COMILLA UNIVERSITY

Department of Management Studies

Course Title: Cost and Management Accounting
Course Code: MGT-423

Term paper on

Prepared For:

Md. Anamul Haque

Lecturer
Department of Management Studies
Comilla University

th
Submission Date: 6 September, 2021

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 Submitted By

Group Name: The Challengers

Group Number: 06

Group members:
Students ID Name Remarks
11705008 Mohammed Jashim Uddin
11705010 Md. Tasnim Hossain Arnob
11705016 Mahbub Alam
11705020 Tanjim Parvej Nishad
11705023 Abdur Rahman (Group Leader)
11705044 Mst. Aklima Akter

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 Table of Content

Serial No. Topics Page no.

Letter of Transmittal
Acknowledgement
Executive Summery

Learning objectives 7

1 Definition of Standard 7
2 Setting the stages of standard cost 8
3 Standard Cost Variance Analysis 8

4 Standard cost and variance 11

5 Using standard cost variable manufacturing 12

overhead variance

6 An important subtlety in the materials variance 14

7 Review Problem : Standard Costs 16

8 Conclusion 18

9 References 18

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 Letter of Transmittal

Date: 6th September, 2021

Md. Anamul Haque
Lecturer,
Department Of Management Studies,
Comilla University.
Subject: Prayer for accepting the termpaper.
Dear Sir,
With the due respect it is our pleasure to present the term paper on “Standard Costs and
Variances” on the performance of our country. While preparing the report we have tried our
level best to focus closely on the topic and try to collect most complete and updated information
available. We believe that it will provide a clear idea about the importance of Cost and
Management Accounting. To prepare this term paper, we have given best effort to accumulate
needed information. We will be available to answer any question for clarification. Thank you for
your sincere support.

Sincerely yours,
On behalf of the group-06
Abdur Rahman
ID# 11705023

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 Acknowledgement

It is our concession to thank Md. Anamul Haque, Lecturer, Department of Management

Studies, Comilla University for rendering us his expertise knowledge and giving the opportunity
of practical experiences through this Term paper.
Practical Knowledge is fundamental for the application of theoretical intelligence. Being this in
mind the course teacher assigned to prepare this Term paper to the students of the course “Cost
and Management Accounting”. We cordially thanks to our honorable course teacher to provide
us the opportunity to apply class room learning practice. This Term paper bridges the gap
between them.
We also convey our deep gratitude to those people who have helped us to collect this information
and supported us.

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 Executive Summery

Standard costing is the part of cost accounting that deals with the manufacturing costs like the
manufacturing overhead, direct material, and direct labor. It is the method of assigning the
expected cost to the materials rather than valuing the material at the original cost. Therefore,
standard cost is the standardization of cost; the inventories and the cost of goods sold reflect the
standard cost and not the actual cost. But, the manufacturers still have to pay the actual cost. The
difference between the standard cost and actual cost is called variances. Cost variance analysis
and standard costs are an important management tool. They help the management in recognizing
the difference between the planned or expected cost and the actual manufacturing cost. If the
standard cost of the manufacturing is less than the actual cost than it is called unfavorable
variance. In such a situation the management analysis that if all things remain unchanged and
constant the profit of the business is going to reduce then the planned profit. If the actual cost is
less than the standard cost; then it is a favorable variance and the profit of the business is going
to exceed the estimated profit.

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 CHAPTER 10
STANDARD COSTS AND VARIANCES

 Learning Objective of this chapter:-

1. Compute the direct materials price and quantity variances and explain their significance.
2. Compute the direct labor rate and efficiency variances and explain their significance.
3. Compute the Variable manufacturing overhead rate and efficiency variances and explain
their significance.
4. Compute and interpret the fixed overhead budget and volume variances.
5. Prepare an income statement using a standard cost system.

1.0 Definition of Standard

Standards are benchmarks or norms for measuring performance. Standards are found
everywhere.
Examples: - A service center often sets specific labor time standards for the completion of
certain tasks. The buildings we live in conform to standards set in building codes.

