Standard Costing. CA Final Course Paper 5 Advanced Management Accounting Chapter 5 Part 1 Arijit Chakraborty, FCA

Transcription

1 Standard Costing CA Final Course Paper 5 Advanced Management Accounting Chapter 5 Part 1 Arijit Chakraborty, FCA

2 2 Learning Objectives 1. Understand the concept and purpose of Standard Costing & Variance analysis 2. Learn the classification of standard costing techniques

3 3 Sections of our discussion Standard costing & variance Overview, assumptions, objectives Calculation of cost variances material labour, overheads with illustrations Sales variances and profit reconciliation statements under marginal and absorption costing MBE, Responsibility accounting, reasons for variance, interpretation of variances, case study on enterprise performance management using variance

4 Standard Costing OBJECTIVE 1: Define standard costs, explain how standard costs are developed, and compute a standard unit cost.

5 Standard Costing Standard costs: realistic estimates of cost based on analyses of both past and projected operating costs and conditions. The three components of standard costing: Standard costs, which provide a standard, or predetermined, performance level A measure of actual performance A measure of the variance between standard and actual performance

6 Standard Costing How standard costing differs from actual costing and normal costing. Standard costing uses estimated costs exclusively to compute all three elements of product costs: direct materials, direct labor, and overhead. How managers use standard costs for planning and control in the management process: Planning For budget development; product costing, pricing, and distribution Performing For measurement of expenditures and control of costs as they occur

7 Standard Costing How managers use standard costs for planning and control in the management process: (cont.) Evaluating For variance analysis Communicating For variance reports The primary difference between standard costing in a service organization and standard costing in a manufacturing organization is that a service organization has no direct materials costs.

8 Standard Costing In a standard costing system, costs are entered into the Materials, Work in Process, and Finished Goods Inventory accounts and the Cost of Goods Sold account at standard cost; actual costs are recorded separately.

9 Standard Costing The following elements are used in determining a standard cost per unit: Direct materials price standard Direct materials quantity standard Direct labor rate standard Direct labor time standard Standard variable overhead rate Standard fixed overhead rate

10 Standard Costing How standards are developed: The direct materials price standard is based on a careful estimate of all possible price increases, changes in available quantities, and new sources of supply in the next accounting period. The direct materials quantity standard is based on product engineering specifications, the quality of direct materials, the age and productivity of machines, and the quality and experience of the work force. The direct labor rate standard is defined by labor union contracts and company personnel policies.

11 Standard Costing How standards are developed: (cont.) The direct labor time standard is based on current time and motion studies of workers and machines and records of their past performance. The standard variable overhead rate and standard fixed overhead rate are found by dividing total budgeted variable and fixed overhead costs by an appropriate application base.

12 Standard Costing Standard direct materials cost is the product of the direct materials price standard and the direct materials quantity standard. Standard direct labor cost is the product of the direct labor rate standard and the direct labor time standard. Standard overhead cost is the sum of the standard variable overhead rate and standard fixed overhead rate.

13 13 Standard costing system The management evaluates the performance of a company by comparing it with some predetermined measures Therefore, it can be used as a process of measuring and correcting actual performance to ensure that the plans are properly set and implemented

14 14 Procedures of standard costing system Set the predetermined standards for sales margin and production costs Collect the information about the actual performance Compare the actual performance with the standards to arrive at the variance Analyze the variances and ascertaining the causes of variance Take corrective action to avoid adverse variance Adjust the budget in order to make the standards more realistic

15 15 Functions of standard costing system Valuation Assigning the standard cost to the actual output Planning Use the current standards to estimate future sales volume and future costs Controlling Evaluating performance by determining how efficiently the current operations are being carried out Motivation Notify the staff of the management s expectations Setting of selling price

16 16 Variance Analysis, computation and implication

17 17 Variance analysis - overview A variance is the difference between the standards and the actual performance When the actual results are better than the expected results, there will be a favourable variance (F) If the actual results are worse than the expected results, there will be an adverse variance (A) Material cost variance Labour cost variance Variable overheads variance

