Standard costing involves setting standards for direct materials, direct labor, and manufacturing overhead costs and comparing actual costs to the standards. It is used to control costs by identifying variances and their causes. The purchasing manager, production manager, and management accountant all play roles in developing the standards. Standard costing provides relevant information to management for cost control, performance measurement, budgeting, pricing, and motivating employees. It allows for management by exception by focusing only on significant variances. Some advantages include cost reduction, inventory valuation, pricing, and motivation. However, standard costing is also time consuming to implement and maintain and standards can become outdated.
Standard costing involves setting standards for direct materials, direct labor, and manufacturing overhead costs and comparing actual costs to the standards. It is used to control costs by identifying variances and their causes. The purchasing manager, production manager, and management accountant all play roles in developing the standards. Standard costing provides relevant information to management for cost control, performance measurement, budgeting, pricing, and motivating employees. It allows for management by exception by focusing only on significant variances. Some advantages include cost reduction, inventory valuation, pricing, and motivation. However, standard costing is also time consuming to implement and maintain and standards can become outdated.
Standard costing involves setting standards for direct materials, direct labor, and manufacturing overhead costs and comparing actual costs to the standards. It is used to control costs by identifying variances and their causes. The purchasing manager, production manager, and management accountant all play roles in developing the standards. Standard costing provides relevant information to management for cost control, performance measurement, budgeting, pricing, and motivating employees. It allows for management by exception by focusing only on significant variances. Some advantages include cost reduction, inventory valuation, pricing, and motivation. However, standard costing is also time consuming to implement and maintain and standards can become outdated.
Standard costing involves setting standards for direct materials, direct labor, and manufacturing overhead costs and comparing actual costs to the standards. It is used to control costs by identifying variances and their causes. The purchasing manager, production manager, and management accountant all play roles in developing the standards. Standard costing provides relevant information to management for cost control, performance measurement, budgeting, pricing, and motivating employees. It allows for management by exception by focusing only on significant variances. Some advantages include cost reduction, inventory valuation, pricing, and motivation. However, standard costing is also time consuming to implement and maintain and standards can become outdated.
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Standard Costing 1
Introduction
According to CIMA, London, “Standard Costing is the preparation and use of standard
costs, their comparison with actual costs and analysis of variances to their causes and points of
incidence.” Standard Costing is considered as one of the most significant topic of cost
accounting. Standard costing system is generally related with manufacturing cost of the
company and it includes direct materials, direct labor and manufacturing overhead.
(Drury, C. (1998))
Standard Costing
The Standard Costing can be defined as the procedure of setting standard costs and
applying them to calculate the differences from the actual costs and evaluating the reasons for
such differences with an aim to maximize the efficiency of production functions.
It ensures comparison of actual performance with the budgeted and thus variance can be
computed. The variances identified are analyzed so as to know the reasons for the deviations so
that these mistakes can be prevented in future i.e. it helps in evaluating the past performance and
deciding for the future course of actions.
(Drury, C. (1998))
It is an instrument of costing which uses standards for costs and revenues for the purpose
of control by Variance Analysis. It is not a separate system of accounting, but only an instrument
which can be implemented in all types of costing like job costing or process costing.
Standard costing is a costing method which attaches the costs to cost objects which is
based on reasonable estimates or cost studies and by means of budgeted rates rather than
according to actual costs incurred. It is the anticipated cost of producing a unit of output. A Standard Costing 2
predetermined cost is to be assigned to products produced. Standard cost implies a norm, or what
costs should be. Standard costing may be based on either direct or absorption costing principles,
and may apply either to all or some cost elements.
Standard costing furnishes information for cost control and as a pricing policy base. In
this method the cost of a product or service is predetermined scientifically. Any variance of
actual cost of production from the predetermined normal cost of product may indicate any
inefficiency and waste. Standard costing is used as an average target product cost and followed
up by comparing the actual cost. The purpose of standard costing is to give the targets for
product manufacturing which is different from target costing method. Standard costing is
suitable and simple methods for the actual cost follow up but may lead to inappropriate decisions
when used incorrectly in future planning. Main problem of standard costing is that it does not
provide enough information to enable management to control the overheads and other indirect
costs related to the product.
