Standard Costs and Operating Performance
Measures
Chapter
11
Standard Costs
Benchmarks formeasuring performance.
The expected levelof performance.
Based on carefullypredetermined amounts.
Used for planning labor, materialand overhead requirements.Standard
Costs are
Standard Costs
DirectMaterial
Managers focus on quantities and coststhat exceed standards, a practice known as
management by exception.
Type of Product Cost
Am
ou
nt
DirectLabor
ManufacturingOverhead
Standard
Setting Direct Material Standards
QuantityStandards
Use product design specifications.
PriceStandards
Final, deliveredcost of materials,net of discounts.
Setting Direct Labor Standards
RateStandards
Use wage surveys and
labor contracts.
TimeStandards
Use time and motion studies for
each labor operation.
Setting Variable Overhead Standards
RateStandards
The rate is the variable portion of the
predetermined overhead rate.
ActivityStandards
The activity is the base used to calculate
the predetermined overhead.
Standard Cost Card – Variable Production Cost
A standard cost card for one unit of product might look like this:
A A x BStandard Standard StandardQuantity Price 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
Are standards the same as budgets?
A standard is the expected cost for one
unit.
A budget is the expected cost for all
units.
Standards vs. Budgets
Standard Cost VariancesP
rod
uct
Co
st
Standard
This variance is unfavorablebecause the actual cost
exceeds the standard cost.
A standard cost variance is the amount by whichan actual cost differs from the standard cost.
Standard Cost Variances
I see that thereis an unfavorable
variance.
But why arevariances
important to me?
First, they point to causes ofproblems and directions
for improvement.
Second, they trigger investigations in departments
having responsibility for incurring the costs.
Variance Analysis Cycle
Prepare standard cost performance
report
Conduct next period’s
operations
Analyze variances
Identifyquestions
Receive explanations
Takecorrective
actions
Begin
Standard Cost Variances
Price Variance
The difference betweenthe actual price and the
standard price
Standard Cost Variances
Quantity Variance
The difference betweenthe actual quantity andthe standard quantity
Practice Question
1. Price Variance plus Quantity Variance equals:
a) Usage Variance.
b) Rate Variance.
c) Total Variance.
d) Standard Variance.
A General Model for Variance Analysis
Actual Quantity Actual Quantity Standard Quantity × × × Actual Price Standard Price Standard Price
Price Variance Quantity Variance
Standard price is the amount that should have been paid for the resources acquired.
Price Variance Quantity Variance
Actual Quantity Actual Quantity Standard Quantity × × × Actual Price Standard Price Standard Price
A General Model for Variance Analysis
Standard quantity is the quantity allowed for the actual good output.
A General Model for Variance Analysis
AQ(AP - SP) SP(AQ - SQ)
AQ = Actual Quantity SP = Standard Price AP = Actual Price SQ = Standard Quantity
Price Variance Quantity Variance
Actual Quantity Actual Quantity Standard Quantity × × × Actual Price Standard Price Standard Price
A General Model for Variance Analysis
$
Std Price
Std Q
nty
A General Model for Variance Analysis
$
Std Price
Std Q
nty
Act Q
ntyQ
uantity V
ariance
A General Model for Variance Analysis
$
Std PriceActual Price
Std Q
nty
Act Q
ntyPrice Variance
Quantity
Variance
Standard Costs
Let’s use the general model to
calculate standard cost variances,
starting withdirect material.
Hanson Inc. has the following direct material standard to manufacture one Zippy:
1.5 pounds per Zippy at $4.00 per pound
Last week 1,700 pounds of material were purchased and used to make 1,000 Zippies.
The material cost a total of $6,630.
Material Variances Example Zippy
What is the actual price per poundpaid for the material?
a. $4.00 per pound.
b. $4.10 per pound.
c. $3.90 per pound.
d. $6.63 per pound.
What is the actual price per poundpaid for the material?
a. $4.00 per pound.
b. $4.10 per pound.
c. $3.90 per pound.
d. $6.63 per pound.
Material Variances Zippy
What is the actual price per poundpaid for the material?
a. $4.00 per pound.
b. $4.10 per pound.
c. $3.90 per pound.
d. $6.63 per pound.
What is the actual price per poundpaid 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.
Material Variances Zippy
Hanson’s material price variance (MPV)for the week was:
a. $170 unfavorable.
b. $170 favorable.
c. $800 unfavorable.
d. $800 favorable.
Hanson’s material price variance (MPV)for the week was:
a. $170 unfavorable.
b. $170 favorable.
c. $800 unfavorable.
d. $800 favorable.
