Chapter 10 Standard Costs and Variances

Flexible Budgets (Ch 9) impact of revenue and costs in correlation to activity levels. Standard costs
help us break down the variances.
- If we have an expense variance to budget, this could be due to:
o Price of the expense is higher than we planned OR
o Quantity of the expense is higher than we planned OR both

Standard benchmark for measuring performance, used in every industry

- Health standards (weight, blood pressure, heart rate, etc.)
- Mechanics (labor time to install new brakes, or change the oil)
- Food Quality for restaurants (high end restaurants wont cook item if meat isnt correct quality)
- **Manufacturing (materials, labor, overhead)

Direct Material Standards

Standard quantity per unit amount of direct materials that should be used for each unit of finished
product
Standard price per unit price that should be paid for each unit of direct materials

Direct Labor Standards

Standard hours per unit -amount of direct labor-hours that should be used to produce one unit of
finished goods
Standard rate per hour companys expected direct labor wage rate per hour (including employer taxes
and benefits like insurance)

Variable Manufacturing Overhead Standards

Standard rate per unit equals the variable portion of the Predetermined Overhead Rate, same
allocation base
Price Variance difference between the actual amount paid for an input and the standard amount that
should have been paid

Quantity Variance difference between how much of an input was actually used and how much should
have been used

Spending Variance (Ch 9) difference between the actual amount of the cost and how much a cost
should have been, given the actual level of activity

Direct Materials Variances:

Materials Price Variance difference between an inputs actual price and its standard price, multiplied
by the actual quantity

Materials Quantity Variance difference between the actual quantity of materials used in productions
and the standard quantity of materials allowed for the actual output, multiplied by the standard price
per unit

Materials Price Variance = AQ (AP SP)

Materials Quantity Variance = SP (AQ SQ)

OR
Direct Labor Variances
Labor Rate Variance difference between the actual hourly rate and the standard hourly rate,
multiplied by the actual number of hours worked

Labor Efficiency Variance difference between the actual hours used and the standard hours allowed
for the actual output, multiplied by the standard hourly rate

Labor Rate Variance = AH (AR SR)

Labor Efficiency Variance = SR (AH SH)

OR

Variable Manufacturing Overhead Variances

Variable Overhead Rate Variance difference between actual variable overhead cost incurred during
the period and the standard cost that should have been incurred based on the actual activity

Variable Overhead Efficiency Variance difference between the actual level of activity and the standard
activity allowed for the actual output, multiplied by the variable part of the Predetermined Overhead
Rate

Variable Overhead Rate Variance = AH (AR = SR)

Variable Overhead Efficiency Variance = SR (AH SH)

OR
Advantages of Standard Costs:
1. Standard costs help management focus on important issues. If costs conform to standards, then
managers can focus on other issues.
2. Standard are benchmarks that employees can use to judge performance.
3. Standard costs can be used to record costs per job, which simplifies bookkeeping.
4. Standard costs establish responsibility accounting. Who should be accountable for them?

Potential Problems with Standard Costs:

1. Standard cost reports are usually prepared monthly, after the month-end close work is
complete. If these reports are not prepared timely, the data can be outdated and worthless.
2. Management should not use standard cost reports to punish or blame employees.
3. Labor standards assume production is labor-pace (if labor works faster, the output will go up),
however, many companies use machines for production (processing speed of machines). Also,
labor standards assume DL is variable, when many times it is fixed.
4. Sometimes a favorable variance can be worse than an unfavorable variance. Example, amount
of meat used per sandwich.
5. Too much time spent on meeting standards may lessen other important activities such as
quality, on-time deliveries, or customer satisfaction.
6. Meeting standards is not sufficient because companies need to continually improve to remain
competitive.