UNIT4:STANDARD COST
Key unit competence: To be able to control account using standard
costing
Introductory activity:
Read the following case study and answer the given questions
The management must continually search for ways to obtain maximum
operating effectiveness from the available resources. One of the most
important functions of management accounting is facilitating managerial
control. A manufacturing firm is usually concerned with producing its product
at the lowest possible costs consistent with the quality it wishes to maintain.
Actual costs become a factor in determination of the net income for the
period. Such actual cost information can also be useful in establishing basis
for product costing and pricing, as it reflects a desirable level of performance.
Management, in assigning responsibility for the actual results of operations,
wants to know that those results were measured accurately. For that reason
a measure of acceptable performance i.e, a standard must be applied to
actual results. So the standard cost is an effective management tool for
planning, decision-making, coordinating and control.
1.Complete the following sentence:
a. Predetermine cost are……………….used for cost control and performance
evaluation2. What is the importance of Standard costing in budgetary control?
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4.1. Introduction to standard costing
Learning Activity 4.1
Standard cost accounting can be a highly beneficial tool for managers who
are attempting to plan a more accurate budget. Accurate budgets could
lead to a more profitable and efficient business at the end of the day. This
is because a standard costing system provides managers with a projected
idea of the spending costs.
Standard costing is the practice of estimating the expense of a production
process. It’s a branch of cost accounting that’s used by a manufacturer, for
example, to plan their costs for the coming year on various expenses such
as direct material, direct labour or overhead. These manufacturers will also
be able to compare the standard cost to actual costs.
1. What does it mean “standard costing”.2. Outline the benefits of standard costing in the company
4.1.1. Definition of standard costing
According to the Chartered Institute of Management Accountants (C.I.M.A)
standard costing is defined as “the preparation and the use of standard costs,
their comparison with actual costs and analysis of variance their causes and
point of incidence”
Brown and Howard have defined it as “a technique of cost accounting which
compares the standard cost of each product or service with actual cost to
determine the efficiency of the operation so that any remedial action may be
taken immediately”.
Standard costing is planned, generally established well before production
begins, and provide management with goals to attain (planning) and a basis
for comparison with actual results (control). Standard costs are costs per unit
while a budget is total costs. Standard costs are also known as planned costs,
predicted costs and scheduled costs.
Standard cost: is defined in the CIMA official Technology as” the planned unit
cost of the product, components or service produced on a period.
Historical costs: means actual or past costs and historical costing is a system
in which actual costs incurred in the past are ascertained.
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4.1.2. Standard costing steps
The following are the steps which are to be taken while doing standard costing:
a) Setting the standard or establishing standards: The first step is
to set standards on the basis of management’s estimation. Basically
standards are set considering the past data, future trends, and production
plan.
b) Ascertaining actual results or Determination of actual costs:
When standards are set the second step is to determine the costs for
each element like material, labor and overhead.
c) Comparison of Actual value costs and standard costs: The next
step is to compare the standard cost with the actual cost to determine
the variance.
d) Determination of causes: once the comparison is done, the next step
is to find out the reason for the variance so that corrective measures can
be taken
e) Investigation of the variance or Disposition of variance: The last
step involves the disposition of variance by transferring it to the profit and
loss account
4.1.3. Purpose of standard costing
In accounting, a standard costing is a tool for planning budget, managing and
controlling costs and evaluating cost management performance. A standard
costing system involves estimating the required costs of a production process.
But before the start of the accounting period, determine the standards and
set regarding the amount and cost of direct materials required for production
process and the amount and pay rate of direct labour required for the production
process. In addition, these standards are used to plan a budget for the production
process. At the end of the accounting period, use the actual amounts and
costs of direct material. Then utilize the actual amounts and pay rates of direct
labour to compare it to the previously set standards. When you compare the
actual costs to the standard costs and examine the variance between them, it
allows manager to look for ways to improve cost control, cost management, and
operational efficiency
4.1.4. Advantages and Disadvantages of standard costing
– Advantages of standard costing
The advantages to be derived from a system of standard costing will vary fromone business to another, possible advantages are as follows:
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a) It serves as a basic for measuring operating performance and cost control
b) It aids price fixing
c) c) Standard costing facilitates evaluation of jobs and introduction of
incentives
d) It serves as basis for inventory valuation
e) It facilitates delegation of authority
f) Standard costing facilitates coordination
g) It reduces wastes
h) Standard costing is also used for the measurement of profit
i) iStandard costing is used in planning, budgeting and decision making
– Disadvantages.
