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Chapter 7: Standard Costing and Variance Analysis
© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part.
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Learning Objectives Why are standard cost systems used?
How are material, labor, and overhead standards set? How are material, labor, and overhead variances calculated and recorded? How have the setting and use of standards changed over time? How does the use of a single conversion element (rather than the traditional labor and overhead elements) affect standard costing? (Appendix) How are variances affected by multiple material and labor categories? © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part.
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Standard Cost Systems Manufacturing, service and not-for-profit organizations Record standard and actual costs in the accounting records Provides an essential element of cost control: having norms against which actual operations can be compared Clerical efficiency © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part.
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Use of Standard Cost Systems
Motivating Planning Controlling – variance analysis Decision Making Performance Evaluation © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part.
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Setting Standards and Trends
Appropriateness Attainability Expected standards Practical standards Ideal standards Trends in Standards Ideal Standards and Theoretical Capacity Adjusting standards Price variance on purchase versus usage Decline in direct labor content © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part.
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Standards Standard costs are budgeted costs to
Manufacture a single unit of product or Perform a single service To develop standards, identify Material and labor types, quantities, and prices Overhead types and behavior © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part.
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Manufacturing Objective
Minimize unit cost while achieving certain quality specifications. Input Resources Output Quality © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 7
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Material Standards Materials used From
Types Quality Quantity Price From Product specifications, observation, inquiry Bill of materials Balance cost, quality, and projected sales price Standard Material = Unit Purchase Price * quantity Cost © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 8
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© 2013 Cengage Learning. All Rights Reserved
© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 9
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Labor Standards Labor used From Types Quantity Cost
Production, setup, cleanup, and rework Quantity Cost Include wages, payroll taxes, and fringe benefits From Industrial engineering studies including methods-time measurement (MTM), time and motion studies, historical data Operations flow document Standard Labor = Hours * Wage Rate Cost © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 10
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© 2013 Cengage Learning. All Rights Reserved
© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 11
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Overhead Standards Variable and fixed manufacturing overhead
Estimated level of activity Estimated costs Predetermined factory overhead application rates © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 12
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Standard Cost Card For one unit of output (a bike)
Standard Direct Material Components Standard Direct Labor Components Manufacturing Overhead Variable Overhead Fixed Overhead © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 13
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© 2013 Cengage Learning. All Rights Reserved
© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 14
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Variance Analysis Variance is the difference between
an actual cost and a standard cost. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 15
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Total Variance Actual cost of actual production input
Total actual cost incurred minus total standard cost applied to output produced Standard cost of actual production output Actual cost of actual production input Total Variance* *Favorable or unfavorable © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 16
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Total Variance SP x SQ AP x AQ Total Variance Inputs Outputs
AP = actual cost/price per unit of materials or hours of labor AQ = actual quantity of materials or hours of labor SP = standard cost/price per unit of materials or hours of labor SQ = standard quantity of materials or hours of labor © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 17
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Price Variance AP x AQ SP x SQ Total Variance SP x AQ (AP – SP) x AQ*
Price/Rate Variance What was paid What should have been paid (AP – SP) x AQ* *Favorable or unfavorable © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 18
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Usage Variance AP x AQ SP x SQ Total Variance SP x AQ Usage Variance
What was used What should have been used for the level of output (AQ – SQ) x SP* *Favorable or unfavorable © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 19
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Material Price Variance (MPV)
AP x AQ SP x SQ Total Variance SP x AQ MPV What was paid What should have been paid (AP – SP) x AQ* *Favorable or unfavorable © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 20
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MPV Calculations Point of purchase or When materials used
Calculate MPV at Point of purchase or When materials used © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part.
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Material Quantity Variance (MQV)
AP x AQ SP x SQ Total Variance SP x AQ MQV What was used What should have been used for level of output (AQ – SQ) x SP* *Favorable or unfavorable © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 22
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Labor Rate Variance (LRV)
AP x AQ SP x SQ Total Variance SP x AQ LRV What was paid What should have been paid (AP – SP) x AQ* *Favorable or unfavorable © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 23
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Labor Efficiency Variance (LEV)
AP x AQ SP x SQ Total Variance SP x AQ LEV What was used What should have been used for level of output (AQ – SQ) x SP* *Favorable or unfavorable © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 24
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Overhead Variances Variable Overhead
Actual variable overhead is total of various ledger accounts SP = Predetermined variable overhead rate Fixed Overhead Actual fixed overhead is total of various ledger accounts SP = Predetermined fixed overhead rate © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 25
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VOH Efficiency Variance
Variable Overhead Variances VOH Spending Variance VOH Efficiency Variance Total VOH Variance SP x SQ SP x AQ Actual VOH Budgeted VOH Applied VOH Actual For actual hours used What should have been used for level of output © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 26
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VOH Spending Variance Caused by price differences
Managers have little control over prices Caused by shrinkage or waste Managers should be held accountable © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 27
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Fixed Overhead Variances
SP x SQ Actual FOH Budgeted FOH Applied FOH FOH Spending Variance FOH Volume Variance Total FOH Variance Constant Amount What should have been used for level of output © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 28
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FOH Spending and Volume Variance
FOH Spending Variance Calculate variance for each component Caused by price differences May reflect mismanagement of resources FOH Volume Variance Measures capacity utilization Caused by producing at a level that differs from the capacity level used to compute the predetermined overhead rate Also called the noncontrollable variance © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part.