Material Variances Zippy
Hanson’s material price variance (MPV)for the week was:
a. $170 unfavorable.
b. $170 favorable.
c. $800 unfavorable.
d. $800 favorable.
Hanson’s material price variance (MPV)for the week was:
a. $170 unfavorable.
b. $170 favorable.
c. $800 unfavorable.
d. $800 favorable. MPV = AQ(AP - SP) MPV = 1,700 lbs. × ($3.90 - 4.00) MPV = $170 Favorable
Material Variances Zippy
The standard quantity of material thatshould have been used to produce1,000 Zippies is:
a. 1,700 pounds.
b. 1,500 pounds.
c. 2,550 pounds.
d. 2,000 pounds.
The standard quantity of material thatshould have been used to produce1,000 Zippies is:
a. 1,700 pounds.
b. 1,500 pounds.
c. 2,550 pounds.
d. 2,000 pounds.
Material Variances Zippy
The standard quantity of material thatshould have been used to produce1,000 Zippies is:
a. 1,700 pounds.
b. 1,500 pounds.
c. 2,550 pounds.
d. 2,000 pounds.
The standard quantity of material thatshould 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 unit SQ = 1,500 lbs
Material Variances Zippy
Hanson’s material quantity variance (MQV)for the week was:
a. $170 unfavorable.
b. $170 favorable.
c. $800 unfavorable.
d. $800 favorable.
Hanson’s material quantity variance (MQV)for the week was:
a. $170 unfavorable.
b. $170 favorable.
c. $800 unfavorable.
d. $800 favorable.
Material Variances Zippy
Hanson’s material quantity variance (MQV)for the week was:
a. $170 unfavorable.
b. $170 favorable.
c. $800 unfavorable.
d. $800 favorable.
Hanson’s material quantity variance (MQV)for the week was:
a. $170 unfavorable.
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
Material Variances Zippy
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
Actual Quantity Actual Quantity Standard Quantity × × × Actual Price Standard Price Standard Price
Material Variances Summary Zippy
Material Variances
Hanson purchased and used 1,700 pounds.
How are the variances computed if the amount purchased differs from
the amount used?
The price variance is computed on the entire
quantity purchased.
The quantity variance is computed only on the
quantity used.
Hanson Inc. has the following material standard to manufacture one Zippy:
1.5 pounds per Zippy at $4.00 per pound
Last week 2,800 pounds of material were purchased at a total cost of $10,920, and 1,700 pounds were used to make 1,000
Zippies.
Material Variances ContinuedZippy
Actual Quantity Actual Quantity Purchased 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 increases because quantity
purchased increases.
Material Variances ContinuedZippy
Actual Quantity Used 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 is unchanged because actual and standard
quantities are unchanged.
Material Variances ContinuedZippy
Isolation of Material Variances
I need the price variancesooner so that I can better
identify purchasing problems.
You accountants just don’tunderstand the problems thatpurchasing managers have.
I’ll start computingthe price variancewhen material is
purchased rather thanwhen it’s used.
Responsibility for Material Variances
I am not responsible for this unfavorable material
quantity variance.
You purchased cheapmaterial, so my peoplehad to use more of it.
You used too much material because of poorly trained
workers and poorly maintained equipment.
Also, your poor scheduling sometimes requires me to
rush order material at a higher price, causing
unfavorable price variances.
Standard Costs
Now let’s calculate standard cost variances for direct labor.
Hanson Inc. has the following direct labor standard to manufacture one Zippy:
1.5 standard hours per Zippy at $6.00 perdirect labor hour
Last week 1,550 direct labor hours were worked at a total labor cost of $9,610 to
make 1,000 Zippies.
Labor Variances Example Zippy
What was Hanson’s actual rate (AR)for labor for the week?
a. $6.20 per hour.
b. $6.00 per hour.
c. $5.80 per hour.
d. $5.60 per hour.
What was Hanson’s actual rate (AR)for labor for the week?
a. $6.20 per hour.
b. $6.00 per hour.
c. $5.80 per hour.
d. $5.60 per hour.
Labor Variances Zippy
What was Hanson’s actual rate (AR)for labor for the week?
a. $6.20 per hour.
b. $6.00 per hour.
c. $5.80 per hour.
d. $5.60 per hour.
What was Hanson’s actual rate (AR)for labor for the week?
a. $6.20 per hour.
b. $6.00 per hour.
c. $5.80 per hour.
d. $5.60 per hour.
Labor Variances
AR = $9,610 ÷ 1,550 hours AR = $6.20 per hour
Zippy
Hanson’s labor rate variance (LRV) for the week was:
a. $310 unfavorable.
b. $310 favorable.
c. $300 unfavorable.
d. $300 favorable.
