Chapter 10

Chapter 10:
Standard Costs and the Balanced

Scorecard
ACT 202 Lecture

By: Ms. Adina Malik
Standard Cost
 A standard is a benchmark or “norm” for measuring
performance. In managerial accounting, two types of
standards are commonly used:
 Quantity standards: They specify how much of an input

should be used to make a product or provide a service.
 Cost (price) standards: They specify how much should be

paid for each unit of the input.
 Management by exception: Actual costs and quantities are

compared to the standards. When actual quantities or
actual cost inputs differ from the standards, managers
investigate the discrepancy to find the cause of the
problem and eliminate it. This process is called
management by exception.
Variance Analysis Cycle
Take
Identify Receive corrective
questions explanation actions
s
Conduct
Analyze next
variances period’s
operations
Prepare
Begin
standard cost
performance
report
Variance Analysis
 The variance analysis cycle is a continuous five-step process:
 The cycle begins with the preparation of standard cost performance

reports in the accounting department.
 These reports highlight variances that are differences between actual

results and what should have occurred according to standards.
 The Variances raise questions such as:

a. Why did this variance occur?
b. Why is this variance larger than it was last period?
 The significant variances are investigated to discover their root causes.
 Corrective actions are taken and the next period’s operations are
carried out.
 The goal is to improve operations- not to assign blame !!

Standard Cost Card – Variable
Production Cost
The standard cost card is a detailed listing of the standard
amounts of direct materials, direct labor, and variable
overhead inputs that should go into a unit of product,
multiplied by the standard price or rate that has been set for
each input.
A standard cost card for one unit of product might
look like this:
A B AxB
Standard Standard Standard
Quantity 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
Standards vs. Budgets
A standard is a unit amount, whereas a budget is a total
amount. A standard can be viewed as the budgeted cost
for one unit of product.
Are standards the

same as budgets? A standard is a
per unit cost.
A budget is set for
Standards are
total costs & often used
revenues. when
preparing
budgets.
Price & Quantity Standards
 Price and quantity standards are determined separately for

two reasons:
 Different managers are usually responsible for buying and for

using inputs.
◦ For example: The purchasing manager is responsible for raw material
purchase prices and the production manager is responsible for the
quantity of raw material used.
 The buying and using activities occur at different points in

time.
For example: Raw material purchases may be held in inventory for a
period of time before being used in production.
A General Model for Variance
Analysis
Variance Analysis
Price Variance Quantity Variance
Difference between Difference between

actual price and actual quantity and
standard price standard quantity
A General Model for Variance
Analysis
Variance Analysis
Price Variance Quantity Variance
Materials price variance Materials quantity

Labor rate variance variance
VOH spending variance Labor efficiency
variance
VOH efficiency
variance
Price and Quantity Variance:
Materials
Actual Quantity Actual Quantity Standard

Quantity
× ×
×
Actual Price Standard Price Standard
Price
Price Variance Quantity

Variance
(AQ × AP) – (AQ × SP) (AQ × SP) – (SQ
× SP)
AQ = Actual Quantity SP = Standard
Price
AP = Actual Price SQ = Standard
Quantity
A General Model for Variance Analysis
 The actual quantity represents the amount of direct

materials, direct labor and variable manufacturing
overhead actually used.
 The standard quantity represents the standard

quantity allowed for the actual output of the
period.
 The actual price represents the actual amount paid

for the input used.
 The standard price represents the amount that

should have been paid for the input used.
Rate and Efficiency Variance:
Labor
Actual Hours Actual Hours Standard
Hours
× ×
×
Actual Rate Standard Rate
Standard Rate
Rate variance Efficiency variance
The labor rate variance, defined as the difference

between the actual average hourly wage paid and the
standard hourly wage.
The labor efficiency variance, defined as the difference

between the actual quantity of labor hours and the
quantity allowed according to the standard.
Responsibility for Labor Variances
Production managers
are
Mix of skill levels
usually held assigned to work tasks.
accountable
for labor variances Level of employee
because they can motivation.
influence the:
Quality of production
supervision.
Quality of training provided
to employees.
Production Manager
However, labor variances are not entirely controllable by one

person or department. For e.g. The Maintenance Department may
do a poor job of maintaining production equipment or the
purchasing manager may purchase lower quality raw materials,
resulting in unfavorable labor efficiency.
Spending and Efficiency Variance:
Variable Manufacturing Overhead
Actual Hours Actual Hours
Standard Hours
× ×
×
Actual Rate Standard Rate
Standard Rate
Spending variance Efficiency
variance
The variable overhead spending variance, defined as the difference
between the actual variable overhead costs incurred during the period
and the standard cost that should have been incurred based on the actual
activity of the period.
The variable overhead efficiency variance, defined as the difference

between the actual activity of a period and the standard activity allowed,
multiplied by the variable part of the predetermined overhead rate.
Advantages of Standard Cost
Research has shown that a substantial portion of companies
in the United Kingdom, Canada, Japan, and the United
States use standard cost systems. This is because standard
cost systems offer many advantages including:
• Standard costs are a key element of the management by

exception approach that helps managers focus their
attention on the most important issues.
• Standards that are viewed as reasonable by employees can

serve as benchmarks that promote economy and efficiency.
• Standard costs can greatly simplify bookkeeping.
• Standard costs fit naturally into a responsibility accounting

system.
Potential Problems with Standard
Costs
 Emphasizing standards may exclude other important
objectives.
 Standard cost reports may not be timely.
 Invalid assumptions about the relationship between labor

cost and output.
 Favorable variances may be worse or bad than unfavorable

variances.
 Emphasis on negative may impact morale.
 Continuous improvement may be more important than

meeting standards.
Questions
To be done in class:
 Ex 10-2, pg 445
 Ex 10-3, pg 445
 Ex 10-4, pg 445
Also practice:
 Ex 10-12, pg 458
 Ex 10-10, pg 458

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Chapter 10:

Standard Costs and the Balanced

ACT 202 Lecture

 Quantity standards: They specify how much of an input

 Cost (price) standards: They specify how much should be

 Management by exception: Actual costs and quantities are

 The cycle begins with the preparation of standard cost performance

 These reports highlight variances that are differences between actual

 The Variances raise questions such as:

 The significant variances are investigated to discover their root causes.

 The goal is to improve operations- not to assign blame !!

Are standards the

 Price and quantity standards are determined separately for

 Different managers are usually responsible for buying and for

 The buying and using activities occur at different points in

Price Variance Quantity Variance

Difference between Difference between

Price Variance Quantity Variance

Materials price variance Materials quantity

Actual Quantity Actual Quantity Standard

Price Variance Quantity

 The actual quantity represents the amount of direct

 The standard quantity represents the standard

 The actual price represents the actual amount paid

 The standard price represents the amount that

The labor rate variance, defined as the difference

The labor efficiency variance, defined as the difference

However, labor variances are not entirely controllable by one

The variable overhead efficiency variance, defined as the difference

• Standard costs are a key element of the management by

• Standards that are viewed as reasonable by employees can

• Standard costs can greatly simplify bookkeeping.

• Standard costs fit naturally into a responsibility accounting

 Standard cost reports may not be timely.

 Invalid assumptions about the relationship between labor

 Favorable variances may be worse or bad than unfavorable

 Emphasis on negative may impact morale.

 Continuous improvement may be more important than

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