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					    Standard costing




1
    Standard costing system

       The management evaluates the performance
        of a company by comparing it with some
        predetermined measures
       Therefore, it can be used as a process of
        measuring and correcting actual performance
        to ensure that the plans are properly set and
        implemented


2
    Procedures of standard costing
    system
       Set the predetermined standards for sales margin and
        production costs
       Collect the information about the actual performance
       Compare the actual performance with the standards to
        arrive at the variance
       Analyze the variances and ascertaining the causes of
        variance
       Take corrective action to avoid adverse variance
       Adjust the budget in order to make the standards more
        realistic

3
    Functions of standard costing
    system

       Valuation
        –   Assigning the standard cost to the actual output
       Planning
        –   Use the current standards to estimate future sales
            volume and future costs
       Controlling
        –   Evaluating performance by determining how
            efficiently the current operations are being carried
            out

4
       Motivation
        –   Notify the staff of the management’s expectations
       Setting of selling price




5
    Variance




6
    Variance analysis

       A variance is the difference between the
        standards and the actual performance
       When the actual results are better than the
        expected results, there will be a favourable
        variance (F)
       If the actual results are worse than the
        expected results, there will be an adverse
        variance (A)

7
                      Profit variance

Selling and          Total production        Total sales margin variance
administrative       Cost variance
Cost variance


                                        Sales margin      Sales margin
                                        Price variance    volume variance



Materials        Labour           Variable                Fixed
cost             Cost             Overhead                Overhead
variance         variance         variance                variance




8
                     Materials cost variance




    Material Price variance       Material Usage variance



                   Labour cost variance



     Labour rate                 Labour Efficiency
     variance                    variance


9
                      Variable Overhead variance




       VO Expenditure variance         VO Efficiency variance




                       Fixed Overhead variance




     Fixed Expenditure variance         Fixed Volume variance


10
     Cost variance




11
     Cost variance
     •Cost variance = Price variance + Quantity variance
     Cost variance is the difference between the standard cost and the
     Actual cost

     •Price variance = (standard price – actual price)*Actual quantity
      A price variance reflects the extent of the profit change
      resulting from the change in activity level

     •Quantity variance = (standard quantity – actual quantity)*
                           standard cost
     A quantity variance reflects the extent of the profit change
12   resulting from the change in activity level
     Three types of cost variance

        Material cost variance
        Labour cost variance
        Variable overheads variance




13
     Material and labour variance




14
     Material cost variance

        Material price variance
         = (standard price – actual price)*actual quantity
        Material usage variance
         = (Standard quantity – actual quantity)* standard price
         = (Standard quantity for actual production – actual
         quantity production) * standard price




15
     Labour cost variance

        Labour rate variance
         = (standard price – actual price)*actual quantity
        Labour efficiency variance
         = (standard quantity – actual quantity)*standard price
         = Standard quantity for actual production – actual
           quantity used) * standard price




16
     Example




17
ABC Ltd. makes and sells a single product. The company uses a
Standard marginal costing system. It plans to produce and sell 1000
units in May 2005. A budget statement is produced as follow:

Budgeted income statement for the month ended 31 May 2005
                                                 $     $
Sales ($50*1000)                                       50000
Less: Variable cost of goods sold
        Direct materials ($3*4000)               12000
        Direct labour ($5*3000)                  15000
        Variable overheads ($2*3000)             6000 33000
Budget contribution                                    17000
Fixed overhead                                         3000
Budget profit                                          14000



18
The actual sales and production is 800 units. The actual income
statement is shown as follows:


Income statement for the month ended 31 May 2005
                                                    $      $
Sales ($60*800)                                            48000
Less: Variable cost of goods sold
        Direct materials ($3.2*2400)                12000
        Direct labour ($6*3200)                     15000
        Actual Variable overheads                   5500 32380
Contribution                                              15620
Fixed overhead                                            2600
Net profit                                                13020



19
       Material cost variance

          Material price variance
           = (standard price – actual price)*actual quantity
           = ($3 - $3.2)*2400
           = $480 (A)
         Material usage variance
           = (Standard quantity – actual quantity)* standard price
           = (Standard quantity for actual production – actual
           quantity production) * standard price
4000 units
           = (4*800 – 2400)*$3
1000 units
 20        = $2400 (F)
     Material cost variance

        Material price variance        $480 (A)
        Material usage variance        $2400 (F)
        Total Material cost variance   $1920 (F)