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Alternative Overhead Variance Approaches
One variance Two variance Three variance Four variance © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 30
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One Variance Approach Standard Cost of OH Actual OH SP x SQ
Total OH Variance Applied Overhead © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 31
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Two Variance Approach SP x SQ Actual OH Budgeted OH based on SQ
Standard Cost of OH Budget Variance Volume Variance Total OH Variance Applied Overhead © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 32
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Three Variance Approach
Budgeted OH Actual OH Standard OH based on Actual Inputs based on Standard Output SP x SQ OH Spending Variance OH Efficiency Variance Volume Variance Total OH Variance Applied Overhead © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 33
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Standard Cost Journal Entries
Variances recorded in accounting system Favorable variances Credits Represent savings in production costs Unfavorable variances Debits Represent excess production costs Inventories are recorded at standard cost during the period © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 34
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(Point of Purchase Method)
Purchase of Materials (Point of Purchase Method) At Standard Cost Materials Price Variance Materials Accts Pay SP x AQ purchased U F AP x AQ purchased Debit—Unfavorable Credit—Favorable © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 35
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Use of Materials Materials Quantity Variance Materials WIP
Standard Cost Materials Quantity Variance WIP Materials SP x SQ allowed SP x AQ used U F Debit—Unfavorable Credit—Favorable © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 36
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Record Labor LEV LRV U F U F Wages Pay WIP SP x SQ allowed AP x AQ
At Standard Cost LRV LEV U F U F WIP Wages Pay SP x SQ allowed AP x AQ Debit—Unfavorable Credit—Favorable © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 37
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Apply Overhead WIP VOH FOH SP x SQ Allowed SP x SQ Allowed SP x SQ
© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 38
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Enter a debit or credit to bring balance to zero
Year-End Treatment for VOH VOH Efficiency Variance VOH Spending Variance VOH Actual Applied Enter a debit or credit to bring balance to zero Debit—Unfavorable Credit—Favorable © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 39
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Enter a debit or credit to bring balance to zero
Year-End Treatment for FOH FOH Spending Variance Volume Variance FOH Actual Applied Enter a debit or credit to bring balance to zero Debit—Unfavorable Credit—Favorable © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 40
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Year-End Treatment of Variances
Immaterial—Adjust Cost of Goods Sold Material—Prorate variances to: Material Price Variances Raw Materials WIP Finished Goods Cost of Goods Sold All other variances WIP Finished Goods Cost of Goods Sold © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part.
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Conversion Costs Combine direct labor and manufacturing overhead
Variances Spending variance for overhead Efficiency variances for machinery and production costs Volume variances for production © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part.
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Material Price, Mix, and Yield Variances
AM x AQ x AP SM x AQ x SP SM x SQ x SP AM x AQ x SP Material Price Variance Material Mix Variance Material Yield Variance What should have been used for level of output? AM—Actual Mix SM—Standard Mix © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 43
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Labor Rate, Mix, and Yield Variances
AM x AH x AR SM x SH x SR AM x AH x SR SM x AH x SR Labor Rate Variance Labor Mix Variance Labor Yield Variance What should have been used for level of output? M—Mix H—Hours R—Rate © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part. 44
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Questions Why are standard cost systems used?
How are standards set for material, labor, and overhead? How is variance analysis used for control and performance evaluation? © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part.
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Potential Ethical Issues
Setting high standards to create favorable variances Ignoring effects of one production area on another Setting overhead rates too low based on high production levels to distort inventory cost and operating income Producing inventory only to create a favorable volume variance Not updating standards so that favorable variances are created Using low quality materials or labor to create favorable variances and low quality products © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly accessible website, in whole or in part.
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