GarCh10 -- Standard Costs

8/3/2019 GarCh10 -- Standard Costs

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Standard Costs4/26/04

Chapter 10


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The McGraw-Hill Companies, Inc., 2003McGraw-Hill/Irwin

Standard Costs

StandardCosts are

Predetermined.

Used for planning labor, materialand overhead requirements.

Benchmarks formeasuring performance.

Used to simplify theaccounting system.


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Standard Costs

DirectMaterial

Managers focus on quantities and coststhat differ from standards by a significant amount,a practice known as management by exception.

Type of Product Cost

Amount

DirectLabor Manufactur

ingOverhead

Standard


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Accountants, engineers, personnel

administrators, and production managers

combine efforts to set standards based onexperience and expectations.

Setting Standard Costs


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Should we usepractical standardsorideal standards?

Engineer Managerial

Accountant


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Practical standards should beset at levels that are currentlyattainable with reasonable and

efficient effort.

Production

manager


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I agree. Ideal standards,based on perfection,are unattainable and

discourage mostemployees.

Human Resources

Manager


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Note

The argument that ideal standards arediscouraging has been persuasive for manyyears. So normal defects and waste werebuilt into the standards.

In recent years, TQM and other initiativeshave sought to eliminate all defects andwaste.

Ideal standards, that allow for no waste, havebecome more popular.

The emphasis is on improvement over time, notattaining the ideal standards right now.


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Setting Direct MaterialStandards (example p. 428)

PriceStandards

Final, deliveredcost of materials,net of discounts.

QuantityStandards

Material required perspec plus allowance for

waste, etc.


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Setting Direct LaborStandards (example p. 429)

RateStandards

Use wage surveysand labor contracts,

include fringes.

TimeStandards

Time required tocomplete a unit of

product, use time and

motion study


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Setting Variable OverheadStandards (example p. 430)

RateStandards

The rate is thevariable portion of the

predetermined overhead

rate.

ActivityStandards

The activity is thebase used to apply

overhead to units of

product


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Standard Cost Card Variable Production Cost

A standard cost card for one unit ofproduct might look like this:

A A x B

Standard Standard Standard

Quantity Pr ice Cost

Inputs or Hours or Rate per Unit

Direct materials 3.0 lbs. 4.00$ per lb. 12.00$

Direct labor 2.5 hours 14.00 per hour 35.00

Variable mfg. overhead 2.5 hours 3.00 per hour 7.50

Total standard unit cost 54.50$

B


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Standard Cost Variances

Co

st

Standard

Thi

s vari

ancei

s unfavorablebecause the actual costexceeds the standard cost.

A standard cost variance is the amount by whichan actual cost differs from the standard cost.


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Mr.D: I see thatthere is anunfavorable

variance.

But why arevariances

important to me?

First, they point to causes ofproblems and directions

for improvement.

Second, they trigger

investigations in departmentshaving responsibility

for incurring the costs.


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Price Variance

The difference betweenthe actual price and the

standard price

Quantity Variance

The difference betweenthe actual quantity andthe standard quantity


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A General Model for VarianceAnalysis (Exhibit 10-3)

Actual Quantity Actual Quantity Standard Quantity

Actual Price Standard Price Standard Price

Price Variance Quantity Variance

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


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A General Model for VarianceAnalysis

Standard quantity is the quantity allowed forthe actual good produced.


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A General Model for VarianceAnalysis

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

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





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Favorable/UnfavorableVariances

IfAQ(AP-SP) = positive = unfavorable

(actual is greater than standard)

IfAQ(AP-SP) = negative = favorable

(actual is less than standard)

If SP

(A

Q-SQ) = positive = unfavorableIf SP(AQ-SQ) = negative = favorable


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Standard Costs

Lets use the general modelto calculate all standard cost

vari

ances, starti

ng wi

thdirect material.


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Hanson Inc. has the following direct materialstandard to manufacture one Zippy:

1.5 pounds per Zippy at $4.00 per pound

Last week 1,700 pounds of material werepurchased and used to make 1,000 Zippies.

The material cost a total of $6,630.

Material VariancesExample

Zippy


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What is the actual price per pound

paid for the material?a. $4.00 per pound.

b. $4.10 per pound.

c. $3.90 per pound.d. $6.63 per pound.

