Standard costing and variance analysis

effective - definition

An operation is effective if it has attained or exceeded its goals.

efficient - definition

An operation is efficient if it has not wasted resources

What will help in determining effectiveness?

Comparing actual results with the master budget

The Flexible Budget

May be prepared for any activity; Show revenues and expenses that should have occurred at the actual activity; Improve performance evaluation level in the relevant range; Reveal variances due to good cost control or lack of cost control

What we need to know to flex a budget for different activity?

how costs behave with changes in activity levels – Total variable costs change in direct proportion to changes in activity – Total fixed costs remain unchanged within the relevant range

Sales volume variance may be a result of:

1. The market price for the product has changed. The total demand for the product grows (declines) at a rate higher then expected then expected 2. The firm lost its market share to competitors 3. The firm failed to set a proper goal for the period

Standard costs are:

Based on carefully predetermined amounts; Used for planning labor, material and overhead requirements; Benchmarks for measuring performance; The expected level of performance

standard cost variance

A standard cost variance is the amount by which an actual cost differs from the standard cost; This variance is unfavorable because the actual cost exceeds the standard cost

types of standards

An ideal standard, A currently attainable standard

ideal standard?

demands perfect implementation and maximum efficiency in every aspect of the operation

A currently attainable standard?

sets the performance criterion at a level that person with proper training and experience can attain most of the time without having to exert extraordinary effort

Non-financial Measures

Friendly service; On-time delivery; Quality; Cleanliness; Value

sources of standards

Activity analysis; Historical data; Sources of Standards; Benchmarking; Market expectation; Strategic decisions

Standard-Setting Procedures

An authoritative standard; A participative standard

An authoritative standard

is determined solely or primarily by management

A participative standard

calls for active participation throughout the standard-setting process by employees affected by the standard

What are direct material standards?

Price standards, usage standards.

What are direct labor standards?

Rate standards, efficiency standards

What is standard cost sheet?

A standard cost sheet specifies the standard costs (including both price and quantity) for all manufacturing cost elements in the production of one unit of elements in the production of one unit of a product

What is selling price variance?

is the difference between the total sales revenues received and the total sales revenues in the flexible budget for the units sold during the period budget for the units sold during the period

How do we divide standard cost variances?

On price variance - difference between the actual price and the standard price; And efficiency variance - the difference between the actual quality and standard quality

Causes of DM price variances?

– Purchase of materials of different grade; Quantity discounts; Freight/delivery expediting cost (“rush orders”)

Causes of DM quantity variances

– Purchase of non-standard quality materials; Poorly trained or poorly supervised workers; Poorly maintained machinery (not calibrated properly)

causes of DL rate variances?

Labor substitution; Out-of-date standards (e.g., new labor contract)

Causes of DL efficiency variances

Poorly trained workers; Poor quality raw materials used in production; Poorly maintained equipment; Poor supervision of workers; Out-of-date standards

What is total operating income variance?

The difference between actual operating income and master budgeted operating income

Through the introduction of a flexible budget based on actual output, the total operating income variance is broken down into:

A total flexible-budget variance, and; A sales-volume variance = budgeted cm/unit x (actual – budgeted) sales in units

What are the Standard Costs for Factory Overhead?

variable overhead like energy costs, indirect materials, indirect labor; and fixed overhead like factory managers salaries, plant and equipment depreciation

Establishing the Standard Cost for Variable Factory Overhead

Determine the behavioral patterns of variable factory overhead costs; Select one or more appropriate activity measures; Choose the levels of operation and estimate the Choose the levels of operation and estimate the total variable factory overhead and the total variable factory overhead; Compute the standard variable factory overhead Compute the standard variable factory overhead rate

Determining a Standard Variable Factory Overhead Rate

Decide the level of operation; Determine total variable factory overhead for the operation; Select an activity base for variable factory overhead and determine the amount for the operation; Divide the amount in 2 by the amount in 3 to arrive at the standard variable overhead rate.

What is the total variance?

Spending variance and efficiency variance

Standards overhead rate is?

The amount that should have been paid for the resources acquired.

Standard quantity is?

The quantity allowed for the actual good output.

What is spending variance?

Results form paying more or less than expected for overhead items such as supplies and utilities.

What is efficiency variance

A function of the selected activity measure. It does not reflect overhead control.

Interpretation of (variable) spending variance?

Results from spending more or less than expected for overhead items such as supplies and uilities.

Interpretation of (variable) efficiency variance?

Reflects efficiency or inefficiency in the use of the selected activity meaasure. Does not reflect overhead control

Interpretation of fixed spending variance?

Results from paying more or less than expected for overhead items

Interpretation of fixed volume variance

Results from the inability to operate at the activity budgeted for the period.

Interpretation of fixed spending variance

Results form spending more or less than expected for individual fixed overhead items. That is, spending on individual fixed overhead items was different than planned.

Interpretation of production volume variance

Results from operating at the level other than the denominator volume level. Arises because of the product-costing purpose of fixed overhead. Not of direct interest for control purposes

Causes of Fixed Overhead Variances

• Spending (Budget) Variance: – Ineffective budget procedures – Inadequate control of costs Misclassification of cost items – Misclassification of cost items • Production Volume Variance: – Management decisions – Unexpected changes in market demand – Unforeseen problems in manufacturing operations