What is Standard costing?
Standard costing
Concept of standard costing
Meaning of standard cost
Standard cost is the cost that is expected to incur while producing goods or providing services. This is also called budgeted cost or planned cost. The main objective of anticipating the cost in advance is to carry out the production activities beneath the pre determined cost. After completing the work, the actual cost is compared with the standard cost for finding the deviation or variance. In this way, the main objective of standard cost is to ascertain the deviation between the standard and actual costs as to control cost.
The features of standard cost are given below:
a. It is a pre determined cost.
b. It is a future cost since it is expected to take place in future.
c. It is estimated on the basis of past costing information.
d. It is related to product, services, process etc.
e. It is determined on the basis of normal capacity.
f. It is used to assess performance efficiency for future.
In this way, standard cost is determining the cost to be incurred in future in advance under some specific conditions.
Meaning of standard costing
Standard costing is the preparation of standard cost and applying them to measure the variations that is caused due to the difference between the standard and actual cost. Such a difference is also called variation. The main reason behind calculation of such variance is to maintain the maximum efficiency in production. It is a management accounting tools for control.
According to Brown & Howard, "standard costing is a technique of cost accounting, which compares the standard cost of each product or service with actual cost to determine the efficiency of operation, so that any remedial action may be point of immediately."
Likewise, according to institute of cost and management accounting, London "standard costing is presentation and used of standard costs, their comparison with actual cost and the analysis of variances to show their causes and point of incidence."
From the definition given above, it is clear that the technique of standard costing may comprise:
a. Ascertainment of standard costs under each element of cost i.e. on material, on labour and on overhead.
b. Measurement of actual cost.
c. Comparison of the actual costs with the standard costs to find out the variance.
d. Analysis of variance for the purpose of ascertainment of reason of variances for taking the appropriate action where necessary. So that maximum efficiency may be achieved.
Standard costing and budgetary control
Budget and standards both provided the basis for comparison with the actual results. Budgetary control is another importance technique of cost control. In budgetary control, budgets are used as a means of planning and controlling. In budgeting control, the target of various segment are set in advance and actual performance is compared with predetermined object through which management can access the performance of difference departments. On the other hand, standard costing also sets standard and enables to determine efficiency on the basis of standard costing also sets and actual performance. But one should not be confused between the budgetary control and the standard costing. If both standard costing and budgetary control serve the same purposes then which one should be used? There are two opining about the use of these systems. One opining is that budgetary control is essential to determine standard cost. The other opinion is that standard costing system is necessary for planning budgets. If it possible then both systems will be beneficial in planning and controlling expenditures. Both are similar in their nature and in determining the results.
Difference between standard costing and budgetary control
Besides, similarities in their nature, the following are the points of distinction between these two systems.
Advantages of standard costing
The advantages of standard costing are given below.
a. Measuring efficiency: standard costing provides yardsticks against which actual costs are compared to ascertain efficiency of actual performance. Thus, standard costing helps in exercising cost control and provides information, which is helpful in cost reduction.
b. Determination of variance: by comparing actual cost with standard costs variances are determined. Analysis of variance will assist to single out inefficiency and locate person who are possible to take corrective measures at the earliest.
c. Facilitates cost control: every costing system aims to cost control and cost reduction. Standard costing helps in exercising cost control and provide information, which is helpful in cost reduction.
d. Eliminating inefficiency: standard costing will make possible to eliminate inefficiency at different steps of activities relating to materials, labour and overheads. Because setting standard require detailed study of various operations so that they may be made efficiency.
e. Helpful in taking important decisions: standard costs being predetermined costs and useful in planning and budgeting, it provides a valuable guidance to the management in taking important decision. The problem created by inflection, rising prices can be effectively taken with help of standard costing.
Disadvantages of standard costing
The disadvantages of standard costing are given below.
a. Difficulty in establishing standards: it is very difficult to establish standard costs of materials, labor and overheads. So, sometimes in accurate and out of date standards are set which do more harmful than any benefit as they provides wrong yardsticks.
b. Expensive: This system is expensive so small concerns may not afford to bear the costs. Establishment of standard costing requires high degree of technical skill.
c. Ignorance to qualitative aspects: standard costing system controls the operating part of an organization only as it ignores the other aspects like quality, lead time, service, customer's scarification and so on.
d. Assumption of constant condition: conditions of the business are changing. Hence, standard must be revised form time but it us very difficultly bringing changes in standard and is also expensive. Non-flexible standard loose their importance.