21
         Labour cost variance
            Labour rate variance
             = (standard price – actual price)*actual quantity
             = ($5 - $6)*3200
             = $3200 (A)
            Labour efficiency variance
             = (standard quantity – actual quantity)*standard price
             = Standard quantity for actual production – actual
               quantity used) * standard price
3000 units
             = (3* 800 – 3200)*$5
1000 units
 22          = $4000 (A)
     Labour cost variance

        Labour rate variance       $3200 (A)
        Labour efficiency variance $4000 (A)
        Total labour cost variance $7200 (A)




23
     Overheads variance




24
     Overheads variance

        Variable overheads variance
        Fixed overheads variance




25
     Variable overheads variance

        Variable overheads variance is the difference
         between the standard variable overheads
         absorbed into the actual output and the actual
         overheads incurred




26
                                                  Absorbed VO
                          Budgeted VO             (SP* standard
     Actual VO            (SP * Actual            hours for actual
                          hours worked            output



      VO expenditure variance/      VO efficiency variance
      VO spending variance



                        Total VO variance
                        (under-/over- absorbed)


27
     Calculation on overhead absorbed

        Step 1
                       Budgeted overheads
         POAR = Budgeted activity level in standard hours

        Step 2

         Overhead absorbed = POAR * Standard hours for actual
                                    number of units produced



28
     Variable overheads variance

        Variable overheads variance
         = variable overheads absorbed – actual variable overheads
         incurred
        Variable overheads expenditure variance
         = standard variable overheads for actual hours worked – Actual
         variable overheads incurred
        Variable overheads efficiency variance
         = Standard variable overheads for standard hours of output –
         Actual variable overhead absorbed
         = (standard hours for actual output – Actual hours worked)*
         standard price
29
     Example




30
ABC Ltd. makes and sells a single product. The company uses a
Standard marginal costing system. It plans to produce and sell 1000
units in May 2005. A budget statement is produced as follow:

Budgeted income statement for the month ended 31 May 2005
                                                 $     $
Sales ($50*1000)                                       50000
Less: Variable cost of goods sold
        Direct materials ($3*4000)               12000
        Direct labour ($5*3000)                  15000
        Variable overheads ($2*3000)             6000 33000
Budget contribution                                    17000
Fixed overhead                                         3000
Budget profit                                          14000



31
The actual sales and production is 800 units. The actual income
statement is shown as follows:


Income statement for the month ended 31 May 2005
                                                    $      $
Sales ($60*800)                                            48000
Less: Variable cost of goods sold
        Direct materials ($3.2*2400)                12000
        Direct labour ($6*3200)                     15000
        Actual Variable overheads                   5500 32380
Contribution                                              15620
Fixed overhead                                            2600
Net profit                                                13020



32
                   Budgeted overheads
     POAR = Budgeted activity level in standard hours

            = $6000
               3000
            = $2
     Overhead absorbed = POAR * Standard hours for actual
                                  number of units produced
                      = $2 *3 hr per unit * 800 units
                   Standard hr per unit = 3000 hr /1000 units
33
     Variable overheads variance

        Variable overheads variance
         = variable overheads absorbed – actual variable
         overheads incurred
         = $4800 - $5500
         = $700 (A)
        Variable overheads expenditure variance
         = standard variable overheads for actual hours
         worked – Actual variable overheads incurred
         = ($2* 3200 hr) - $5500
         = $900 (F)
34
        Variable overheads efficiency variance
         = Standard variable overheads for standard
         hours of output – Actual variable overhead
         absorbed
         = (standard hours for actual output – Actual
         hours worked)* standard price
         = (3 hr *800 units – 4 hr *800 units)*$2
         = $1600 (A) Actual hour per unit = $3200 hr/800 units

35
     Variable overheads variance

        Variable overheads expenditure variance $900 F
        Variable overheads efficiency variance $1600 A
        Total Variable overhead variance        $400 A




36
     Sales variance




37
                                                 Budgeted
Actual             Budgeted contribution         contribution
contribution       (Standard margin * Actual     (Standard margin*
                   Volume)                       Standard volume)



     Sales margin price variance    Sales margin volume variance




                        Total sales margin variance




38
     Sales variance (Marginal costing)
        Total sales margin variance
          = actual contribution – budgeted contribution
          = [(Actual selling price – Standard cost of sales )*Actual sales
             volume] – Budgeted contribution
        Sales margin price variance
         = (Actual contribution per unit – Standard contribution per unit) *
         Actual sales volume
        Sales margin volume variance
          = (Actual volume – Budget volume)* Standard
            contribution per unit