Quick Check Zippy


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What is the actual price per pound

paid for the material?a. $4.00 per pound.

b. $4.10 per pound.

c. $3.90 per pound.d. $6.63 per pound.

AP = $6,630 1,700 lbs.

AP = $3.90 per lb.

Quick Check Zippy


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Hansons material price variance (MPV)

for the week was:a. $170 unfavorable.

b. $170 favorable.

c. $800 unfavorable.d. $800 favorable.

Quick Check Zippy


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Hansons material price variance (MPV)


b. $170 favorable.


MPV = AQ(AP - SP)MPV = 1,700 lbs. ($3.90 - 4.00)MPV = $170 Favorable

Quick Check Zippy


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The standard quantity of material that

should have been used to produce1,000 Zippies is:

a. 1,700 pounds.

b. 1,500 pounds.

c. 2,550 pounds.

d. 2,000 pounds.

Quick Check Zippy


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The standard quantity of material that

should have been used to produce1,000 Zippies is:

a. 1,700 pounds.

b. 1,500 pounds.

c. 2,550 pounds.

d. 2,000 pounds.SQ = 1,000 units 1.5 lbs per unitSQ = 1,500 lbs

Quick Check Zippy


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Quick Check

Hansons material quantity variance (MQV)


b. $170 favorable.


Zippy


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Hansons material quantity variance (MQV)


b. $170 favorable.

c. $800 unfavorable.d. $800 favorable.MQV = SP(AQ - SQ)MQV = $4.00(1,700 lbs - 1,500 lbs)MQV = $800 unfavorable

Quick Check Zippy


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1,700 lbs. 1,700 lbs. 1,500 lbs.

$3.90 per lb. $4.00 per lb. $4.00 per lb.

= $6,630 = $ 6,800 = $6,000

Price variance$170 favorable

Quantity variance$800 unfavorable



Material VariancesSummary

Zippy


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Material Variances

Hanson purchased andused 1,700 pounds.

How are the variancescomputed if the amountpurchased differs from

the amount used?

The price variance iscomputed on the entire

quantity purchased.The quantity varianceis computed only on

the quantity used.


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Hanson Inc. has the following materialstandard to manufacture one Zippy:

1.5 pounds per Zippy at $4.00 per pound

Last week 2,800 pounds of material werepurchased at a total cost of $10,920, and

1,700 pounds were used to make 1,000Zippies.

Material VariancesContinued

Zippy


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Actual Quantity Actual QuantityPurchased Purchased

Actual Price Standard Price

2,800 lbs. 2,800 lbs.

$3.90 per lb. $4.00 per lb.

= $10,920 = $11,200

Price variance$280 favorable

Price variance increasesbecause quantity

purchased increases.

ZippyMaterial Variances

Continued


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Actual QuantityUsed Standard Quantity

Standard Price Standard Price

1,700 lbs. 1,500 lbs.

$4.00 per lb. $4.00 per lb.

= $6,800 = $6,000

Quantity variance$800 unfavorable

Quantity variance isunchanged becauseactual and standard

quantities are unchanged.

Material VariancesContinued

Zippy


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Responsibility for MaterialVariances

I am not responsible forthis unfavorable material

quantity variance.You purchased cheap

material, so my peoplehad to use more of it.

You used too much material

because of poorly trainedworkers and poorlymaintained equipment.

Also, your poor schedulingsometimes requires me to

rush order material at ahigher price, causing

unfavorable price variances.


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Material Price VarianceCauses

Odd lot sizes

Price discounts

Rush orders

Lower quality materials

Special pricingTransportation method


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Material Quantity VarianceCauses

Faulty/poorly maintained machinery

Poor quality material

Untrained workers

New workers

P

oor supervision


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Standard Costs Direct Labor

Now lets calculatestandard cost

variances fordirect labor.


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Note

Materials variances:

Material price variance

MPV = AQ (AP - SP)

Material quantity variance MQV = SP (AQ - SQ)

Labor variances:

Labor rate variance

LRV = AH (AR - SR)

Labor efficiency variance

LEV = SR (AH - SH)

Actual hours

Actual rate

Standard rate

Standard hours allowedfor the actual good output


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Hanson Inc. has the following direct laborstandard to manufacture one Zippy:

1.5 standard hours perZippy at $12.00 perdirect labor hour

Last week 1,550 direct labor hours wereworked at a total labor cost of $18,910to make 1,000 Zippies.

