Standard costs are predetermined unit costs used to measure performance. They are set by management and involve input from those responsible for costs and quantities. Standards distinguish budgets, which are total amounts, from standards, which are unit amounts. Variances are calculated by comparing actual costs to standard costs and are analyzed and reported to facilitate management decision making.

2. Standard Costs
 Distinguish between a standard and a budget.
 Identify the advantages of standard costs.
 Describe how standards are set.
 State the formulas for determining direct materials and
direct labor variances.
 State the formulas for determining manufacturing overhead
variances.
 Discuss the reporting of variances.
Our Focus

3. The Need for Standards
 Standards
• Are common in business
• Are often imposed by government agencies (and
called regulations)
 Standard costs
• Are predetermined unit costs
• Used as measures of performance

4. Distinguishing Between Standards and
Budgets
 Standards and budgets are both
• Pre-determined costs
• Part of management planning and control
 A standard is a unit amount whereas a
budget is a total amount
• Standard costs may be incorporated into a cost accounting
system

5. Advantages of Standard Costs

6. Setting Standard Costs
 Setting standard costs
• Requires input from all persons who have responsibility for
costs and quantities
• Standards costs need to be current and should be under
continuous review
 There are two levels of standard costs
• Ideal standards represent optimum levels of performance
under perfect operating conditions
• Normal standards represent efficient levels of performance
attainable under expected operating conditions (rigorous but
attainable)

7. Direct Materials Price Standard
 Direct materials price standard
• Cost per unit which should be incurred
• Based on the purchasing department’s best estimate of the cost
of raw materials
• Includes related costs such as receiving, storing, and handling

8. Direct Materials Quantity
Standard
 Direct materials quantity standard
• Quantity of direct materials used per unit of finished goods
• Based on physical measure such as pounds, barrels, etc.
• Considers both the quantity and quality of materials required
• Includes allowances for unavoidable waste and normal storage

9. Total Direct Materials
Cost/Unit
STANDARD
DIRECT
MATERIALS
PRICE
x =
STANDARD
DIRECT
MATERIALS
QUANTITY
STANDARD
DIRECT
MATERIALS COST
PER UNIT
 The standard direct materials cost per
unit is calculated as follows

10. Direct Labor Price Standard
 Direct labor price standard
• Rate per hour incurred for direct labor
• Based on current wage rates adjusted for anticipated
changes, such as cost of living adjustments
• Includes employer payroll taxes,and fringe benefits

11. Direct Labor Quantity Standard
 Direct labor quantity standard
• Time required to make one unit of the product
• Critical in labor-intensive companies
• Allowances should be made for rest periods, cleanup,
machine setup and machine downtime

12. Direct Labor
 The standard direct labor cost per unit is
calculated as follows
STANDARD
DIRECT
LABOR RATE
x =
STANDARD
DIRECT
LABOR HOURS
STANDARD
DIRECT
LABOR COST
PER UNIT

13. Manufacturing Overhead Standard
 For manufacturing overhead, a standard
predetermined overhead rate is used
• The predetermined rate is computed by dividing budgeted
overhead costs by an expected standard activity index
• The standard manufacturing overhead rate per unit is the
predetermined overhead rate times the activity index quantity
standard (for example, direct labor hours)

14. Standard Cost Per Unit
 Standard cost per unit
• Sum of the standard costs for direct materials, direct labor, and
manufacturing overhead
• Is determined for each product and often recorded on a standard cost
card which provides the basis for determining variances from standards
materials
labour Manufacturing
Overheads

15. Variances from Standards
 Variances from standards
• Differences between total actual costs and total
standard costs
• Unfavorable variances occur when too much is paid
for materials and labor or when there are inefficiencies
in using materials and labor
• Favorable variances occur when there are efficiencies
in incurring costs and in using materials and labor
– A variance is not favorable if quality control standards are
sacrificed

16. Analyzing variances
 Variances must be analyzed to
determine their significance
• First, determine the cost elements that comprise the
variance
• For each manufacturing cost element, a total dollar
variance is computed. Then this variance is analyzed
into a price variance and a quantity variance

17. Variance Relationships

18. Formula for Total
Materials Variance
Actual Quantity
x Actual Price
(AQ) x (AP)
Standard Quantity
x Standard Price
(SQ) x (SP)
Total Materials
Variance
(TMV)
=
_
The total materials variance is computed
from the following formula:

19. Formula for Materials
Price Variance
Actual Quantity
x Actual Price
(AQ) x (AP)
Actual Quantity
x Standard Price
(SQ) x (SP)
Materials Price
Variance
(MPV)
=
_
The materials price variance is
computed from the following formula:

20. Formula for Materials
Quantity Variance
Actual Quantity
x Standard Price
(AQ) x (SP)
Standard Quantity
x Standard Price
(SQ) x (SP)
Materials
Quantity
Variance
(MQV)
=
_
The materials quantity variance is
determined from the following formula:

