Chapter8

Chapter 8Chapter 8

Standard Cost AccountingStandard Cost Accounting

Materials, Labor, and Factory Materials, Labor, and Factory OverheadOverhead

Learning ObjectivesLearning Objectives

LO1LO1 Describe the different standards used Describe the different standards used in in determining standard costs.determining standard costs.

LO2LO2 Use the proper procedures for recording Use the proper procedures for recording standard costs for materials and labor.standard costs for materials and labor.

LO3LO3 Explain the meaning of variances and how Explain the meaning of variances and how they are analyzed.they are analyzed.

LO4LO4 Prepare journal entries to record and Prepare journal entries to record and dispose of variances.dispose of variances.


Lo5Lo5 Perform an in-depth variance Perform an in-depth variance analysis.analysis.

LO6LO6 Recognize the specific features of a Recognize the specific features of a standard cost system.standard cost system.

LO7LO7 Account for standard costs in a Account for standard costs in a departmentalized factory.departmentalized factory.

LO8LO8 Recognize the difference between Recognize the difference between actual and applied overhead.actual and applied overhead.


LO9LO9 Compute the controllable variance and the Compute the controllable variance and the volume variance for the two-variance volume variance for the two-variance

method of analysis.method of analysis.

LO10LO10 Compute the spending, efficiency, budget, Compute the spending, efficiency, budget, and volume variances for the four-variance and volume variances for the four-variance method of analysis.method of analysis.

LO11LO11 Compute the budget, capacity, and Compute the budget, capacity, and efficiency variances for the three-variance efficiency variances for the three-variance method of analysis.method of analysis.

Standard Cost Standard Cost AccountingAccounting

Primary purpose is to control costs and Primary purpose is to control costs and promote efficiency. promote efficiency.

This system is used in conjunction with This system is used in conjunction with other costing methods.other costing methods.

It is based on predetermined rates.It is based on predetermined rates. Any deviation can be quickly detected Any deviation can be quickly detected

and responsibility pinpointed so that and responsibility pinpointed so that appropriate action may be taken.appropriate action may be taken.

Control of CostsControl of Costs

Stability of costs does not necessarily Stability of costs does not necessarily indicate efficiency. indicate efficiency.

Comparison of actual costs to standard, Comparison of actual costs to standard, rather than to historical cost, will help rather than to historical cost, will help control costs and promote efficiency.control costs and promote efficiency.

Standard costs are usually determined for a Standard costs are usually determined for a period of one year and are revised annually.period of one year and are revised annually.

Types of StandardsTypes of Standards

A standard is a norm against which the A standard is a norm against which the actual performance can be measured.actual performance can be measured. Ideal standard – a standard that a company sets Ideal standard – a standard that a company sets

in which they meet their maximum degree of in which they meet their maximum degree of efficiency. Does not take inefficient conditions efficiency. Does not take inefficient conditions into consideration.into consideration.

Attainable standard – includes factors such as Attainable standard – includes factors such as lost time and normal waste and spoilage.lost time and normal waste and spoilage.

Standard Cost Standard Cost ProceduresProcedures

1.1. Standard costs are determined for the three Standard costs are determined for the three elements of cost – direct materials, direct elements of cost – direct materials, direct labor, and factory overhead.labor, and factory overhead.

2.2. The standard costs, the actual costs, and the The standard costs, the actual costs, and the variance between the actual and standard variance between the actual and standard costs are recorded in appropriate accounts.costs are recorded in appropriate accounts.

3.3. Significant variances are analyzed and Significant variances are analyzed and investigated and appropriate action is taken.investigated and appropriate action is taken.

Determining Standards Determining Standards – Materials and Labor– Materials and Labor

Materials cost standardMaterials cost standard Determined based on the production Determined based on the production

engineering department’s estimate of the engineering department’s estimate of the amounts and types of materials needed.amounts and types of materials needed.

Cost is based on the purchasing agent’s Cost is based on the purchasing agent’s knowledge of suppliers’ prices.knowledge of suppliers’ prices.

Labor cost standardLabor cost standard Time-study engineers will establish the time Time-study engineers will establish the time

necessary to perform each operation.necessary to perform each operation. Human resource department will provide the Human resource department will provide the

prevailing wage rates.prevailing wage rates.

Recording Standard Recording Standard CostsCosts

Standard costs, actual costs, and the Standard costs, actual costs, and the variances are recorded in various variances are recorded in various journals and transferred to the general journals and transferred to the general ledger.ledger.

The entries may occur more frequently, The entries may occur more frequently, depending upon the capabilities of the depending upon the capabilities of the accounting information system.accounting information system.

Determining VariancesDetermining Variances

A A variancevariance is the difference between the actual is the difference between the actual and the standard costs of materials, labor, and and the standard costs of materials, labor, and overhead.overhead.