In managerial accounting, two types of standards are commonly used:

 Price standard: - It specifies how much should be paid for each unit of the input.
 Quantity Standard: - It specifies how much of an input should be used to make a
product or provide a service.

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2.0 Setting the stages of standard cost
1. Setting Direct Materials Standards: - To set direct material standard we have consider two
terms one is standard quantity per unit (defines the amount of direct materials that should be used
for each unit of finished product) another is standard price per unit (defines the price that should
be paid for each unit of direct materials.
Example: - ABC Company set the quantity standard for pewter at 2.00 kgs per statue and the
standard price of pewter at 150.00 tk per kg. The standard direct materials cost per statue will
be:-
2.00 kgs per statue × 150.00 tk per kg= 300 tk per statue.

2. Setting Direct Labor Standards:-To set direct labor Standards we consider two things one is
Standard hour per unit (defines the amount of direct labor hours that should be used to produce
one unit of finished goods) and another is Standard rate per hour (defines the company's
expected direct labor wage rate per hour, including employment taxes and fringe benefits)
Direct labor quantity and price standards are usually expressed in terms of labor-hour or a labor
rate.
Example: - ABC Company set the standard hour per unit at 1.50 direct labor hours per statue and
established a standard rate per hour of 200.00 to. The company computed the standard labor
cost per statue:-
1.50 direct labor-hours per statue × 200.00 tk per direct labor hour = 300 tk per statue.

3. Setting Variable Manufacturing Overhead Standards:- As with direct labor, the quantity
and price standards for variable manufacturing overhead are usually expressed in terms of hours
and a rate. The standard hours per unit for variable overhead measures the amount of the
allocation base from a company's predetermined overhead rate that is required to produce one
unit of finished goods. The standard rate per unit that a company expects to pay for variable
overhead equals the variable portion of the predetermined overhead rate.
Example: - the standard hours per unit for direct labor---1.5 direct labor hours per statue and the
predetermined overhead rate is 300 tk per direct-labor hour. The standard variable
manufacturing overhead cost per statue:-
1.5 direct labor-hours per statue × 300 tk per direct labor hour = 450 per statue

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3.0 Standard Cost Variance Analysis:
 Actual price: Is the amount actually paid for the input used.
 Standard price: Is the amount that should have been paid for the input used.
 Actual quantity: Is the amount of direct materials, direct labor, and variable manufacturing
overhead actually used.
 Standard quantity: Is the standard quantity allowed for the actual output of the period.
 Price variance: Price variance is the difference between actual price and standard price.
A variance is computed by taking the difference between the actual price and the standard
price and multiplying the result by the actual quantity of the input.

Price Analysis
 Materials price variance
 Labor rate variance
 VOH rate variance

 Quantity variance: Quantity variance is the difference between actual quantity and
standard quantity a variance that is computed by taking the difference between the actual
quantity of the input used and the amount of the input that should have been used for the
actual level of output and multiplying the result by the standard price of the input.

Quantity Variance
 Materials quantity variance
 Labor efficiency variance
 VOH efficiency variance

A General Model for Standard Cost Variance Analysis

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Exercise

Question:

Glacier Peak Outfitters has the following direct materials standard for the fiberfill in its mountain
parka.0.1 kg. of fiberfill per parka at $5.00 per kg. Last month 210 kgs of fiberfill were
purchased and used to make 2,000 parkas. The materials cost a total of $1,029.

Solution:

Standard quantity allowed (SQ): The amount of direct materials that should have been used to
complete the period’s actual output. It is computed by multiplying the actual number of units
produced by the standard quantity per unit.
Formula,
 Standard quantity allowed = Actual output × Standard quantity per unit

Standard hours allowed (SH): The time that should have been taken to complete the period’s
output. It is computed by multiplying the actual number of units produced by the standard hours
per unit.

