Standard Costing and Variance Analysis
Standard Costing and Variance Analysis
Standard Costing and Variance Analysis
Code BA2/KS/05
Standard Costing and Variance Analysis
Standard
Standard is a pre-determined estimate for a future period. Standards are developed per unit. Any
estimate for the total activity is known as a budget.
The standard cost may be stored on a standard cost card like the one shown below but nowadays it is
more likely to be stored on a computer, perhaps in a database. Alternatively, it may be stored as part of
a spreadsheet so that it can be used in the calculation of variances.
Standard costing
A control technique which compares standard cost and revenues with actual results to obtain variances
which are then often used to stimulate improved performance.
The CIMA Terminology defines standard costing as a “a control technique that reports variances by
comparing actual costs to pre-set standards facilitating action through management by exception”.
Looking at the above definition, standard costing has 4 main steps to be followed.
1. Developing standards
2. Comparing actual against standards
3. Variance analysis (identifying possible causes for the deviations)
4. Decision making based on the information derived to improve future performance
1. Past information
• Previous standards and past actual information are the best sources of information to develop
standards into the future.
• Depending on the deviations in the past, future standards will be decided.
4. Set specifications
• Level of quality of the work undertaken will be another deciding factor of the standards.
• If the organization is producing a quality output they should set standards to purchase quality
materials so that the price they are planning to pay is set at a higher level.
5. Environmental factors
• These are the external factors like political, economic, social legal and technological (PEST
factors) which are common to any organization.
• Additionally, customers, suppliers and competitor information should also be considered before
setting standards into the future.
2. Attainable standard
A standard set keeping allowances for normal problems is known as attainable standard. Such a
standard should be achievable but challenging.
3. Current standard
A standard set based on current performance is known as current standard. Their disadvantage is
that they do not encourage any attempt to improve on current level of efficiency.
4. Basic standard
A basic standard is one which is kept unchanged over period.
Standard Actual
Variance
Purchased or used depends on the stock valuation method. If the stocks are valued at standard,
variance is identified at purchased place (purchased figure should be taken). But, if the stocks
are valued based on actual, variance is only identified with usage (used figure should be taken).
• Formula;
Idle hours X Standard labour rate per hour
Sales Variances
Traditionally, total sales variance is not calculated.
This depends on the overhead cost accounting system used. If absorption costing is used standard profit
taken (sales volume profit variance should be calculated). If marginal costing is used standard contribution
is taken (sales volume contribution variance should be calculated).
Operating Statements
A document that gives the original plan, and the deviations (through variances) is normally known as an
operating statement.
• This is also known as statement of reconciliations
Profit reconciliation
This is a reconciliation between the budgeted profit and actual profit.
+ Favourable Variances X
+ Favourable Variances X
Points to remember:
• Budgeted contribution = Std contribution per unit X Budgeted sales units
• Actual contribution = All the items are valued at the actual
• Sales volume contribution variance used is sales volume contribution variance
• Fixed overhead variances are excluded since we do not consider fixed overheads to calculate the
contribution
Since organisations are different from each other possible reasons behind their variances are also likely
to be different. Some of generally possible reasons are as follows.
1. Incorrect standards
• Adverse variance – Ideal standard (hard)
• Favourable variance – Attainable standard (easy)
2. Efficient/inefficient operations/controls
• Adverse variance – inefficient operations
• Favourable variance – efficient operations
Material usage -Standard usage set too high -Standard usage set too low
-Higher-quality material used -Lower-quality material used
-A higher grade of worker used the -A lower grade of worker used the
material more efficiently material less efficiently
-Stricter quality control -Theft
Labour rate -Standard rate set too high -Standard rate set too low
-Lower grade of worker used -Higher grade of worker used
Labour efficiency -Standard hours set too high -Standard hours set too low
-Higher grade of worker -Lower grade of worker
-Higher grade of material was -Lower grade of material was
quicker to process slower to process
-More efficient working through -Less efficient working due to poor
improved motivation motivation
Variable -Standard hourly rate set too high - Standard hourly rate set too low
overhead
expenditure Since overheads consist of a number of items, (indirect material, indirect
labour, maintenance costs, power etc) any meaningful interpretation of
the expenditure variance must focus on individual cost items.