Labor Variances Example Zippy


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What was Hansons actual rate (AR)for labor for the week?

a. $12.20 per hour.

b. $12.00 per hour.

c. $11.80 per hour.

d. $11.60 per hour.

Quick Check Zippy


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What was Hansons actual rate (AR)for labor for the week?

a. $12.20 per hour.

b. $12.00 per hour.

c. $11.80 per hour.

d. $11.60 per hour.

Quick Check

AR = $18,910 1,550 hoursAR = $12.20 per hour

Zippy


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Hansons labor rate variance (LRV) forthe week was:

a. $310 unfavorable.

b. $310 favorable.

c. $300 unfavorable.

d. $300 favorable.

Quick Check Zippy


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Hansons labor rate variance (LRV) forthe week was:


b. $310 favorable.


d. $300 favorable.

Quick Check

LRV = AH(AR - SR)

LRV = 1,550 hrs($12.20 - $12.00)LRV = $310 unfavorable

Zippy


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The standard hours (SH) of labor thatshould have been worked to produce

1,000 Zippies is:a. 1,550 hours.

b. 1,500 hours.

c. 1,700 hours.d. 1,800 hours.

Quick Check Zippy


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The standard hours (SH) of labor thatshould have been worked to produce

1,000 Zippies is:a. 1,550 hours.

b. 1,500 hours.

c. 1,700 hours.d. 1,800 hours.

Quick Check

SH = 1,000 units 1.5 hours per unitSH = 1,500 hours

Zippy


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Hansons labor efficiency variance (LEV)for the week was:


b. $590 favorable.


d. $600 favorable.

Quick Check Zippy


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Hansons labor efficiency variance (LEV)for the week was:


b. $590 favorable.


d. $600 favorable.

Quick Check

LEV = SR(AH - SH)LEV = $12.00(1,550 hrs - 1,500 hrs)LEV = $600 unfavorable

Zippy

L b V i


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Actual Hours Actual Hours Standard Hours

Actual Rate Standard Rate Standard Rate

Labor VariancesSummary

Rate variance$310 unfavorable

Efficiency variance$600 unfavorable

1,550 hours 1,550 hours 1,500 hours

$12.20 per hour $12.00 per hour $12.00 per hour

= $18,910 = $18,600 = $18,000

Zippy

L b R t V i


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LaborRate Variance A Closer Look

Production managers who make work assignmentsare generally responsible for rate variances.

OvertimePremium

Wageincrease

Using highly paid skilled workers toperform unskilled tasks results in an

unfavorable rate variance.

Turnover of

Employees

L b Effi i V i


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Labor Efficiency Variance A Closer Look

UnfavorableEfficiency

Variance

Poorsupervisionof workers

Poorlymaintainedequipment

Poorlytrainedworkers

Poorquality

materials

Insufficientdemand for product

R ibilit f


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Responsibility forLabor Variances

Production Manager

Poorly trained/motivated workers

Poorly maintained equipment

Poor supervision of workers

Inaccurate standards

Purchasing Manager

Poor quality of materials

St d d C t V i bl


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Standard Costs VariableManufacturing Overhead

Now lets calculatestandard cost

vari

ances for thelast of the variableproduction costs

variable

manufacturingoverhead.


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Note

Labor variances:

Labor rate variance

LRV = AH (AR - SR)

Labor efficiency variance LEV = SR (AH - SH)

Variable overhead variances:

Variable overhead spending variance

VOSV = AH (AR - SR) Variable overhead efficiency variance

VOEV = SR (AH SH)

A

ctual hours ofthe allocationbase

Actual variable

overhead rateStandardvariableoverhead rate

Standard hours allowed forthe actual good output

V i bl M f t i


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Variable ManufacturingOverhead Example

Hanson Inc. has the following variablemanufacturing overhead standard:

1.5 standard hours per Zippy at a POHR of$3.00 per direct labor hour

Last week, 1,550 direct labor hours wereworked to make 1,000 Zippies, and a total

cost of $5,115 was incurred for variablemanufacturing overhead. OH cost per hour is$5,115/1,550 = $3.30


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Hansons spending variance (VOSV) forvariable manufacturing overhead for

the week was:a. $465 unfavorable.

b. $400 favorable.