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4.0 Standard cost and variance

 The materials Price Variance: A material price variance measures the difference between
a direct material’s actual price per unit and its standard price per unit, multiplied by the
actual quantity purchased.
To understand the price variance, we have to compare the actual price with the standard
price. If the actual purchase price is less than the standard purchase, the variance is
labeled favorable (F). Conversely, the materials price variance would have been labeled
unfavorable (U) if the actual purchase price had exceeded the standard purchase price.
The actual price of $3.80 per pound of Pewter is $0.20 less than the standard price of
$4.00 per pounds were purchased, the total amount of the variance is $1,300 (=$0.20 per
pound × 6,500 pounds). This variance is favorable (F) because the actual purchase price
per pound is less than the standard purchase price per pound.
Generally speaking, the purchasing manager has control over the price paid for materials
and is therefore responsible for the materials price variance. Many factors influence
materials purchase prices including the quantity and quality of materials are delivered,
and whether the materials and purchased in a rush order. If any of these factor deviates
from what was assumed when the standards were set, a materials price variance can
result.

 The materials Quantity Variance: The materials quantity variance measures the difference
between the actual quantity of materials used in production and the standard price per
unit of materials allowed for the actual output, multiplied by the standard price per unit of
materials. It is labeled as unfavorable (favorable) when the actual quantity of material
used in production is greater than (less than) the quantity of material that should have
been used according to the standard.
To understand the materials quantity variance, the actual amount of pewter used in
production was 6,500 pounds. However, the standard amount of Pewter allowed for the
2,000 statues that were actually produces is only 6,000 pounds. Therefore, too much
pewter was used to produce the actual output- by a total of 500 pounds.
Excessive materials usages can result from many factors, including faulty machines,
inferior materials quality, untrained workers, and poor supervision. Generally speaking, it
is responsibility of the production manager to see that material usage is kept in line with
standard.
The purchasing manager rather than the production manager would be responsible for the
materials quantity variance.

 The labor Rate variance: The labor rate variance measures the difference between the
actual hourly rate and the standard hourly rate, multiplied by the actual number of hours
worked during the period.

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 To understand the labor rate variance, note that the actual hourly rate of $21.60 is $0.40
less than the standard rate of $22.00 per hour. Because 1,050 hours were actually worked,
the total amount of the variance is $420 (=$0.40 per hour × 1,050 hours). The variance is
labeled favorable (F) because the actual hourly rate is less than the standard hourly rate.
If the actual hourly rate had been greater than the standard hourly rate, the variance
would have been labeled unfavorable (U).

 The labor efficiency Variance: The labor efficiency variance measures the difference
between the actual labor-hours used and the standard hours allowed for the actual output,
multiplied by the standard hourly rate.
To understand Colonial Pewter’s labor efficiency variance, note that the actual labor-
hours used in production was 1,050 hours. However, the standard number of hours
allowed for the 2,000 statues actually produced is 1,000 hours. Therefore, the company
used 50 more hours for the actual output than the standards allow. To express this is in
dollar terms, the 50 hours are multiplied by the standard rate of $22.00 per labor-hour to
yield the efficiency variance of $1,100 U.
Possible cause of an unfavorable labor efficiency variance includes poorly trained or
motivated worker; poor quality materials, requiring more labor time; faulty equipment,
causing breakdowns and work interruptions; and poor supervision of work interruptions;
and poor supervision of workers. The managers in charges of production would usually
be responsible for control of the labor efficiency variance. However, the purchasing
manager could be held responsible if the purchase of poor-quality materials resulted in
excessive labor processing time.

5.0 Using standard cost variable manufacturing overhead variance

As a manager in the accounting department, you have been tasked with determining the overhead
rate for your manufacturing department. This information is important, as when you price your
product or bid jobs, if you don’t include the cost of things like electricity and rent and
depreciation on your equipment, you will be underpricing your stuff! Let’s take a look at an
explanation of the why and how to calculate the variable manufacturing rate and understand why
it is so important! Then we will talk about when this number varies from what we had originally
calculated.