Standard costing system suffers from certain disadvantages.
a) The system may not be appropriate to the business
b) The staff may not be capable for operating the system
c) A business may not be able to keep standards up-to-date
d) Inaccurate and unreliable standards cause misleading results and thus
may not enjoy the confidence of the users of the system
e) Operations of the standard costing
f) Standard costing is expensive and unsuitable in job order industries
which are manufacturing non-standardised products.
4.1.5. Types of standard costing
There are four types of standard costing. These are explained as under:
a) Ideal Standards
These standards costs represent perfect performance. They assume 100%
efficiency that there are no losses or idle time. They represent the minimum
costs that are possible under the most efficient operating conditions. Ideal
standard costs are not generally used in practice as they are in practice as they
are likely to have demotivation effect on staff.
b) Basic Standards
These are standard costs that do not change over many years. The advantage
of this type of standard cost is that it provides a base for comparison with actual
costs over a period of years. However, change may occur in prices; method of
production; or other factors so that basic standard costs are no longer useful asthey do not represent current costs; they do not accurately represent what the
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organisation expects to achieve now.
c) Expected Standards or Attainable standards
These are also known as attainable standards. They are based on normal
operating conditions and an allowance is made for average wastages and
inefficiencies. In this case, it is assumed that there will be some loss of production
due to power failure, machinery breakdown or labour turnover etc. An expected
or attainable standard can be defined as” standard which can be attained if a
standard unit of work is carried out efficiently, a machine properly operated or
material properly used”. These can be used for product costing, for cost control,
for stock valuation and as a basis for budgeting.
d) Current Standards
Current standard costs should be tough but realistic. They should be tough
so that staff will have to work hard to achieve the standards but they also must
be realistic because if not, staff will not be motivated to work hard. Currently
standard costs are the most suitable for companies to use. They provide
information for planning and control purposes.
e) Normal standard
These are such standards which are expected if normal circumstances prevail.
Term normal represents the normal conditions of the business in the absence of
any unexpected fluctuations (either favourable or unfavourable). Even through
normal standards are more of theoretical in nature as reality cannot be sufficiently
predicted with all its fluctuations in advance. Also, circumstances may change
in such a way that factors which were expected to be controllable are not socontrollable by the managers
Application activity 4.1
1. Which of the following is true about standard costing?
a. It is a technique of implementing cost control within the organisation
b. It helps in planning out business activities within the organisation
c. Both a and b are incorrectd. Both a and b are correct
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2. Which of the following industries is standard costing most suited for?
a. It is suitable for industries that produce standard product
b. It is suitable for enterprises that are engaged in service activities
c. It is suitable for industries that produce non-standard products
d. None of the above
3. Which of the following is an advantage of the standard costing system?
a. It helps in promoting and measuring efficiencies within an organisation
b. It helps to control and reduce the overall costing within an organisation
c. It helps to fix the selling price for the products manufactured within an
organisation
d. All of the above
4. Which of the following activities is true about the cost variance under the
standard costing system?
a. Cost variance is the difference between the standard cost and actual cost
b. Cost variance is the difference between the standard cost and the budgeted
cost
c. Cost variance is the difference between the standard cost and the marginal
cost
d. Cost variance is the difference between the actual cost and marginal cost
5. Which of the following activities is the standard costing system used for?
a. It is a basis for implementing cost control and fixing the price of products
through variance analysis
b. It helps to ascertain the cost -volume relationship between product
manufactured by the business
c.It helps to establish the breakeven point for the products manufactured by
the companyd. None of the above
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6. A………standard is a standard for certain period, for certain conditions
and for certain circumstances
a. basic
b. current
c. normal
d. ideal
7. This is a standard which is established for, unaltered over a long period of
time
a. Basic standard
b. Current standard
c. Normal standard
d. Ideal standard
8. Basic standards are more
a. Idealistic
b. Realistic
c. Both (a) and (b)
d. None of the above
9. Define” standard costing”
10. What are the steps of standard costing?
11. What is the main purpose of standard costing?
12. Explain the 5 advantages and 5 disadvantages of standard costing
13. List the various types of standards
6. A………standard is a standard for certain period, for certain conditions and for
certain circumstances
a. basic
b. current
Management Accounting | Experimental Version | Student Book | Senior Six4.2. Comparison between budget control and standard
costing
Learning Activity 4.2
Read the following information and answer the question below:
Both Standard Costing and Budgetary Control are the methods that provide
a reference point for assessing performance and analysing discrepancy
between actual and estimated figures.