Pre-requisites or preliminaries of standard costing
The following are the pre-requisites for the establishment of standard costing in an organization.
a. Establishment of cost center
b. Determination of the types of standard
c. Setting of standards
Establishment of cost center
A cost centers is a department or part of department or items of equipment or machinery or a person or a group of persons in respect of which costs are accumulated and one where control can be exercised. Cost center are necessary for determining the cost and cost control. Hence, one of the pre-requisites of standard costing is to establish the necessary cost centers.
Determination of the types of standard
Under standard costing, the types of standard should be determined after setting up the cost centers some of the standards have been mentioned below.
a. Current standard: the standard fixed for short period is known as current standard. It reflects the performance, which should be attained during the current period. The period for current standard in normally one year.
b. Ideal standard: ideal standard represents a high level of efficiency. Ideal standard is fixed on assumption of favorable condition that may rarely exist. In this standard the deviation between target and actual performance are ignoble. Idle standard is not realistic and practicable.
c. Expected standard: this standard is based on expected conditions. This standard is based on past performances and present conditions. In these types of standard, variance between the budgeted targets and actual performance gives an idea about the efficiency or inefficiency of different individuals.
d. Basic standard: a basic standard may be defined as a standard, which is established for use for an indefinite period, which may be for a long period. These standard are revised only on the changes is specification of material and technology production. Basic standard cannot serve as a tool for cost control because the standard is not raised for a long time. The deviation between standard cost and actual cost cannot be used as a yardstick for measuring efficiency.
e. Normal standard: this standard is average standard. Normal standard anticipated can be attained over a future period of time. This standard is based on the conditions, which will cover a future period say 7 to 10 years, concerning one trade cycle.
Setting the standard
The third pre-requisites of standard costing system is setting the standards. The act of setting the standards for material, labour and overhead comes under this. The standard may be both monetary and non monetary. The standards are fixed for each elements of cost as follows:
The advantages of standard costing are given below.
a. Measuring efficiency: standard costing provides yardsticks against which actual costs are compared to ascertain efficiency of actual performance. Thus, standard costing helps in exercising cost control and provides information, which is helpful in cost reduction.
b. Determination of variance: by comparing actual cost with standard costs variances are determined. Analysis of variance will assist to single out inefficiency and locate person who are possible to take corrective measures at the earliest.
c. Facilitates cost control: every costing system aims to cost control and cost reduction. Standard costing helps in exercising cost control and provide information, which is helpful in cost reduction.
d. Eliminating inefficiency: standard costing will make possible to eliminate inefficiency at different steps of activities relating to materials, labour and overheads. Because setting standard require detailed study of various operations so that they may be made efficiency.
e. Helpful in taking important decisions: standard costs being predetermined costs and useful in planning and budgeting, it provides a valuable guidance to the management in taking important decision. The problem created by inflection, rising prices can be effectively taken with help of standard costing.
Disadvantages of standard costing
The disadvantages of standard costing are given below.
a. Difficulty in establishing standards: it is very difficult to establish standard costs of materials, labor and overheads. So, sometimes in accurate and out of date standards are set which do more harmful than any benefit as they provides wrong yardsticks.
b. Expensive: This system is expensive so small concerns may not afford to bear the costs. Establishment of standard costing requires high degree of technical skill.
c. Ignorance to qualitative aspects: standard costing system controls the operating part of an organization only as it ignores the other aspects like quality, lead time, service, customer's scarification and so on.
d. Assumption of constant condition: conditions of the business are changing. Hence, standard must be revised form time but it us very difficultly bringing changes in standard and is also expensive. Non-flexible standard loose their importance.
Pre-requisites or preliminaries of standard costing
The following are the pre-requisites for the establishment of standard costing in an organization.
a. Establishment of cost center
b. Determination of the types of standard
c. Setting of standards
Establishment of cost center
A cost centers is a department or part of department or items of equipment or machinery or a person or a group of persons in respect of which costs are accumulated and one where control can be exercised. Cost center are necessary for determining the cost and cost control. Hence, one of the pre-requisites of standard costing is to establish the necessary cost centers.