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The variable manufacturing overhead rate and efficiency variance
Variable overhead efficiency variance is essentially an accounting measure that is calculated by
multiplying the difference between the actual and budgeted hours worked with the standard
variable overhead rate per hour. The formula for calculating the variable overhead efficiency
variance is:

When a favorable variance is achieved, it implies that the actual hours worked during the given
period were less than the budgeted hours. It results in applying the standard overhead rate across
fewer hours, which means that the total expenses being incurred are reduced by a factor of the
decrease in hours worked. It does not necessarily mean that, in actual terms, the company
incurred a lower overhead simply implies that an improvement was seen in the total allocation
base used to apply overhead.

Example
Assume that the cost accounting staff of Company X has calculated that the company’s
production staff works 10,000 hours per month. The company also incurs a cost of $100,000 per
month as its variable overhead costs. The information given is largely based on historical and
projected labor patterns.
A few months later, Company X decided to install a new materials handling system. It is
supposed to have a significant impact on production efficiency. The overall efficiency improves,
and the total hours worked during the month drops to 9,000 from the previous 10,000. In this
case, the variable overhead efficiency variance is as follows:
Given information:
Standard Hours = 10,000
Hours Worked = 9,000

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Solution:
Standard Overhead Rate per Hour = Cost Incurred / Standard Hours
= $100,000 / 10,000
= $10
Therefore, the company established a variable overhead rate of $10 per hour.
$10 Standard Overhead Rate / Hour x (9,000 Hours Worked – 10,000 Standard Hours)
= $10,000 (Variable Overhead Efficiency Variance)

6.0 An important subtlety in the materials variance

Most companies use the quantity of materials purchased to compute the materials price variance
and the quantity of materials used in production to compute the materials quantity variance.
There are two reasons for this practice.
First, delaying the computation of the price variance until the materials are used would result in
less timely variance reports.
Second, computing the price variance when the materials are purchased allows materials to be
carried in the inventory accounts at their standard cost. This greatly simplifies bookkeeping.

Example:
To illustrate, assume that during June Colonial Pewter purchased 7000 pounds of materials at
$3.80 per pound instead of 6500 pounds. Also assume the company continued to use 6500
pounds of materials in production and that the standard price remained at $4.00 per pound.
Solution of this problem:
(a) Materials price variance
Formula;
Materials price variance = (AQ*AP)-(AQ*SP)
= (7000*3.80)-(7000*4)
= 1400 (Favorable)
Where,
AQ= Actual quantity of inputs purchased
AP= Actual price per unit of the input
SP= Standard price per unit of the input

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 (b) Materials Quantity variance
Formula;
Materials quantity variance = (AQ*SP)-(SQ*SP)
= (6500*4)-(6000*4)
= 2000 (unfavorable)
Where,
AQ= Actual quantity of inputs used in production
SP= Standard price per unit of the input
SQ= Standard quantity of inputs allowed for the actual output

Advantages of Standard Costs

• Advantages
– Standard costs are a key element of the management by exception approach.
– Standards can provide benchmarks that promote economy and efficiency.
– Standards can greatly simplify bookkeeping.
– Standards can support responsibility accounting systems.

Potential Problems with Standard Costs

• Potential Problems
– Standard cost variance reports are usually prepared on a monthly basis and may
contain information that is outdated.
– If variances are misused as a club to negatively reinforce employees, morale may
suffer and employees may make dysfunctional decisions.
– Labor variances assume that the production process is labor-paced and that labor
is a variable cost. These assumptions are often invalid
– In today’s automated manufacturing environment where employees are essentially
a fixed cost.
– Just meeting standards may not be sufficient; continuous improvement may be
necessary to survive in a competitive environment.
– In some cases, a “favorable” variance can be as bad as or worse than an
unfavorable variance.
– Excessive emphasis on meeting the standards may overshadow other important
objectives such as maintaining and improving quality, on-time delivery, and
customer satisfaction.