Quick Check Zippy


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Hansons spending variance (VOSV) forvariable manufacturing overhead for

the week was:a. $465 unfavorable.

b. $400 favorable.


Quick Check

SV = AH(AR - SR)

SV = 1,550 hrs($3.30 - $3.00)SV = $465 unfavorable

Zippy


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Hansons efficiency variance (VOEV) forvariable manufacturing overhead for the

week was:a. $435 unfavorable.

b. $435 favorable.


Quick Check Zippy


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Hansons efficiency variance (VOEV) forvariable manufacturing overhead for the

week was:a. $435 unfavorable.

b. $435 favorable.


Quick Check

EV = SR(AH - SH)EV = $3.00(1,550 hrs - 1,500 hrs)EV = $150 unfavorable

1,000 units 1.5 hrs per unit

Zippy

Variable Manufacturing


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Spending variance$465 unfavorable

Efficiency variance$150 unfavorable

1,550 hours 1,550 hours 1,500 hours

$3.30 per hour $3.00 per hour $3.00 per hour

= $5,115 = $4,650 = $4,500

Actual Hours Actual Hours Standard Hours

Actual Rate Standard Rate Standard Rate

Variable ManufacturingOverhead Variances

Zippy

Variable Manufacturing Overhead


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Variable Manufacturing OverheadVariances Causes

Timing of overhead spending

Changes in costs of overhead items

Difference between actual and standardallocation base activity

Spent more than what was budgeted

Variance Analysis and


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Variance Analysis andManagement by Exception

How do I know whichvariances toinvestigate?

Larger variances, in

dollar amount or asa percentage of the

standard, areinvestigated first.


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Advantages of Standard Costs

Management byexception

Improved cost controland performance

evaluation

Better Informationfor planning anddecision making

Possible reductionsin production costs

Advantages

Simplify

BookkeepingResponsibility

Accounting

Disadvantages of


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PotentialProblems

Emphasis onnegative may

impact morale.

Emphasizing standardsmay exclude other

important objectives.

Favorable variancesmay be

misinterpreted.

Continuousimprovementmay be moreimportant than

meeting standards.

Standard costreports may

not be timely.

Incentives to buildInventories, to

absorb

excess overhead

Disadvantages ofStandard Costs

Delivery Performance


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Delivery PerformanceMeasures

Delivery time cycle time from when an orderis received from a customer to when it is

shippedManufacturing cycle time (throughput time) time required to turn raw materials intocompleted products

Objective is to reduce/eliminate non-valueadded activities such as waiting, inspection,move, rework, test and queue time



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What time is the only value-added time?


Wait TimeP

rocess Time + Inspection Time+ Move Time + Queue Time

Delivery Cycle Time

OrderReceived

ProductionStarted

GoodsShipped

Throughput Time



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ManufacturingCycle

Efficiency

Value-added time

Manufacturing cycle time=

Wait TimeProcess Time + Inspection Time

+ Move Time + Queue Time

Delivery Cycle Time

OrderReceived

ProductionStarted

GoodsShipped

Throughput Time


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Quick Check

A TQM team at Narton Corp has recorded thefollowing average times for production:

Wait 3.0 days Move 0.5 days

Inspection 0.4 days Queue 9.3 daysProcess 0.2 days

What is the throughput time?

a. 10.4 days

b. 0.2 days

c. 4.1 days

d. 13.4 days


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What is the throughput time?

a. 10.4 days

b. 0.2 days

c. 4.1 days

d. 13.4 days

Quick Check

Throughput time = Process + Inspection + Move + Queue= 0.2 days + 0.4 days + 0.5 days + 9.3 days= 10.4 days


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Quick Check




What is the Manufacturing Cycle Efficiency?

a. 50.0%

b. 1.9%

c. 52.0%

d. 5.1%


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What is the MCE?

a. 50.0%

b. 1.9%

c. 52.0%

d. 5.1%

Quick Check

MCE = Value-added time Throughput time= Process time Throughput time= 0.2 days 10.4 days= 1.9%


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End of Chapter 10

GarCh10 -- Standard Costs

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