21. Matrix for Direct
Materials Variance
AQ X AP
4200 X 3.10=13020
AQ XSP
4200 X 3.00 =12,600
SQ XSP
4000 X3= 12,000
1 - 2
Price Variance
13,020-12,600
=Rs 420 UF
2 - 3
Quantity Discount
12,600- 12,000
=Rs 600 uf
1-3
Total Variance
13,020-12,000
=Rs 1020 UF
1 2 3

22. Causes of Materials Variances
 Materials variances may be caused by a
variety of factors, including both
internal and external factors
• Investigating materials price variances begins in the
purchasing department, but the variance may be beyond
the control of purchasing (for ex., prices rise faster than
expected)
• Investigating materials quantity variance begins in the
production department, but the variance may be beyond
the control of production (for ex., faulty machinery)

23. Formula for Total
Labor Variance
Actual Hours
x Actual Rate
(AH) x (AR)
Standard Hours
x Standard Rate
(SH) x (SR)
Total Labor
Variance
(TLV)
=
_
The total labor variance is obtained
from the following formula:

24. Formula for Labor Price Variance
Actual Hours
x Actual Rate
(AH) x (AR)
Actual Hours
X Standard Rate
(AH) x (SR)
Labor Price
Variance
(LPV)
=
_
The formula for the labor price variance
is as follows:

25. Formula for
Labor Quantity Variance
Actual Hours
x Standard Rate
(AH) x (SR)
Standard Hours
x Standard Rate
(SH) x (SR)
Labor
Quantity
Variance
(LQV)
=
_
The labor quantity variance is derived
from the following formula:

26. Matrix for Direct
Materials Variance
AH X AR
2100 X 9.80=20580
AH XSR
2100 X 10 =21,000
SH XSR
2000 X10= 20,000
1 - 2
Price Variance
20,580-21,000
=Rs 420 F
2 - 3
Quantity Variance
21,000- 20,000
=Rs 1000 uf
1-3
Total Variance
20,580-20,000
=Rs 580UF
1 2 3

27. Causes of Labor Variances
 Labor variances may be caused by a
variety of factors
• Labor price variances usually result from either paying
workers higher wages than expected or misallocating
workers (for ex., using skilled workers in place of
unskilled workers)
• Labor quantity variances relate to the efficiency of
workers and are usually related to the production
department

28. Actual Overhead Costs
The total overhead variance is the
difference between actual overhead costs
and overhead costs applied to work done.

29. Formula for Total
Overhead Variance
Actual
Overhead
Overhead
Applied based
on Standard
Hours Allowed
Total
Overhead
Variance
=
_
With standard costs, manufacturing
overhead costs are applied to work in
process on the basis of the standard hours
allowed for the work done. Standard hours
allowed are the hours that should have been
worked for the units produced. The formula
for the total overhead variance is:

30. Formula for Overhead
Controllable Variance
Actual
Overhead
Overhead
Budgeted based
on Standard
Hours Allowed
Overhead
Controllable
Variance
=
_
The formula for the Overhead
Controllable Variance is shown below:

31. Formula for
Overhead Volume Variance
Fixed
Overhead
Rate
Normal Capacity
Hours - Standard
Hours Allowed
Overhead
Volume
Variance
=
X
The Overhead Volume Variance indicates whether
fixed costs were efficiently used during the period.
The formula for computing the volume variance is
as follows:

32. Alternative Formula for Overhead
Volume Variance
Overhead
Budgeted based
on Standard
Hours Allowed
Overhead
Applied based
on Standard
Hours Allowed
Overhead
Volume
Variance
=
_
An alternative formula for computing
the volume variance is shown below:

33. Causes of Manufacturing Overhead
Variances
 Manufacturing overhead variances may be
caused by a variety of factors
• The controllable variance relates to variable
manufacturing costs and usually is the responsibility of
the production department
• May result from either higher than expected use of indirect materials, indirect
labor or supplies or increases in indirect manufacturing costs such as fuel
• The volume variance may be the responsibility of the
production department (inefficient use of direct labor
hours) or may come from outside the production
department (lack of sales orders)

34. Reporting Variances
 Reporting variances
• All variances should be reported to appropriate levels of
management as soon as possible so that corrective action
can be taken
• The form, content, and frequency of variance reports
vary considerably among companies
• Variance reports facilitate the principle of “management
by exception”
• In using variance reports, top management normally
looks for significant variances

35. Let’s Review
The setting of standards is:
a. A managerial accounting decision.
d. Preferably set at the ideal level of
performance.
c. A worker decision.
b. A management decision

36. Let’s Review
The setting of standards is:
a. A managerial accounting decision.
d. Preferably set at the ideal level of
performance.
c. A worker decision.
b. A management decision