Determination of the types of standard
Under standard costing, the types of standard should be determined after setting up the cost centers some of the standards have been mentioned below.
a. Current standard: the standard fixed for short period is known as current standard. It reflects the performance, which should be attained during the current period. The period for current standard in normally one year.
b. Ideal standard: ideal standard represents a high level of efficiency. Ideal standard is fixed on assumption of favorable condition that may rarely exist. In this standard the deviation between target and actual performance are ignoble. Idle standard is not realistic and practicable.
c. Expected standard: this standard is based on expected conditions. This standard is based on past performances and present conditions. In these types of standard, variance between the budgeted targets and actual performance gives an idea about the efficiency or inefficiency of different individuals.
d. Basic standard: a basic standard may be defined as a standard, which is established for use for an indefinite period, which may be for a long period. These standard are revised only on the changes is specification of material and technology production. Basic standard cannot serve as a tool for cost control because the standard is not raised for a long time. The deviation between standard cost and actual cost cannot be used as a yardstick for measuring efficiency.
e. Normal standard: this standard is average standard. Normal standard anticipated can be attained over a future period of time. This standard is based on the conditions, which will cover a future period say 7 to 10 years, concerning one trade cycle.
Setting the standard
The third pre-requisites of standard costing system is setting the standards. The act of setting the standards for material, labour and overhead comes under this. The standard may be both monetary and non monetary. The standards are fixed for each elements of cost as follows:
Analysis of variance
The objective of standard costing is to exercise cost control and reduction. The comparison of the performance target with actual performance will enable a control system cost. Control and reduction are possible through the efficiency in the use of material and labour. The deviation between standard costs and actual costs is known as variances. In simple way, the difference between standard cost and actual cost is known as variances. The variance may be favorable or unfavorable. If actual cost is less than the standard cost, the variance will be favorable. On the contrary, if actual cost is more than the standard cost, the variance will be efficiency and vice versa. Variances of different items of cost provides the key to cost control because they disclose whether and to what extent standard set have been achieved.
Another way of classifying to variance may be controllable and uncontrollable variance variance are competed under each element of cost for which standard have been established. As the ascertainment of variances is not in itself control, each of these variances is analyzed to find out the causes or circumstances leading to it. So those, the management can exercise proper control. A suitable analysis will reveal that some of the time taken by an operator exceeds the standard time set; responsibility for the unfavorable variances may be fixed on the executive concerned. Such variances would, therefore be controllable. On the other hand, if variances arise due to external causes such as labour disputes, general increase of wages rates in a particular trade, devaluation of currency, variation in customer's demand, no responsibility can be assigned to any individual, such variances would therefore, be unfavorable variances. Uncontrollable variance does not relate to an individual or department but it arises due to external reasons. Uncountable variance dies not relate to an individual or department but it arises due to external reasons. Analysis of variances of variance may be done in respect of each element of cost. The costs variance may be classified into three parts are as under:
a. Material variances
b. Labour/ wages variances
c. Overhead variances
Material variance
Material variances are more popularly known as materials cost variable (MCV). The material cost variance is the difference between the standard cost of material that should have been incurred is manufacturing the actual output and in cost of material that has been actually incurred. The material variances may be classified as under.
Material cost variance
Material cost variance is the difference between standard materials cost and actual material cost. Material cost variance (MCV) depends on two factors. The quantity of materials used and the price paid for materials. This material cost variance is computed after ascertaining the actual cost of material in production. Material cost variance is calculated as follows:
a. Formula method
Material cost variance= standard cost – actual cost
= (standard quantity of material x standard price per unit) – (actual quantity of materials x actual price per unit)
Or, MCV = (SQ x SP) – (AQ x AP)
Material cost variance = material usage variance + material price variance
Material variances are more popularly known as materials cost variable (MCV). The material cost variance is the difference between the standard cost of material that should have been incurred is manufacturing the actual output and in cost of material that has been actually incurred. The material variances may be classified as under.
Material cost variance
Material cost variance is the difference between standard materials cost and actual material cost. Material cost variance (MCV) depends on two factors. The quantity of materials used and the price paid for materials. This material cost variance is computed after ascertaining the actual cost of material in production. Material cost variance is calculated as follows:
a. Formula method
Material cost variance= standard cost – actual cost
= (standard quantity of material x standard price per unit) – (actual quantity of materials x actual price per unit)
Or, MCV = (SQ x SP) – (AQ x AP)
Material cost variance = material usage variance + material price variance
b. Table method
MCV = M3 – M1
Where,
M1= AQ x AP;
M3 = SQ x SP
Labour idle time variance
This is sub variable of labour efficiency variance. Idle time variance occurs when workers remain idle due to some reason during hours for which they are paid. Idle time occurs due to non-availability of raw materials, breakdown of machines, failure of power and such other abnormal circumstances.
