Standard Costs and the Balanced Scorecard

1. Chapter 10 Standard Costs and the Balanced Scorecard

2. Predetermined. Used for planning labor, materialand overhead requirements. Benchmarks formeasuring performance. Used to simplify the accounting system. Standard Costs Standard Costs are

3. Managers focus on quantities and coststhat exceed standards, a practice known asmanagement by exception. Standard Costs Standard Amount DirectMaterial DirectLabor ManufacturingOverhead Type of Product Cost

4. Setting Standard Costs Accountants, engineers, personnel administrators, and production managers combine efforts to set standards based on experience and expectations.

5. Should we usepractical standardsor ideal standards? Setting Standard Costs Engineer ManagerialAccountant

6. Practical standards should be set at levels that are currently attainable with reasonable and efficient effort. Setting Standard Costs Productionmanager

7. Setting Standard Costs I agree.Ideal standards,based on perfection,are unattainable anddiscourage mostemployees. Human ResourcesManager

8. Note • The argument that ideal standards are discouraging has been persuasive for many years. So “normal” defects and waste were built into the standards. • In recent years, TQM and other initiatives have sought to eliminate all defects and waste. • Ideal standards, that allow for no waste, have become more popular. • The emphasis is on improvement over time, not attaining the ideal standards right now.

9. PriceStandards QuantityStandards Final, deliveredcost of materials,net of discounts. Use product design specifications. Setting Direct Material Standards

10. RateStandards TimeStandards Use wage surveys andlabor contracts. Use time and motion studies foreach labor operation. Setting Direct Labor Standards

11. RateStandards ActivityStandards The rate is the variable portion of the predetermined overhead rate. The activity is the base used to calculate the predetermined overhead. Setting Variable Overhead Standards

12. Standard Cost Card – Variable Production Cost A standard cost card for one unit of product might look like this:

13. Astandardis a per unit cost. • Standards are often used when preparing budgets. Standards vs. Budgets Are standards the same as budgets? A budget is set for total costs.

14. A standard cost variance is the amount by whichan actual cost differs from the standard cost. This variance isunfavorablebecause the actual costexceeds the standard cost. Standard Cost Variances Standard Cost

15. First, they point to causes ofproblems and directionsfor improvement. Second, they trigger investigations in departments having responsibility for incurring the costs. I see that thereis an unfavorable variance. But why arevariances important to me? Standard Cost Variances

16. Takecorrective actions Identifyquestions Receive explanations Conduct next period’s operations Analyze variances Variance Analysis Cycle Prepare standard cost performance report Begin

17. Price Variance Quantity Variance The difference betweenthe actual price and thestandard price The difference betweenthe actual quantity andthe standard quantity Standard Cost Variances Standard Cost Variances

18. Price Variance Quantity Variance Standard price is the amount that should have been paid for the resources acquired. A General Model for Variance Analysis Actual Quantity Actual Quantity Standard Quantity × × × Actual Price Standard Price Standard Price

19. Standard quantity is the quantity allowed for the actual good output. Standard input per unit of outputtimes amount of good output. A General Model for Variance Analysis Actual Quantity Actual Quantity Standard Quantity × × × Actual Price Standard Price Standard Price Price Variance Quantity Variance

20. A General Model for Variance Analysis Actual Quantity Actual Quantity Standard Quantity × × × Actual Price Standard Price Standard Price Price Variance Quantity Variance AQ(AP - SP) SP(AQ - SQ) AQ = Actual QuantitySP= Standard PriceAP= Actual PriceSQ = Standard Quantity

21. Standard Costs Let’s use the general model to calculate standard cost variances for direct material.

22. Material VariancesExample Glacier Peak Outfitters has the following direct material 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 material cost a total of $1,029.

23. Price variance$21 favorable Quantity variance$50 unfavorable Material VariancesSummary Actual Quantity Actual Quantity Standard Quantity × × × Actual Price Standard Price Standard Price 210 kgs. 210 kgs. 200 kgs. × × × $4.90 per kg. $5.00 per kg. $5.00 per kg. =$1,029 = $1,050 = $1,000

24. $1,029  210 kgs = $4.90 per kg Material VariancesSummary Actual Quantity Actual Quantity Standard Quantity × × × Actual Price Standard Price Standard Price 210 kgs. 210 kgs. 200 kgs. × × × $4.90 per kg. $5.00 per kg. $5.00 per kg. =$1,029 = $1,050 = $1,000 Price variance$21 favorable Quantity variance$50 unfavorable

25. 0.1 kg per parka  2,000 parkas = 200 kgs Material VariancesSummary Actual Quantity Actual Quantity Standard Quantity × × × Actual Price Standard Price Standard Price 210 kgs. 210 kgs. 200 kgs. × × × $4.90 per kg. $5.00 per kg. $5.00 per kg. =$1,029 = $1,050 = $1,000 Price variance$21 favorable Quantity variance$50 unfavorable

26. Note: Using the formulas • Materials price variance MPV = AQ (AP - SP) = 210 kgs ($4.90/kg - $5.00/kg) = 210 kgs (-$0.10/kg) = $21 F • Materials quantity variance MQV = SP (AQ - SQ) = $5.00/kg (210 kgs-(0.1 kg/parka 2,000 parkas)) = $5.00/kg (210 kgs - 200 kgs) = $5.00/kg (10 kgs) = $50 U