39
     Sales variance (Absorption costing)

        Sales margin price variance
         = (Actual profit margin per unit – Standard profit margin
         per unit) * Actual sales volume
        Sales margin volume variance
         = (Actual volume – Budget volume)* Standard profit
           margin per unit




40
     Example




41
ABC Ltd. makes and sells a single product. The company uses a
Standard marginal costing system. It plans to produce and sell 1000
units in May 2005. A budget statement is produced as follow:

Budgeted income statement for the month ended 31 May 2005
                                                 $     $
Sales ($50*1000)                                       50000
Less: Variable cost of goods sold
        Direct materials ($3*4000)               12000
        Direct labour ($5*3000)                  15000
        Variable overheads ($2*3000)             6000 33000
Budget contribution                                    17000
Fixed overhead                                         3000
Budget profit                                          14000



42
The actual sales and production is 800 units. The actual income
statement is shown as follows:


Income statement for the month ended 31 May 2005
                                                    $      $
Sales ($60*800)                                            48000
Less: Variable cost of goods sold
        Direct materials ($3.2*2400)                12000
        Direct labour ($6*3200)                     15000
        Actual Variable overheads                   5500 32380
Contribution                                              15620
Fixed overhead                                            2600
Net profit                                                13020



43
     Sales variance (Marginal costing)

        Total sales margin variance
         = actual contribution – budgeted contribution
         = [(Actual selling price – Standard cost of
           sales )*Actual sales volume] – Budgeted
           contribution
         = [($60 - $33)*800] - $17000
         = $21600 - $17000
                                       $33000/1000 units
         = $4600 (F)


44
     Sales variance

        Sales margin price variance
         = (Actual contribution per unit – Standard contribution
         per unit) * Actual sales volume
         = [($60 - $33) – ($50 - $33)]*800
         = $8000 F                           $33000/1000 units
        Sales margin volume variance
         = (Actual volume – Budget volume)* Standard
           contribution per unit
         = (800 -1000)*$17       $17000/1000 units
         = $2800 (A)
45
     Sales variance (Marginal costing)

        Sales margin price variance    $8000 F
        Sales margin volume variance   $3400 A
        Total sales variance           $4600 F




46
     Sales variance (Absorption costing)
        Sales margin price variance
         = (Actual profit margin per unit – Standard profit margin per unit) *
         Actual sales volume
         = [($60-$36) – ($50-$36)]*800
         = $8000 F                               (33000+3000)/1000 units
        Sales margin volume variance
          = (Actual volume – Budget volume)* Standard profit margin per
             unit
          = (800-1000)*$14
          = $3400 A
                                    $14000/1000 units

47
     Sales variance (Absorption costing)

        Sales margin price variance    $8000 F
        Sales margin volume variance   $2800 A
        Total sales variance           $5200 F




48
     Fixed overhead variance




49
                                                   Absorbed VO
                                                   (SP* standard
     Actual FO             Budgeted FO             hours for actual
                                                   output



      FO expenditure variance/       FO volume variance
      FO spending variance



                         Total FO variance
                         (under-/over- absorbed)


50
     Fixed overhead variance
        Fixed overheads variance
         = Fixed overheads absorbed – Actual fixed overheads
         incurred
        Fixed overheads expenditure variance
         Budgeted fixed overheads – Budgeted overheads
         absorbed
        Fixed overheads volume variance
         = Absorbed fixed overheads – Budgeted overheads
         absorbed


51
     Example




52
ABC Ltd. makes and sells a single product. The company uses a
Standard marginal costing system. It plans to produce and sell 1000
units in May 2005. A budget statement is produced as follow:

Budgeted income statement for the month ended 31 May 2005
                                                 $     $
Sales ($50*1000)                                       50000
Less: Variable cost of goods sold
        Direct materials ($3*4000)               12000
        Direct labour ($5*3000)                  15000
        Variable overheads ($2*3000)             6000 33000
Budget contribution                                    17000
Fixed overhead                                         3000
Budget profit                                          14000



53
The actual sales and production is 800 units. The actual income
statement is shown as follows:


Income statement for the month ended 31 May 2005
                                                    $      $
Sales ($60*800)                                            48000
Less: Variable cost of goods sold
        Direct materials ($3.2*2400)                12000
        Direct labour ($6*3200)                     15000
        Actual Variable overheads                   5500 32380
Contribution                                              15620
Fixed overhead                                            2600
Net profit                                                13020