(Drury, C. (1998))
Standard Costing is considered as one of the most significant topic of cost accounting.
The standard costs are generally related with manufacturing cost of the company. It includes
direct materials, direct labour and manufacturing overhead. According to CIMA, London,
“Standard Costing is the preparation and use of standard costs, their comparison with actual costs
and analysis of variances to their causes and points of incidence.” The Standard Costing can be
defined as the procedure of setting standard costs and applying them to calculate the differences
from the actual costs and evaluating the reasons for such differences with an aim to maximize the
efficiency of production functions. It is an instrument of costing which uses standards for costs
and revenues for the purpose of control by Variance Analysis.
Standard Costing 3
Role of different persons in the management in developing the standards:-
Purchasing manager (Jack Smith): Purchase manager helps in forecasting the rate of raw
material to be used in production for the budgeted period. Purchase managers is responsible for
forecasting the price of raw material based on the past experience and future market conditions.
Role of purchasing manager is to procure the best quality required raw material at the lowest
possible price and ensure the quality of the raw material is appropriate and the delivery is always
on time.
Production manager (Amy Wilcox): Production manager is responsible for managing all the
resources like raw material, labor, and equipment and produce the finished goods in timely
manner. Production manager plays very important role in developing the standards, production
managers helps in determining the standard quantity or raw material, and total direct labor hours
and other supplies which will be required to produce budgeted units. Production manager is able
to determine the standard quantity of each input on the basis of past experience. Forecasting the
accurate amount of inputs is one of the most important functions of production manager and in
this way production manager play crucial role in development of production budget.
Management accountant (Bert Rivkin): Management accountant plays vital role in an
organization and helps it to grow and sustain itself in the industry. When a company is growing
at a fast pace it needs management accountant to help in sustaining the growth by taking
effective strategic decisions. Management accountant can be considered as the link which helps Standard Costing 4
in bringing together all the elements which are helpful in drafting a budget. In the absence of
management accountant an effective decision cannot be taken.
Aim of standard costing
The Standard Costing ensures the determination of reasonable standards for each element
of cost and sales. The standard costing system ensures that the report is given to the management
for taking corrective action for any off-standard variance.
It provides the relevant information to the management accountant regarding the cost
control, strength and weakness of production function.
The efficiency of the actual performance can be measured and formulation of future
policies regarding production and pricing can be done. The standard costing is helpful in overall
budgeting, planning and price quotation for the products.
The standard costing increases the cost consciousness among employees by Variance
Analysis because the responsibility of favorable and unfavorable performance is assigned to
employees.
The efficiency and productivity of the employees can be increased by motivating them for the
better performance.
The standard costing ensures management by exception (MBE) as the management is
focusing on taking the corrective actions only.
Standard Costing 5
Advantages of standard costing
Management by exception:
Standard costing helps in diverting the Management attention to the items which are not
working or proceeding as per the plan. It helps in saving the time of management by directing the
attention to value adding activities.
Cost reduction:
Process of setting, revising and monitoring standards inspires review of materials,
techniques and methods resulting into reduction in cost.
Analysis of unfavorable analysis is the analysis of the factors due to which the cost exceeds the
budgeted cost which lead to cost reduction.
Inventory valuation
If actual number of physical unit’s inventory is known, standard costing makes the
inventory valuation easy and simple.
Pricing
It is a reliable base for calculating the total cost through which selling price can be
determined by adding profit margin in it.
Cost control
It acts as a yardstick which is used to determine whether the variance is favorable or
unfavorable by measuring all costs.
Standard Costing 6
Motivation
Standard costing acts as a motivation tools for all employees because it requires the full
participation of all employees and management levels.
Makes budgeting easier
Standard costing helps in setting the budgets for the department and organization thus
making budgeting easier.