Hanson’s labor rate variance (LRV) for the week was:
a. $310 unfavorable.
b. $310 favorable.
c. $300 unfavorable.
d. $300 favorable.
Labor Variances Zippy
Hanson’s labor rate variance (LRV) for the week was:
a. $310 unfavorable.
b. $310 favorable.
c. $300 unfavorable.
d. $300 favorable.
Hanson’s labor rate variance (LRV) for the week was:
a. $310 unfavorable.
b. $310 favorable.
c. $300 unfavorable.
d. $300 favorable.
Labor Variances
LRV = AH(AR - SR) LRV = 1,550 hrs($6.20 - $6.00) LRV = $310 unfavorable
Zippy
The standard hours (SH) of labor thatshould have been worked to produce1,000 Zippies is:
a. 1,550 hours.
b. 1,500 hours.
c. 1,700 hours.
d. 1,800 hours.
The standard hours (SH) of labor thatshould have been worked to produce1,000 Zippies is:
a. 1,550 hours.
b. 1,500 hours.
c. 1,700 hours.
d. 1,800 hours.
Labor Variances Zippy
The standard hours (SH) of labor thatshould have been worked to produce1,000 Zippies is:
a. 1,550 hours.
b. 1,500 hours.
c. 1,700 hours.
d. 1,800 hours.
The standard hours (SH) of labor thatshould have been worked to produce1,000 Zippies is:
a. 1,550 hours.
b. 1,500 hours.
c. 1,700 hours.
d. 1,800 hours.
Labor Variances
SH = 1,000 units × 1.5 hours per unit SH = 1,500 hours
Zippy
Hanson’s labor efficiency variance (LEV)for the week was:
a. $290 unfavorable.
b. $290 favorable.
c. $300 unfavorable.
d. $300 favorable.
Hanson’s labor efficiency variance (LEV)for the week was:
a. $290 unfavorable.
b. $290 favorable.
c. $300 unfavorable.
d. $300 favorable.
Labor Variances Zippy
Hanson’s labor efficiency variance (LEV)for the week was:
a. $290 unfavorable.
b. $290 favorable.
c. $300 unfavorable.
d. $300 favorable.
Hanson’s labor efficiency variance (LEV)for the week was:
a. $290 unfavorable.
b. $290 favorable.
c. $300 unfavorable.
d. $300 favorable.
Labor Variances
LEV = SR(AH - SH) LEV = $6.00(1,550 hrs - 1,500 hrs) LEV = $300 unfavorable
Zippy
Actual Hours Actual Hours Standard Hours × × × Actual Rate Standard Rate Standard Rate
Labor Variances Summary
Rate variance$310 unfavorable
Efficiency variance$300 unfavorable
1,550 hours 1,550 hours 1,500 hours × × × $6.20 per hour $6.00 per hour $6.00 per hour
= $9,610 = $9,300 = $9,000
Zippy
Labor Rate Variance – A Closer Look
High skill,high rate
Low skill,low rate
Using highly paid skilled workers toperform unskilled tasks results in an
unfavorable rate variance.
Production managers who make work assignmentsare generally responsible for rate variances.
Production managers who make work assignmentsare generally responsible for rate variances.
Labor Efficiency Variance –A Closer Look
UnfavorableEfficiencyVariance
Poorlytrainedworkers
Poorquality
materials
Poorlymaintainedequipment
Poorsupervisionof workers
Responsibility for Labor Variances
I am not responsible for the unfavorable labor
efficiency variance!
You purchased cheapmaterial, so it took more
time to process it.
You used too much time because of poorly
trained workers and poor supervision.
Responsibility for Labor Variances
Maybe I can attribute the laborand material variances to personnel
for hiring the wrong peopleand training them poorly.
Standard Costs
Now let’s calculate standard cost
variances for the last of the variable production costs –
variable manufacturing
overhead.
Hanson Inc. has the following variable manufacturing overhead standard to
manufacture one Zippy:
1.5 standard hours per Zippy at $3.00 perdirect labor hour
Last week 1,550 hours were worked to make 1,000 Zippies, and $5,115 was spent for
variable manufacturing overhead.
Variable ManufacturingOverhead Variances Example Zippy
What was Hanson’s actual rate (AR) for variable manufacturing overhead rate for the week?
a. $3.00 per hour.
b. $3.19 per hour.
c. $3.30 per hour.
d. $4.50 per hour.