The differences may be in usage and in prices.The differences may be in usage and in prices. Materials price varianceMaterials price variance Materials quantity varianceMaterials quantity variance Labor rate varianceLabor rate variance Labor efficiency varianceLabor efficiency variance

Materials Price Materials Price VarianceVariance

Indicates the difference between actual Indicates the difference between actual and standard unit cost times the actual and standard unit cost times the actual quantity of materials used.quantity of materials used.

(Actual unit price of materials – standard (Actual unit price of materials – standard price of materials) x actual quantity of price of materials) x actual quantity of materials used = Materials Price materials used = Materials Price VarianceVariance

Materials Quantity Materials Quantity VarianceVariance

Represents the difference between Represents the difference between actual quantity of materials used and actual quantity of materials used and standard quantity allowed times the standard quantity allowed times the standard unit cost of materials.standard unit cost of materials.

(Actual quantity of materials used – (Actual quantity of materials used – standard quantity of materials allowed) x standard quantity of materials allowed) x standard unit price of material = standard unit price of material = Materials Quantity VarianceMaterials Quantity Variance

Labor Rate VarianceLabor Rate Variance

Indicates the difference between actual Indicates the difference between actual and standard labor rate times the actual and standard labor rate times the actual hours worked.hours worked.

(Actual labor rate per hour – standard (Actual labor rate per hour – standard labor rate per hour) x actual number of labor rate per hour) x actual number of labor hours worked = Labor Rate labor hours worked = Labor Rate VarianceVariance

Labor Efficiency Labor Efficiency VarianceVariance

Represents the difference between Represents the difference between actual quantity of labor worked and actual quantity of labor worked and standard quantity allowed times the standard quantity allowed times the standard rate per hour.standard rate per hour.

(Actual number of labor hours worked – (Actual number of labor hours worked – standard number of labor hours allowed) standard number of labor hours allowed) x standard labor rate per hour = Labor x standard labor rate per hour = Labor Efficiency VarianceEfficiency Variance

Materials VariancesMaterials Variances

Actual cost (Actual quantity used x actual priced per unit)

Actual quantity used x standard price per unit

Equivalent production x Standard per unit x

Standard price

Net Materials Variance

Materials Price Variance Materials Quantity Variance

Labor VariancesLabor Variances

Actual hours (Actual hours worked x actual rate per hour)

Actual hours worked x standard price per hour

Equivalent production x Standard hours per unit x

Standard rate

Net Labor Variance

Labor Rate Variance Labor Efficiency Variance

Accounting for Accounting for VariancesVariances

To record the entry for direct materials To record the entry for direct materials cost:cost:

Work in ProcessWork in Process XXXX

Materials Quantity VarianceMaterials Quantity Variance XXXX

Materials Price VarianceMaterials Price Variance XXXX

MaterialsMaterials XXXX

To record the entry for direct To record the entry for direct labor cost:labor cost:


Labor Rate VarianceLabor Rate Variance XXXX

Labor Efficiency VarianceLabor Efficiency Variance XXXX

PayrollPayroll XXXX

To record the entry applying factory To record the entry applying factory overhead to work in process:overhead to work in process:


Applied Factory OverheadApplied Factory Overhead XXXX

To record the entry for To record the entry for finished goods at standard finished goods at standard cost:cost:

Finished GoodsFinished Goods XXXX


Disposition of the Disposition of the VariancesVariances

1.1. Prorate the variances to Cost of Goods Sold, Work in Process, Prorate the variances to Cost of Goods Sold, Work in Process, and Finished Goods in proportion to the standard materials, and Finished Goods in proportion to the standard materials, labor, and overhead costs included in the ending balances for labor, and overhead costs included in the ending balances for those accounts.those accounts.

2.2. Close the variance entirely to Cost of Goods Sold for the period.Close the variance entirely to Cost of Goods Sold for the period.3.3. If 2 (above) would materially misstate financial statements, If 2 (above) would materially misstate financial statements,

prorate (1, above).prorate (1, above).4.4. If production is seasonal or varies greatly, set up a deferred If production is seasonal or varies greatly, set up a deferred

charges or credits on interim balance sheets, and dispose of at charges or credits on interim balance sheets, and dispose of at year end using one of the above methods.year end using one of the above methods.

5.5. If due to abnormal circumstances, charge off as extraordinary If due to abnormal circumstances, charge off as extraordinary gains or losses on the income statement.gains or losses on the income statement.

Analysis of VariancesAnalysis of Variances

Possible reasons for Possible reasons for materials price materials price variance.variance.

1.1. Inefficient purchasing Inefficient purchasing methods.methods.

2.2. Use of a slightly Use of a slightly different material than different material than the standard called the standard called for.for.

3.3. Increase in market Increase in market price.price.

Analysis of Variances Analysis of Variances (cont.)(cont.)

Reasons for Reasons for materials usage materials usage variance.variance.