18 18 Cost variance Cost variance = Price variance + Quantity variance Cost variance is the difference between the standard cost and the Actual cost Price variance = (standard price actual price)*actual quantity A price variance reflects the extent of the profit change resulting from the change in activity level Quantity variance = (standard quantity actual quantity)* standard cost A quantity variance reflects the extent of the profit change resulting from the change in activity level

19 A General Approach to Variance Analysis An analysis of the difference between a standard cost and actual cost is called variance analysis. The process decomposes the difference in two components. For direct material: materials price and materials quantity variance. For direct labor: labor rate (price) and labor efficiency (quantity) variance. For overhead: overhead volume variance and controllable overhead variance. Related Learning Objectives: 1. Explain how standard costs are developed. 2. Calculate and interpret variances for direct material. 3. Calculate and interpret variances for direct labour. 4. Calculate and interpret variances for manufacturing overhead. 5. Discuss how the management by exception approach is applied to investigation of standard cost variances.

20 Material Price Variance The material price variance is expressed as (AP SP)AQ p where: (AP) = actual price per unit of material. (SP) = standard price per unit of direct material. (AQ p ) = actual quantity of material purchased. If actual price > standard price, then the variance is unfavorable. If actual price < standard price, then the variance is favorable. Related Learning Objectives: 1. Explain how standard costs are developed. 2. Calculate and interpret variances for direct material. 3. Calculate and interpret variances for direct labor. 4. Calculate and interpret variances for manufacturing overhead. 5. Discuss how the management by exception approach is applied to investigation of standard cost variances.

21 Material Quantity Variance The material quantity variance is expressed as (AQ u SQ)SP where: (AQ u ) = actual quantity of material used. (SQ) = standard quantity of material allowed. (SP) = standard price of material. If actual quantity > standard quantity, then the variance is unfavorable. If actual quantity < standard quantity, then the variance is favorable. Related Learning Objectives: 1. Explain how standard costs are developed. 2. Calculate and interpret variances for direct material. 3. Calculate and interpret variances for direct labor. 4. Calculate and interpret variances for manufacturing overhead. 5. Discuss how the management by exception approach is applied to investigation of standard cost variances.

22 Labor Rate Variance The labor rate (price) variance is expressed as (AR SR)AH where: (AR) = actual wage rate (price). (SR) = standard wage rate (price). (AH) = actual number(quantity) of labor hours. If actual rate > standard rate, then the variance is unfavorable. If actual rate < standard rate, then the variance is favorable. Related Learning Objectives: 1. Explain how standard costs are developed. 2. Calculate and interpret variances for direct material. 3. Calculate and interpret variances for direct labor. 4. Calculate and interpret variances for manufacturing overhead. 5. Discuss how the management by exception approach is applied to investigation of standard cost variances.

23 Labor Efficiency Variance The labor efficiency (quantity) variance is expressed as (AH SH)SR where: (AH) = actual number of hours worked. (SH) = standard number of hours worked. (SR) = standard labor wage rate. If actual hours > standard hours, then the variance is unfavorable. If actual hours < standard hours, then the variance is favorable. Related Learning Objectives: 1. Explain how standard costs are developed. 2. Calculate and interpret variances for direct material. 3. Calculate and interpret variances for direct labor. 4. Calculate and interpret variances for manufacturing overhead. 5. Discuss how the management by exception approach is applied to investigation of standard cost variances.

24 Controllable Overhead Variance The controllable overhead variance is expressed as (actual overhead - flexible budget level of overhead) for actual level of production. It is referred to as controllable because managers are expected to control costs so they are not substantially different from budget. If actual > budget, then the variance is unfavorable. If actual < budget, then the variance is favorable. Related Learning Objectives: 1. Explain how standard costs are developed. 2. Calculate and interpret variances for direct material. 3. Calculate and interpret variances for direct labor. 4. Calculate and interpret variances for manufacturing overhead. 5. Discuss how the management by exception approach is applied to investigation of standard cost variances.

25 Overhead Volume Variance The overhead volume variance is expressed as (flexible budget level of overhead for actual level of production - overhead applied to production using standard overhead rate). This variance is solely the product of more or less units being produced than planned in the static budget. Its usefulness is limited. Related Learning Objectives: 1. Explain how standard costs are developed. 2. Calculate and interpret variances for direct material. 3. Calculate and interpret variances for direct labor. 4. Calculate and interpret variances for manufacturing overhead. 5. Discuss how the management by exception approach is applied to investigation of standard cost variances.