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 7.0 Review Problem : Standard Costs
Xavier Company produces a single product. Variable manufacturing overhead is applied to
products on the basis of direct labor-hours. The standard cost card for one unit of product is as
follows:

Inputs (1) (2) Standard Cost

Standard Standard Price (1*2)
Quality or Hours Or
Rate
Direct materials 6 ounces $0.50 per ounce 3.00
Direct labor 0.6 hours 30.00 per hour 18.00
Variable
manufacturing 0.6 hours 10.00 per hour 6.00
overhead
Total standard cost per unit 27.00

During June, 2,000 units were produced. The costs associated with June’s operations were as
Follows:

Material purchased: 18,000 ounces at $0.60 per ounce……………. $10,800

Material used in production: 14,000 ounces………………………..
Direct labor: 1,100 at $30.50 per hour……………………………... $33,550
Variable manufacturing overhead costs incurred………………….. $12,980

Required:
Compute the direct materials, direct labor, and variable manufacturing overhead variances

Solution to Review Problem

1. Direct Materials Variances

Here,

Actual Quantity (AQ) = 18,000 ounces

Actual Price (AP) = 0.60 per ounce
Standard Price (SP) = 0.50 per ounce
Standard Quantity (SQ) = (2000*6) = 12,000 ounces

 Materials prices variances = (AQ*AP) – (AQ*SP)

= AQ (AP – SP)
= (18,000*0.60) – (18,000*0.50)
= 10,800 – 9,000

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 = 1,800 (Unfavorable)

Here,

Actual Quantity (AQ) = 14,000 ounces

Materials quantity variance = (AQ*SP) – (SQ*SP)

= SP (AQ – SQ)
= 0.50 (14,000 – 12,000)
= 0.50 * 2,000
= 1,000 (Unfavorable)

2. Direct Labor Variances

Here,

Actual Hour (AH) = 1,100 hours

Actual Rate (AR) = 30.50 per hour
Standard Rate (SR) = 30.00 per hour
Standard Hour (SH) = (2000*0.6) = 1200 hours

 Labor rate variance = (AH*AR) – (AH*SR)

= AH (AR – SR)
= 1,100(30.50 – 30)
= 1,100* 0.50
= 550 (Unfavorable)

 Labor Efficiency Variance = (AH*SR) – (SH*SR)

= SR (AH –SH)
= 30(1,100 – 1200)
= 3000(Favorable)

3. Variable manufacturing overhead variances

Here,

Actual Hour (AH) = 1,100 hours

Actual Rate (AR) = (12,980/1,100) = 11.8 per hour
Standard Rate = 10 per hour
Standard Hour (SH) = (2,000 * 0.6) = 1,200 hours

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  Variable overhead rate variances = (AH * AR) – (AH *SR)
= AH (AR – SR)
= 1,100(11.8 – 10)
= 1,980 (Unfavorable)

 Variable overhead efficiency variance = ( AH * SR ) – (SH *SR)

= SR (AH – SH)
= 10(1,100 – 1,200)
= 1000 (Favorable)

8.0 Conclusion
Standard costing and variance analysis are important tools available with the management; they
help the management in making key decisions, they also help to assign responsibility to the
division managers. The investigation of favorable and unfavorable variance can reveal several
crucial aspects of the business. Therefore, it is always a good practice to include variance
analysis as an accounting practice.

9.0 References
1. Managerial Accounting (16th Edition; Garrison, Noreen and Brewer)
2. https://blog.essaycorp.com/cost-accounting-standard/
3. https://www.google.com/search?sxsrf=AOaemvJN-
N86hPe0yZPYmDezaugPsIQL0A%3A1630941607756&lei=pzE2YdPJLdyc4-
EPtoWa4Ao&q=importance%20of%20standard%20costing%20and%20variance%20analysis&v
ed=2ahUKEwiTubf50uryAhVczjgGHbaCBqwQsKwBKAV6BQjXAhAG&biw=1366&bih=657

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