1.1. Materials were Materials were spoiled or wasted.spoiled or wasted.

2.2. More materials More materials were used as an were used as an experiment to experiment to upgrade the upgrade the quality of the quality of the product.product.

Features of Standard Features of Standard CostingCosting

1.1. An actual unit cost of manufacturing a product is not An actual unit cost of manufacturing a product is not determined – only the total cost.determined – only the total cost.

2.2. Even though based on estimates, standards may be very Even though based on estimates, standards may be very reliable.reliable.

3.3. Standards must change as conditions change.Standards must change as conditions change.4.4. Standards provide incentives to keep costs and Standards provide incentives to keep costs and

performance in line with predetermined management performance in line with predetermined management objectives.objectives.

5.5. Recording variances, helps management focus attention Recording variances, helps management focus attention on prices paid and quantities purchased.on prices paid and quantities purchased.

6.6. Variances may be calculated weekly or daily to facilitate Variances may be calculated weekly or daily to facilitate corrective action, even when recorded monthly.corrective action, even when recorded monthly.

Journal Entries in a Journal Entries in a Standard Cost SystemStandard Cost System

Recording of materials cost in a standard cost system.Recording of materials cost in a standard cost system.

Work in ProcessWork in Process XX (Standard)XX (Standard)

Materials Quantity VarianceMaterials Quantity Variance XX (Unfavorable)XX (Unfavorable) XX (Favorable)XX (Favorable)

Materials Price VarianceMaterials Price Variance XX (Unfavorable)XX (Unfavorable) XX (Favorable)XX (Favorable)

Factory Overhead (Indirect Materials)Factory Overhead (Indirect Materials) XXXX

Materials (Actual)Materials (Actual) XXXX

Recording of labor in a standard cost Recording of labor in a standard cost system.system.

Work in ProcessWork in Process XX (Standard)XX (Standard)

Labor Rate VarianceLabor Rate Variance XX (Unfavorable)XX (Unfavorable) XX (FavorableXX (Favorable

Labor Efficiency VarianceLabor Efficiency Variance XX (Unfavorable)XX (Unfavorable) XX (Favorable)XX (Favorable)

Factory Overhead (Indirect Labor)Factory Overhead (Indirect Labor) XXXX

PayrollPayroll XXXX

Journal Entries in a Journal Entries in a Standard Cost System Standard Cost System (cont.)(cont.)

Applying factory overhead to work in process.Applying factory overhead to work in process.

Work in Process (standard cost)Work in Process (standard cost) XXXX

Applied Factory OverheadApplied Factory Overhead XXXX

Transfer to finished goods.Transfer to finished goods.

Finished Goods (standard cost)Finished Goods (standard cost) XXXX


Record actual factory overhead.Record actual factory overhead.

Factory Overhead (actual)Factory Overhead (actual) XXXX

Various CreditsVarious Credits XXXX

Factory Overhead – Factory Overhead – Determining Standard Determining Standard CostsCosts

Involves estimation of factory overhead at the Involves estimation of factory overhead at the standard level of production taking historical standard level of production taking historical data and future changes into consideration.data and future changes into consideration.

Standard cost is applied to Work in Process Standard cost is applied to Work in Process based on number of units produced.based on number of units produced.

Factory overhead is debited with actual costs Factory overhead is debited with actual costs and credited with standard costs.and credited with standard costs.

Two-Variance MethodTwo-Variance Method

Divides the total variance into two parts.Divides the total variance into two parts. Controllable variance Controllable variance

The amount by which the actual factory The amount by which the actual factory overhead costs differ from the standard overhead costs differ from the standard overhead costs for the attained level of overhead costs for the attained level of production.production.

Volume varianceVolume variance The difference between budgeted fixed The difference between budgeted fixed

overhead and the fixed overhead applied to overhead and the fixed overhead applied to work in process. work in process.

Labor VariancesLabor Variances

Actual factory overhead Overhead budgeted for actual production

Applied factory overhead

Net factory overhead variance

Controllable variance Volume variance

Four-Variance MethodFour-Variance Method

Recognizes two variable cost variances Recognizes two variable cost variances and two fixed cost variances.and two fixed cost variances.

Cost variances.Cost variances. Variable overhead spending varianceVariable overhead spending variance Variable overhead efficiency varianceVariable overhead efficiency variance

Fixed cost variances.Fixed cost variances. Fixed overhead budget varianceFixed overhead budget variance Fixed overhead volume varianceFixed overhead volume variance

Three-Variance MethodThree-Variance Method

Separates actual and applied overhead Separates actual and applied overhead into three variances.into three variances. Budget variance or spending varianceBudget variance or spending variance Capacity varianceCapacity variance Efficiency varianceEfficiency variance

Not as common as two variance method Not as common as two variance method but frequently used by manufacturers.but frequently used by manufacturers.

Chapter8

Documents

standard costs of materials

standard costsstandard

standard cost system

attainable standard

ideal standard

control costs

comparison of actual

types of standardsa