But as Budgetary Control makes side-by side comparisons, the regular
changes are made in the budgets, and so it eliminates the need to mention
the variance. And this is what the majorly missing from the standard costing.
From the information above, compare budget control to standard costing.
Learning Activity 4.2
4.2.1. Similarities between budget control and standard
costing
Budget control and standard costing are comparable systems of cost accounting
in that they are both predetermined and forward-looking. Both standard costing
and budgetary control achieve the same objective of maximum efficiency and
cost reduction by establishing a predetermined standard, comparing actual
performance with the standard, and taking corrective measures where necessary.
Thus, both are useful tools for management in controlling costs.
4.2.2. Difference between budget control and standard costing
The following are the major differences between standard costing and budgetary
control:
– Standard costing is a cost accounting system, in which performance is
measured by comparing the actual and standard costs. Budgetary control
is a control system which actual and budgeted results are compared
continuously in order to achieve the desired results.
– Standard costing is limited to, cost data, but budgetary control is related to
cost as well as economic data of the enterprise.
– Standard costing is a unit concept, but budgetary control is a total concept.
– Standard costing has a restricted scope, limited to production costs only,
whereas budgetary control has a comparatively wider scope as it covers all
the operations of the whole organization.
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– In standard costing the comparison is made between actual cost and
standard cost of actual output. On the other hand, in budgetary control the
comparison is made between the actual and budgeted performance.
– Standard costs do not change due to short-term changes in the conditions,
but budgeted costs may change.
– Standard costing applies to manufacturing concerns. In contrast to budgetcontrol, which applies to all organisations.
Application activity 4.2
I. Multiple choice questions
1. Budgetary control helps in implementation of:
a. Standard Costing
b. Marginal Costing
c. Ration Analysis
d. Technical Analysis
2. Standard costing is a tool, which replaces the bottleneck of the…………
costing
a. present
b. future
c. historical
d. none of the above
3. Both standard costing and budgetary control have the following common
feature(s)
a. Both techniques are based on the presumption that cost is controllable
b. In both techniques, results of comparison are analysed and reported
to management
c. Both have a common objective of improving managerial control
d. All of the above
4. What are the similarities between budget control and standard costing?5. Differentiate between budget control from standard costing
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4.3. Using standard costing in budgetary control
Learning Activity 4.3
Read the following information and answer the question below
A standard costing system involves estimating the required costs of a
production process. Standard costs are estimates of actual costs in a
company’s production process because actual costs cannot be known in
advance.How is standard costing used in budgetary control?
4.3.1. Use of variance in the budgetary management
Variance analysis is used in budgeting and in management accounting.
Management of business use variances in decision making. Variance analysis
helps project managers in outlining sudden and systematic changes between
the amounts budgeted for a project and the actual amount spent. This term is
also applicable in sales, for instance, if an individual budgets of Frw 80,000 for
sales in a particular month and the actual sales is Frw 42,000, the variance is
Frw 38,000. For further the use of variance will be discussed in detail in thefollowing unit 5.2.
Application activity 4.3
1. How variance is used in budgetary management?2. Explain the useful of standard costing in budgetary control?
Skills Lab 4
Students visit the purchase department from their respective schools
and the purchase officer gives the different articles and their respective
prices on the markets. Referring to those prices the students present thestandards costs of each product to be bought by schools for next week.
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End of unit assessment 4
END UNIT ASSESSMENT
1. Complete the following statement
A Standard cost is…………………………
2. What are two main uses of standard costing?
3. A control technique which compares standard costs and revenues with
actual results to obtain variances which are used to stimulate improved
performance is known as:
A. Standard costing
B. Variance analysis
C. Budgetary control
D. Budgeting
4, What are the types of standard costing?
5.. Which statement is true?
A. Standard which includes no allowance for losses, wastes and
inefficiencies. It represents the level of performance which is attainable
under perfect operating conditions.
B. A standard which includes some allowance for losses, wastes and
inefficiencies. It represents the level of performance which is attainable
under efficient operating conditions.
C. A standard which is based on currently attainable operating conditions.D. standard which is kept unchanged, to show the trend in cost.
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6. Choose the best definition from the following of a standing hour?
An operating hour in which there no exceptional events, e.g machine
breakdowns
An hour during which only standard unit are made
The amount of work achievable in an hour, working at standard efficiency
levels
An hour during which only standard hourly rates are paid to labour
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