Sales volume Increased marketing activity led to Quality control problems resulted
contribution higher than budgeted sales volume in lower than budgeted sales
volume
Standard hour
Sometimes it can be difficult to measure the output of an organization which manufactures a variety of
dissimilar items (table, chair, cupboard etc).
A standard hour is a useful way of measuring output when a number of dissimilar items are manufactured.
Units Produced
Table 7 4
Chair 5 2
Cupboard 3 5
15 11
Table 3 hours
Chair 1 hour
Cupboard 5 hours
Std hours per Units Std hours Std hours per Units Std hours
unit unit
Table 3 7 21 3 4 12
Chair 1 5 5 1 2 2
Cupboard 5 3 15 5 5 25
41 39
$ Per unit
Sales 10000 units 100.00
Costs
Direct material - A 3kg @ 5/ kg 15.00
B 2kg @ 3/ kg 6.00
Direct labour – Skill 2 Hrs @ 10/ Hr 20.00
Unskill 1 Hr @ 5/ Hr 5.00
Variable prod overhead (3Hrs @ 5/ Hr) 15.00
Fixed production overhead 20.00 (81.00)
19.00
Actual information for the same period is as follows.
Calculate possible variances and reconcile the budged and actual profit assuming actual skilled
labour includes idle time of 100 hours.
8. ABC Ltd uses standard costing. It purchases a small component for which the following data are
available:
9. During a period 17,500 labour hours were worked at a standard cost of £6.50 per hour. The labour
efficiency variance was £7,800 favourable. The number of standard labour hours expected for the
output achieved was:
A. 1,200
B. 16,300
C. 17,500
D. 18,700
10. XYZ Ltd uses standard costing. It makes an assembly for which the following standard data are
available:
During a period 850 assemblies were made, there was a nil rate variance and an adverse efficiency
variance of £4,400.
How many actual labour hours were worked?
A. 19,850
B. 20,400
C. 20,950
D. 35,200
The standard price of the meal is £4.50 and the budgeted sales volume is 4,650 meals each period.
During period 9 a total of 4,720 meals were sold for £20,768. The actual total variable cost per meal was
£2.30.
13. The standard cost card for product F shows that each unit requires 3 kg of material at a standard
price of £9 per kilogram. Last period, 200 units of F were produced and £5,518 was paid for 620 kg
of material that was bought and used. Calculate the following variances and tick the correct box to
indicate whether each variance is adverse or favourable.
Adverse Favourable
15. The budgeted sales of product Y are 230 units per period at a standard sales price of £43 per unit.
Last
period the sales volume contribution variance was £1,100 favourable and all units were actually sold
for £46 per unit. The sales price variance was £840 favourable.
During this period, there was a power failure. This meant that all work had to stop for 2 hours.
16. If the company reports idle time separately, the labour efficiency variance for the period is:
A. £126 favourable
B. £142 favourable
C. £66 adverse
D. £126 adverse
19. The direct material usage variance for last period was £3,400 adverse. Which of the following
reasons could have contributed to this variance? (Tick all that apply.)
20. If employees are more skilled than had been allowed for in the original standard cost, which four of
the following variances are most likely to result?
29. Which TWO of the following is a possible cause of an adverse labour efficiency variance?
A. The original standard hours were set too high
B. The employees were more skilled than had been planned for
C. Production volume was lower than budget
D. An ideal standard was used for labour time
E. A lower quality of material was used in production
30. Which TWO of the following statements regarding standard costing are correct?
A. Standard costing is a useful technique in dynamic environments
B. Standard costing is less useful in today’s environment because simply achieving standard is no
longer seen as acceptable
C. Standard costing has been criticized as it generally places emphasis on labour variances which is
no longer appropriate with the increasing use of automated production techniques
D. Standard costing is only really useful in manufacturing environments
E. Standard costing encourages companies to strive for continuous improvements