may result in employees engaging in slowdown
tactics when they are being monitored.
 Longer time being set as standard will then result
to labor efficiency variance being favorable.
Development of standard for labor

 Labor rate standards should reflect employee wages and related

employer costs for fringe benefits, social security contributions
and withholding taxes.
 When time and rate information are available, job task times are
multiplied by wage rates to generate the total of each operation.
 These totals are summed to provide the total standard labor cost
of one unit of product.
Development of standard for overhead

 Overhead standards reflect the company’s

predetermined manufacturing overhead rates.
 The most appropriate costing information will result
when overhead is assigned to separate cost pools
based on cost drivers and when overhead
allocations are made using different activity drivers.
Variance analysis applied in Cost control

 One of the major purpose of using a standard cost system is to aid

management in controlling the costs of production.
 Standards enable management to make periodic comparisons of actual
results with planned results.
 Differences that arise between actual results planned results with
planned results.
 Variance analysis is a technique that can be used by management to
measure performance, correct inefficiencies, and deal with the
accountability function.
Variance analysis for materials

Actual price Actual quantity

Point of Purchase

Material Price Variance

Standard price Actual quantity

Point of Usage

Material Quantity Variance

Standard price Standard quantity

Variance analysis for labor

Actual rate Actual hours

Labor Rate Variance

Standard rate Actual hours

Labor Efficiency Variance

Standard rate Standard hours

Variance analysis for overhead (4-way)

Actual variable Actual fixed

overhead overhead

FOH Spending
VOH Spending Variance Variance

Variable OH rate Budgeted fixed

X
overhead
Actual activity

VOH Efficiency FOH Volume Variance

Variance

Variable OH rate Standard fixed

X
overhead
Standard Activity
Variance analysis for overhead (3-way)

Actual variable overhead + Actual fixed overhead

Spending Variance
Variable OH rate
(Variable OH rate X Actual activity)
X + Budgeted fixed overhead
Actual activity

Efficiency Variance
Variable OH rate
(Variable OH rate X Standard Activity)
X + Budgeted fixed overhead
Standard Activity
Volume Variance
Variable OH rate
(Variable OH rate X Standard Activity)
X + Standard fixed overhead
Standard Activity
Variance analysis for overhead (2-way)

Actual variable overhead + Actual fixed overhead

Budget Variance

Variable OH rate
(Variable OH rate X Standard Activity)
X + Budgeted fixed overhead
Standard Activity
Volume Variance
Variable OH rate
(Variable OH rate X Standard Activity)
X + Standard fixed overhead
Standard Activity
Variance analysis for overhead (1-way)

Actual variable overhead + Actual fixed overhead

Total Overhead Variance

Variable OH rate
(Variable OH rate X Standard Activity)
X + Standard fixed overhead
Standard Activity
Integrated Problem
 Variance Analysis for Materials

AP X AQp
1.2 200,000 pounds = P 240,000
SP X AQp Material price
P 40,000 Unfavorable
variance
1 200,000 pounds = P 200,000
 Variance Analysis for Materials

SP X AQu
1 110,000 pounds = P 110,000
SP X SQ Material quantity
P 10,000 Unfavorable variance
100,000 pounds
1 50,000 units x 2 pounds = P 100,000
 Variance Analysis for Labor

AR X AH
14 6,000 pounds = P 84,000
SR X AH P 60,000 favorable Labor rate variance

15 6,000 hours = P 90,000

SR X Labor efficiency
SH P 15,000 Unfavorable variance
5,000 HOURS
15 50,000 x 0.10 hours = P 75,000
Variance analysis for overhead (4-way)
VARIABLE
Actual VOH

36,000 = P 36,000
VOH Spending
P 6,000 unfavorable variance
(VOHrate x AQ)

5 6,000 hours = P 30,000

VOH efficiency
P 5,000 Unfavorable variance
(VOHrate x SQ)
5,000 HOURS
5 50,000 x 0.10 hours = P 25,000

FIXED

Actual FOH
75,000 = P 75,000
FOH Spending
Budgeted FOH P 5,000 favorable variance
80,000 = P 80,000
FOH efficiency
Standard FOH P 20,000 favorable variance
100,000
(P80,000/4,000 std. hours) x (50,000units x 0.10) = P 100,000
Variance analysis for overhead (3,2,1-way)
Variance analysis for overhead
Price, Mix, and Yield Variance

 There are also companies that uses a combination of two or more

materials and employs two or more kinds of labor in order to
manufacture their products.
 The goal of an entity is to achieve the combination of materials that
would best support the desired product quality and output at the
least cost. However, in this perspective, the materials are
substitutes of each other.
 Mix is the term that refers to the combinations of materials or labor
employed in the product.
Material Mix and Yield Variances
Labor Mix and Yield Variances
Integrated Problem
Seafood Party Company makes delicious snacks made from crab, shrimps, and oysters. During
the month of April, the following was made available:
Material Mix and Yield Variances
Labor Mix and Yield Variances
THANK
YOU
Activity
 Get the variance analysis for materials, labor,
and overhead.
During the previous month, the following production specifics were done by Nestle Manufacturing:
 Produced 60,000 units Product A.
 Standard variable costs per unit:
Direct materials, 3 pounds @ P1.00 P3.00
Direct labor, 0.10 hours @ P20.00 P2.00
Variable manufacturing overhead, 0.10 hours @ P5.00 P0.50
 Fixed manufacturing overhead cost:
Monthly budget based on 50,000 units (50,000 std. hours) P150,000
 Actual production:
Direct materials purchased: 300,000 @ P1.20 P360,000
Direct materials used: 220,000 @ P1.20 P264,000
Direct labor: 8,000 hours @ P20 P160,000
Factory overhead, P95,000 fixed, P50,000 variable P145,000