Recall that the fixed manufacturing overhead costs (such as the large amount of rent paid at the start of every month) must be assigned to the aprons produced. In other words, each apron must absorb a small portion of the fixed manufacturing overhead costs. At DenimWorks, the fixed manufacturing overhead is assigned to the good output by multiplying the standard rate by the standard hours of direct labor in each apron. Hopefully, by the end of the year there will be enough good aprons produced to absorb all of the fixed manufacturing overhead costs. A simple way to assign or allocate the fixed costs is to base it on things such as direct labor hours, machine hours, or pounds of direct material. Accountants realize that this is simplistic; they know that overhead costs are caused by many different factors.
- If the standards set do not meet any of these requirements, these standards cannot help the management of the business meet the objectives of standard costing.
- (d) Type of Standard – It is also necessary to determine the type of standard to be used, whether current, basic or normal standard.
- Any decision taken or estimates made without inflation would not be correct.
- These standards reflect the management’s anticipation of what actual costs will be for the current period.
Objectives of Standard Costing:
Calculating standard costs involves a standard costing meticulous process that integrates various data points to establish a reliable cost framework. This process begins with gathering historical data, which serves as a foundation for setting realistic cost expectations. Historical data provides insights into past performance, helping businesses identify trends and patterns that can inform future cost projections.
Process of Standard Costing
The examples of such industries are chemical industries, distilleries, paper-making and metal processing etc. Cost consciousness – Since standard costing system lays down targets before executives and workmen, it infuses cost consciousness among all. Industries where standardised and uniform work of repetitive nature is done are suitable for introduction of standard costing.
- One of the main financial statements (along with the statement of comprehensive income, balance sheet, statement of cash flows, and statement of stockholders’ equity).
- Volume of production – Fixed overhead standards will vary when volume of production varies, estimate a volume of production that can be achieved.
- (e) Estimating materials prices where seasonal price variations or bulk purchase discounts may be significant.
- Using a standard costing system may have its own advantages and disadvantages.
- If the $2,000 balance is a credit balance, the variance is favorable.
- Thus, it indicates places where remedial action is necessary and how far improvement is possible in the long run.
Direct Labor: Standard Cost, Rate Variance, Efficiency Variance
- The first factor to consider is when setting standards within a standard costing system, the standards should be specific, measurable, achievable, relevant and time-based.
- (7) To provide a formal basis for asserting operational efficiency of the concern.
- Furthermore, classifying costs can also help the management recognize high cost areas and reduce the costs within those areas.
- Since basic standards do not represent what should be attained in the present period, current standards should also be prepared if basic standards are used.
- (6) Review of Cost Accounting System – Standard costing is a projection of the existing system of cost accounting.
This allows managers to analyze variances, i.e. the Retail Accounting differences between predetermined costs and actual costs, and decide on further actions. Instead of recording costs at the actual amounts, they are recorded using standard costs initially. Then later in the process, they are adjusted to match the actual amounts. The line managers who have to work with and accept the standards must be involved in establishing them.
There are strong behavioural and motivational factors involved in this process. The line managers must be involved in the critical part of standard setting. The standard costing system should give due importance to interdependence between different responsibility centres rather than traditional variance analysis. All a company needs to do to calculate its inventory value is to multiply the amount of actual inventory by the standard cost of each item. Once standards are fixed development of cost, most of the clerical work is reduced. Thus it payroll is an economical method of costing and brings efficiency in production.