What was Hanson’s actual rate (AR) for variable manufacturing overhead rate for the week?
a. $3.00 per hour.
b. $3.19 per hour.
c. $3.30 per hour.
d. $4.50 per hour.
Variable ManufacturingOverhead Variances Zippy
What was Hanson’s actual rate (AR) for variable manufacturing overhead rate for the week?
a. $3.00 per hour.
b. $3.19 per hour.
c. $3.30 per hour.
d. $4.50 per hour.
What was Hanson’s actual rate (AR) for variable manufacturing overhead rate for the week?
a. $3.00 per hour.
b. $3.19 per hour.
c. $3.30 per hour.
d. $4.50 per hour.
Variable ManufacturingOverhead Variances
AR = $5,115 ÷ 1,550 hours AR = $3.30 per hour
Zippy
Hanson’s spending variance (SV) for variable manufacturing overhead forthe week was:
a. $465 unfavorable.
b. $400 favorable.
c. $335 unfavorable.
d. $300 favorable.
Hanson’s spending variance (SV) for variable manufacturing overhead forthe week was:
a. $465 unfavorable.
b. $400 favorable.
c. $335 unfavorable.
d. $300 favorable.
Variable ManufacturingOverhead Variances Zippy
Hanson’s spending variance (SV) for variable manufacturing overhead forthe week was:
a. $465 unfavorable.
b. $400 favorable.
c. $335 unfavorable.
d. $300 favorable.
Hanson’s spending variance (SV) for variable manufacturing overhead forthe week was:
a. $465 unfavorable.
b. $400 favorable.
c. $335 unfavorable.
d. $300 favorable.
Variable ManufacturingOverhead Variances
SV = AH(AR - SR) SV = 1,550 hrs($3.30 - $3.00) SV = $465 unfavorable
Zippy
Hanson’s efficiency variance (EV) for variable manufacturing overhead for the week was:
a. $435 unfavorable.
b. $435 favorable.
c. $150 unfavorable.
d. $150 favorable.
Hanson’s efficiency variance (EV) for variable manufacturing overhead for the week was:
a. $435 unfavorable.
b. $435 favorable.
c. $150 unfavorable.
d. $150 favorable.
Variable ManufacturingOverhead Variances Zippy
Hanson’s efficiency variance (EV) for variable manufacturing overhead for the week was:
a. $435 unfavorable.
b. $435 favorable.
c. $150 unfavorable.
d. $150 favorable.
Hanson’s efficiency variance (EV) for variable manufacturing overhead for the week was:
a. $435 unfavorable.
b. $435 favorable.
c. $150 unfavorable.
d. $150 favorable.
Variable ManufacturingOverhead Variances
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
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 Variances – A Closer Look
If variable overhead is applied on the basisof direct labor hours, the labor efficiency
and variable overhead efficiency varianceswill move in tandem.
If variable overhead is applied on the basisof direct labor hours, the labor efficiency
and variable overhead efficiency varianceswill move in tandem.
Larger variances, in dollar amount or as a percentage of the
standard, are investigated first.
Variance Analysis and Management by Exception
How do I know which variances to investigate?
Advantages of Standard Costs
Management byexception
Improved cost control and performance
evaluation
Better Informationfor planning anddecision making
Possible reductionsin production costs
Advantages
PotentialProblems
Emphasis on negativemay impact morale.
Emphasizing standardsmay exclude other
important objectives.
Favorable variancesmay be misinterpreted.
Continuous improvementmay be moreimportant than
meeting standards.
Standard costreports may
not be timely.
Labor quantity standardsand efficiency variancesmay not be appropriate.
The Balanced Scorecard
Management translates its strategy into performance measures that employees
understand and accept.
Management translates its strategy into performance measures that employees
understand and accept.
Performancemeasures
Financial Customers
Learningand growth
Internalbusiness
processes
The Balanced Scorecard
How do we lookto the owners?
How can wecontinually learn,
grow, and improve?
In which internalbusiness processes
must we excel?
How do we lookto customers?
The Balanced Scorecard
Learning improvesbusiness processes.
Improved businessprocesses improve
customer satisfaction.
Improving customersatisfaction improves
financial results.
Process time is the only value-added time.
Delivery Performance Measures
Wait TimeProcess Time + Inspection Time
+ Move Time + Queue Time
Order Received
ProductionStarted
Goods Shipped
Delivery Cycle Time
Throughput Time
Delivery Performance Measures
ManufacturingCycle
Efficiency
Value-added time
Manufacturing cycle time=
Wait Time
Throughput Time
Process Time + Inspection Time+ Move Time + Queue Time
Order Received
ProductionStarted
Goods Shipped
Delivery Cycle Time