Budgeted cost = Output units * standard cost per unit
Disadvantages of standard costing
Time consuming
Lot of time is required in developing and installing a reliable standard costing system.
Obsolescence
Due to the change in the economic conditions, standards become out of date quickly
resulting into loss of control and motivational effects.
Standard costing system is expensive to install
Huge amount of money is needed to study the requirement of output in terms of
overheads, materials and labor.
Difference between standard costing and standard costing system
Standard costing and standard costing system both are different from each other.
Standard costing system is the system of standard costing which records the cost of production at
standard, flow of the inventory units from work in process to finished goods to cost of goods sold
at per unit standard cost.
Standard Costing 7
Standards costing system and flexible budgeting are inter connected i.e. the units of inventory are
tracked at the flexible budget amount in standard costing system.
Standard costing system also posted adjusting entries at the end of the period which provides the
information on variance that managers use for performance evaluation and control.
Target Costing
In target costing, manufacturer adds profit margin to the actual cost. In other words,
Target cost is calculated by deducting profit margin from the market price of product. Target
costing is a reverse mechanism of estimating cost of the product. It helps in increasing the
profitability and reducing the overall cost of the product.
Management is considering variable cost because contribution is calculated after deducting
variable cost from market price of product. Variable cost is considered when other costs are
same. As the company is introducing a new product, the fixed cost will remain same, even most
of the processing is just same as its other products, however management has decided to
introduce more efficient processes for increasing the product volume, and batch size etc. thus
variable cost will change. Thus variable cost is considered by the management while computing
the target cost of the product.
Difference between target costing and traditional standard costing
Standard Costing 8
Traditional standard costing is used mainly in mass production as a tool for control.
Costs for standard parts are established by work study or experience, actual costs then being
checked against the standard costs.
Target costing is a reversed cost accounting technique. Instead of calculating costs first and then
setting the price based on these calculated costs, target costing does it the other way around.
Target costing is convenient for firms operating in perfect competition. The steps in target
costing are as follows: 1. Determine the price consumer is willing to pay for the product, say $Z.
This may be arrived at after conducting a market research; 2. Determine the profit margin the
business is willing to accept.
Actual costing Normal costing Standard costing
system system system Direct costs: ( Actual rate or price ( Actual rate or price *(Budgeted rate or * actual quantity of * actual quantity of piece * standard input inputs per unit) inputs per unit) allowed for each *actual outputs *actual outputs output )* actual outputs Overhead costs: Actual overhead rates Budgeted overhead Budgeted overhead * actual quantity of rates * actual quantity rates* ( standard the allocation base of the allocation base inputs allowed for incurred incurred actual outputs achieved) Standard Costing 9
Reference
Drury, C. (1998). Standard Costing. Retrieved from
Noriza Mohd. Jamal, Nor Hamimah Mastor, Maisarah Mohamed Saat, Mohamed Fuad Ahmad & Dewi Fariha Abdullah @ Earnest (2007). Cost & Management Accounting. Retrieved from http://books.google.co.in/books?id=69XAVssg9UQC&pg=PA286&dq=standard+costing&hl=en &sa=X&ei=d0WPUqTJAo6ErQeqzYHoBw&ved=0CEMQ6AEwBA#v=onepage&q=standard% 20costing&f=false
Cave, S. R. (1995). Budgetary control, standard costing, and factory administration. Retrieved from http://books.google.co.in/books?id=xNBAAAAAIAAJ&q=standard+costing&dq=standard+costi ng&hl=en&sa=X&ei=d0WPUqTJAo6ErQeqzYHoBw&ved=0CD4Q6AEwAw
Berger, A. (2011). Standard Costing, Variance Analysis and Decision-Making. Retrieved from http://books.google.co.in/books?id=uRC5IhD0wVoC&printsec=frontcover&dq=standard+costin g&hl=en&sa=X&ei=d0WPUqTJAo6ErQeqzYHoBw&ved=0CDgQ6AEwAg#v=onepage&q=sta ndard%20costing&f=false