26 26 Profit variance Selling and administrative Cost variance Total production Cost variance Total sales margin variance Sales margin Price variance Sales margin volume variance Materials cost variance Labour Cost variance Variable Overhead variance Fixed Overhead variance

27 27 Materials cost variance Material Price variance Material Usage variance Labour cost variance Labour rate variance Labour Efficiency variance

28 28 Variable Overhead variance VO Expenditure variance VO Efficiency variance Fixed Overhead variance Fixed Expenditure variance Fixed Volume variance

29 29 Material and labour variance Recap of key formulae for variance computation

30 30 Material cost variance Material price variance = (standard price actual price)*actual quantity Material usage variance = (Standard quantity actual quantity)* standard price = (Standard quantity for actual production actual quantity production) * standard price

31 31 Labour cost variance Labour rate variance = (standard price actual price)*actual quantity Labour efficiency variance = (standard quantity actual quantity)*standard price = Standard quantity for actual production actual quantity used) * standard price

32 32 Example Numerical illustration of variance calculation

33 33 Example ABC Ltd. makes and sells a single product. The company uses a Standard marginal costing system. It plans to produce and sell 1000 units in May A budget statement is produced as follow: Budgeted income statement for the month ended 31 May 2013 $ $ Sales ($50*1000) Less: Variable cost of goods sold Direct materials ($3*4000) Direct labour ($5*3000) Variable overheads ($2*3000) Budget contribution Fixed overhead 3000 Budget profit 14000

34 34 Example Cont The actual sales and production is 800 units. The actual income statement is shown as follows: Income statement for the month ended 31 May 2013 $ $ Sales ($60*800) Less: Variable cost of goods sold Direct materials ($3.2*2400) 7680 Direct labour ($6*3200) Actual Variable overheads Contribution Fixed overhead 2600 Net profit 13020

35 35 Material cost variance 4000 units 1000 units Material price variance = (standard price actual price)*actual quantity = ($3 - $3.2)*2400 = $480 (A) Material usage variance = (Standard quantity actual quantity)* standard price = (Standard quantity for actual production actual quantity production) * standard price = (4* )*$3 = $2400 (F)

36 36 Material cost variance Material price variance Material usage variance Total Material cost variance $480 (A) $2400 (F) $1920 (F)

37 37 Labour cost variance Labour rate variance = (standard price actual price)*actual quantity 3000 units 1000 units = ($5 - $6)*3200 = $3200 (A) Labour efficiency variance = (standard quantity actual quantity)*standard price = Standard quantity for actual production actual quantity used) * standard price = (3* )*$5 = $4000 (A)

38 38 Labour cost variance Labour rate variance Labour efficiency variance Total labour cost variance $3200 (A) $4000 (A) $7200 (A)

39 39 Overheads variance Concepts, computation and illustration

40 40 Overheads variance Variable overheads variance Fixed overheads variance

41 41 Variable overheads variance Variable overheads variance is the difference between the standard variable overheads absorbed into the actual output and the actual overheads incurred

42 42 Actual VO Budgeted VO (SP * Actual hours worked) Absorbed VO (SP* standard hours for actual Output) VO expenditure variance/ VO spending variance VO efficiency variance Total VO variance (under-/over- absorbed)

43 43 Variable overheads variance Variable overheads variance = variable overheads absorbed actual variable overheads incurred Variable overheads expenditure variance = standard variable overheads for actual hours worked Actual variable overheads incurred Variable overheads efficiency variance = Standard variable overheads for standard hours of output Actual variable overhead absorbed = (standard hours for actual output Actual hours worked)* standard price

44 44 Example OH Variance calculation

47 47 POAR = Budgeted overheads Budgeted activity level in standard hours = $6000 / 3000 = $2 Overhead absorbed = POAR * Standard hours for actual number of units produced = $2 *3 hr per unit * 800 units Standard hr per unit = 3000 hr /1000 units

48 48 Variable overheads variance Variable overheads variance = variable overheads absorbed actual variable overheads incurred = $ $5500 = $700 (A) Variable overheads expenditure variance = standard variable overheads for actual hours worked Actual variable overheads incurred = ($2* 3200 hr) - $5500 = $900 (F)