Idle time variance is always adverse or unfavorable and needs investigation for its causes. It will show inefficiency on the part of works through they are not responsible for this. Labour idle time variance is calculated as follows:
Labour idle time variance = idle time x standard wages rate
Or, LITV = IT x SR
Labour mix variance
It is also of labor efficiency. Labour mix means gang composition. Labour mix variance refers to the same as a material mix variance. Usually, a manufacturing process requires difference types or categories or skill or work such as skilled, semi-skilled, men and women etc. the composition of actual labour gang may not be same to the standard labour mix. The changes in labour composition may be caused by the shortage of one grade of labour of labour necessitating the employment of another grade of labour. This variance shows the management how much labour cost variance is due to the change in labour composition, which may cause a favorable or unfavorable effect in the direct labour cost of the batch of actual production. Labour mix variance is calculated as follows:
a. Formula method
Labour mix variance= (actual mix/ standard mix x standard cost of standard mix) – (standard cost of actual mix)
It is also of labor efficiency. Labour mix means gang composition. Labour mix variance refers to the same as a material mix variance. Usually, a manufacturing process requires difference types or categories or skill or work such as skilled, semi-skilled, men and women etc. the composition of actual labour gang may not be same to the standard labour mix. The changes in labour composition may be caused by the shortage of one grade of labour of labour necessitating the employment of another grade of labour. This variance shows the management how much labour cost variance is due to the change in labour composition, which may cause a favorable or unfavorable effect in the direct labour cost of the batch of actual production. Labour mix variance is calculated as follows:
a. Formula method
Labour mix variance= (actual mix/ standard mix x standard cost of standard mix) – (standard cost of actual mix)
b. Table method
LMC = L3- L2
Where, L2= ACT x SR, L2= ACT x SR2
SR, standard rate in actual mix= {A Nos. x SR)
SR, standard rate in standard mix (s.No. x SR)
Labor yield variance
It is like material yield variance, labour yield variance arises due to the difference between standard yield (output) and actual yield. If the actual production is more or less output than the output than they should have produced as per the standard, the deviation due to this effect is called labour yield variance. It is also known as labour efficiency sub variance with comparing the two outputs if actual output is more than standard, labour yield variance is favorable. If actual output is less than standard, labour yield variance is unfavorable. This variance can be calculated as follows:
1. Write the meaning or standard cost.
Standard cost is the cost them is expected to incur while producing goods or providing services. This is also called busted cost or panned cost. The main objective of anticipating the cost in advance is to carry out the production activities beneath the pre determined cost. After completing the work, the deviation or variance. In this way, the main objective of standard cost is to ascertain the advection between the standard and actual costs as to control cost.
2. What is standard costing?
Standard costing is the preparing of standard costs and applying them to measure the variation that is caused due to the difference between the standard and actual cost. Such a difference is also called variation. The main reason behind calculations off such variance is to maintain to maximum efficiency in production. It is a management accounting tools for control.
3. What is budgetary control?
Budgetary control is an importance technique of cost control. In budgetary control, budgets are used as a means of planning and controlling. In budgetary control, the target of various segments are set in advance and actual performance is compared with predetermined objects through which management can assess the performance of difference departments.
4. What are the differences between budgetary control and standard costing?
The difference between budgetary control and standard costing are as follows:
a. Concept: standard costing is a unit concept but budgetary control is a total concept.
b. Objectives: the main objective of standard costing is to provide the basis for management control whereas the main objective of budgetary control is to aid in the planning for profit.
c. Basis: standard costs are fixed on the basis of technical information but the budgets are fixed on the basis of pat records and future expectations.
d. Use: standard costing is more sensible in case of manufacturing firms but budgeting is pervasive and common to all kinds of firms.
e. Scope: the scope of standard costing is narrow than the scope of budgetary control.
5. Write in brief about ideal standard and expected standard.
Ideal standard: ideal standard represents a high level of efficiency. Idle standard is fixed on assumption of favourative condition that may rarely exist. In this standard the deviation between target and actual performance are ignorant. Idle standard is not realistic and practicable.
Expected standard: this standard is based on expected conditions. This standard is based on past performance and present condition targets and actual performance gives an ideal about the efficiency or inefficiency of difference individuals.
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