54
     Fixed overhead variance
        Fixed overheads variance
         = Fixed overheads absorbed – Actual fixed overheads incurred
         = ($1*3*800) - $2600
         = $200 A
        Fixed overheads expenditure variance
         = Budgeted fixed overheads – Budgeted overheads absorbed
         = $3000 - $2600
         = $400 F
        Fixed overheads volume variance
         = Absorbed fixed overheads – Budgeted overheads absorbed
         = ($1*3*800) - $3000
         = $600 A
55
     FO Variance in marginal and
     absorption costing

        In marginal costing:
         –   Fixed overheads are charged as period costs
             instead of charging to product in marginal costing.
         –   It is assumed that the fixed overheads remain
             unchanged with the change in the level of activity.
             Single fixed overhead expenditure variance will be
             used




56
        In absorption costing
         –   Fixed overheads are charged to the products and
             included in the valuation of closing stock.
         –   Total fixed overheads variance is divided into fixed
             overheads price variance and fixed overheads
             volume variance




57
     Profit reconciliation statement




58
     Profit reconciliation statement

        Profit reconciliation statement is used to sum
         up all variances
        It can help the top management to explain the
         major reasons for the difference between
         budgeted and actual profits
        The sales margin variance and fixed
         overheads variance are different between
         absorption and marginal costing system

59
     Marginal costing




60
                    Profit Reconciliation Statement
                                   $             $        $
     Budgeted profit                                      14000
     Sales variances
            Sales margin price     8000 F
            Sales margin volume 3400 A           4600 F
     Materials cost variance
            Materials price        480 A
            Material usage         2400 F        1920 F
     Labour cost variance
            Labour rate            3200 A
            Labour efficiency      4000 A        7200 A
     Variable overhead variance
            VO Expenditure         900 F
            VO Efficiency          1600 A        700 A
     Fixed overhead expenditure variance         400F     980 A
     Actual profit                                        13020
61
     Absorption costing




62
                    Profit Reconciliation Statement
     Budgeted profit                                      14000
     Sales variances
            Sales margin price     8000 F
            Sales margin volume 2800 A           5200 F
     Materials cost variance
            Materials price        480 A
            Material usage         2400 F        1920 F
     Labour cost variance
            Labour rate            3200 A
            Labour efficiency      4000 A        7200 A
     Variable overhead variance
            VO Expenditure         900 F
            VO Efficiency          1600 A        700 A
     Fixed overhead variance
     FO expenditure                400F
     FO Volume                     600 A         200 A    980 A
     Actual profit                                        13020
63
     Reasons for variances

        Material price variance
         –   Price changes in market conditions
         –   Change in the efficiency of purchasing dept. to
             obtain good terms from suppliers
         –   Purchase of different grades or wrong types of
             materials




64
     Reasons for variances

        Materials usage variance
         –   More effective use of materials/ wastage arising
             from the efficient production process
         –   Purchase of different grade or wrong types of
             materials
         –   Wastage by the staff
         –   Change in production methods



65
     Reasons for variances

        Labour rate variance
         –   Non-controllable market changes in the basic wage
             rate
         –   Use of higher/lower grade of workers
         –   Unexpected overtime allowance paid




66
         Reasons for variances
        Labour efficiency variance
          –   Purchase of different grade or wrong types of materials
          –   Breakdown of machinery
          –   High/low labour turnover
          –   Changes in production method
          –   Introduction of new machinery
          –   Assignment wrong type of worker to work
          –   Adequacy of supervision
          –   Changes in working condition
          –   Change in motivation methods

67
         Reasons for variances
        Variable overheads expenditure variance
          –   It may be caused by the non-controllable change in the price
              level of indirect wages or utility rates since the predetermined
              rate is set
          –   It is meaningless to interpret this kind of variance on its own.
              One should look various components of the fixed overheads




68
         Reasons for variances

        Variable overheads efficiency variance
          –   Both the variable overheads and direct labour cost
              vary with the direct labour hours worked




69
         Reasons for variances

        Fixed overheads expenditure
          –   It is meaningless to interpret this kind of variance on
              its own.
          –   It may be caused by the change in the price levels
              of rent, rates and other fixed expenses




70
         Reasons for variances

        Fixed overhead volume variance
          –   When the level of activity is higher than the
              budgeted level, there is a favourable variance




71
         Reasons for variances

        Sales margin price variance
          –   Change in the pricing strategies of the company
          –   Response to the change of pricing policies of its
              competitors
          –   Higher profit margin with growing demand for the
              product
          –   Lower profit margin for simulating sales



72
         Reasons for variances

        Sales margin volume variance
          –   Change in prices and demand
          –   Change in the market share of its competitiors




73

				
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