49 49 Variable overheads variance Cont Variable overheads efficiency variance = Standard variable overheads for standard hours of output Actual variable overhead absorbed = (standard hours for actual output Actual hours worked)* standard price = (3 hr *800 units 4 hr *800 units)*$2 = $1600 (A) Actual hour per unit = 3200 hr/800 units

50 50 Variable overheads variance Variable overheads expenditure variance $900 F Variable overheads efficiency variance $1600 A Total Variable overhead variance $700 A

51 51 Recap of key points covered so far Fixed overhead variance Concepts, computation and illustration

52 52 Actual FO Budgeted FO Absorbed FO (SP* standard hours for actual output FO expenditure variance/ FO spending variance FO volume variance Total FO variance (under-/over- absorbed)

53 53 Fixed overhead variance Fixed overheads variance = Fixed overheads absorbed Actual fixed overheads incurred Fixed overheads expenditure variance Budgeted fixed overheads Budgeted overheads absorbed Fixed overheads volume variance = Absorbed fixed overheads Budgeted overheads absorbed

54 54 Example Variance calculation

57 57 Fixed overhead variance Fixed overheads variance = Fixed overheads absorbed Actual fixed overheads incurred = ($1*3*800) - $2600 = $200 A Fixed overheads expenditure variance = Budgeted fixed overheads Budgeted overheads absorbed = $ $2600 = $400 F Fixed overheads volume variance = Absorbed fixed overheads Budgeted overheads absorbed = ($1*3*800) - $3000 = $600 A

58 58 FO Variance in marginal and absorption costing In marginal costing: Fixed overheads are charged as period costs instead of charging to product in marginal costing. It is assumed that the fixed overheads remain unchanged with the change in the level of activity. Single fixed overhead expenditure variance will be used In absorption costing Fixed overheads are charged to the products and included in the valuation of closing stock. Total fixed overheads variance is divided into fixed overheads price variance and fixed overheads volume variance

59 59 Sales variance Concepts, computation and illustration

60 60 Actual contribution Budgeted contribution (Standard margin * Actual Volume) Budgeted contribution (Standard margin* Standard volume) Sales margin price variance Sales margin volume variance Total sales margin variance

61 61 Sales variance (Marginal costing) Total sales margin variance = actual contribution budgeted contribution = [(Actual selling price Standard cost of sales )*Actual sales volume] Budgeted contribution Sales margin price variance = (Actual contribution per unit Standard contribution per unit) * Actual sales volume Sales margin volume variance = (Actual volume Budget volume)* Standard contribution per unit

62 62 Sales variance (Absorption costing) Sales margin price variance = (Actual profit margin per unit Standard profit margin per unit) * Actual sales volume Sales margin volume variance = (Actual volume Budget volume)* Standard profit margin per unit

63 63 Example Sales variance calculation

66 66 Sales variance (Marginal costing) Total sales margin variance = actual contribution budgeted contribution = [(Actual selling price Standard cost of sales )*Actual sales volume] Budgeted contribution = [($60 - $33)*800] - $17000 = $ $17000 = $4600 (F) $33000/1000 units

67 67 Sales variance Sales margin price variance = (Actual contribution per unit Standard contribution per unit) * Actual sales volume = [($60 - $33) ($50 - $33)]*800 = $8000 F $33000/1000 units Sales margin volume variance = (Actual volume Budget volume)* Standard contribution per unit = ( )*$17 = $2800 (A) $17000/1000 units

68 68 Sales variance (Marginal costing) Sales margin price variance Sales margin volume variance Total sales variance $8000 F $3400 A $4600 F

69 69 Sales variance (Absorption costing) Sales margin price variance = (Actual profit margin per unit Standard profit margin per unit) * Actual sales volume = [($60-$36) ($50-$36)]*800 = $8000 F Sales margin volume variance ( )/1000 units = (Actual volume Budget volume)* Standard profit margin per unit = ( )*$14 $14000/1000 units = $2800 A

70 70 Sales variance (Absorption costing) Sales margin price variance Sales margin volume variance Total sales variance $8000 F $2800 A $5200 F

71 Thank You 71