27. Quick Check  Suppose only 190 kgs of fiberfill were used to make 2,000 parkas. What is the materials quantity variance? Remember that the standards call for 0.1 kg of fiberfill per parka at a cost of $5 per kg of fiberfill. a. $50 F b. $50 U c. $100 F d. $100 U

28. Quick Check  Suppose only 190 kgs of fiberfill were used to make 2,000 parkas. What is the materials quantity variance? Remember that the standards call for 0.1 kg of fiberfill per parka at a cost of $5 per kg of fiberfill. a. $50 F b. $50 U c. $100 F d. $100 U • MQV = SP (AQ - SQ) • = $5.00/kg (190 kgs-(0.1 kg/parka 2,000 parkas)) • = $5.00/kg (190 kgs - 200 kgs) • = $5.00/kg (-10 kgs) • = $50 F

29. Quick Check  If the material quantity standard specifies exactly how much material should be in the final product without any wastage, is a favorable (F) materials quantity variance a good thing? a. Yes b. No

30. Quick Check  If the material quantity standard specifies exactly how much material should be in the final product without any wastage, is a favorable (F) materials quantity variance a good thing? a. Yes b. No

31. Standard Costs Let’s use the general model to calculate all standard cost variances, starting withdirect material.

32. Zippy Material VariancesExample Hanson Inc. has the following direct material standard to manufacture one Zippy: 1.5 pounds per Zippy at $4.00 per pound Last week 1,700 pounds of material were purchased and used to make 1,000 Zippies. The material cost a total of $6,630.

33. Zippy Quick Check  What is the actual price per poundpaid for the material? a. $4.00 per pound. b. $4.10 per pound. c. $3.90 per pound. d. $6.63 per pound.

34. Zippy AP = $6,630 ÷ 1,700 lbs.AP = $3.90 per lb. Quick Check  What is the actual price per poundpaid for the material? a. $4.00 per pound. b. $4.10 per pound. c. $3.90 per pound. d. $6.63 per pound.

35. Zippy Quick Check  Hanson’s material price variance (MPV)for the week was: a. $170 unfavorable. b. $170 favorable. c. $800 unfavorable. d. $800 favorable.

36. Zippy MPV = AQ(AP - SP) MPV = 1,700 lbs. × ($3.90 - 4.00) MPV = $170 Favorable Quick Check  Hanson’s material price variance (MPV)for the week was: a. $170 unfavorable. b. $170 favorable. c. $800 unfavorable. d. $800 favorable.

37. Zippy Quick Check  The standard quantity of material thatshould have been used to produce1,000 Zippies is: a. 1,700 pounds. b. 1,500 pounds. c. 2,550 pounds. d. 2,000 pounds.

38. Zippy SQ = 1,000 units × 1.5 lbs per unit SQ = 1,500 lbs Quick Check  The standard quantity of material thatshould have been used to produce1,000 Zippies is: a. 1,700 pounds. b. 1,500 pounds. c. 2,550 pounds. d. 2,000 pounds.

39. Zippy Quick Check  Hanson’s material quantity variance (MQV)for the week was: a. $170 unfavorable. b. $170 favorable. c. $800 unfavorable. d. $800 favorable.

40. Zippy Price variance$170 favorable Quantity variance$800 unfavorable Material VariancesSummary Actual Quantity Actual Quantity Standard Quantity × × × Actual Price Standard Price Standard Price 1,700 lbs. 1,700 lbs. 1,500 lbs. × × × $3.90 per lb. $4.00 per lb. $4.00 per lb. =$6,630 = $ 6,800 = $6,000

41. The price variance is computed on the entire quantitypurchased. • The quantity variance is computed only on the quantityused. Material Variances Hanson purchased and used 1,700 pounds. How are the variances computed if the amount purchaseddiffers from the amount used?

42. Zippy Material VariancesContinued Hanson Inc. has the following material standard to manufacture one Zippy: 1.5 pounds per Zippy at $4.00 per pound Last week 2,800 pounds of material were purchased at a total cost of $10,920, and 1,700 pounds were used to make 1,000 Zippies.

43. Zippy Price variance increases because quantity purchased increases. Price variance$280 favorable Material VariancesContinued Actual Quantity Actual Quantity Purchased Purchased × × Actual Price Standard Price 2,800 lbs. 2,800 lbs. × × $3.90 per lb. $4.00 per lb. = $10,920 = $11,200

44. Zippy Quantity variance is unchanged because actual and standard quantities are unchanged. Quantity variance$800 unfavorable Material VariancesContinued Actual Quantity Used Standard Quantity × × Standard Price Standard Price 1,700 lbs. 1,500 lbs. × × $4.00 per lb. $4.00 per lb. = $6,800 = $6,000

45. I’ll start computingthe price variancewhen material ispurchased rather thanwhen it’s used. I need the price variancesooner so that I can betteridentify purchasing problems. You accountants just don’tunderstand the problems thatpurchasing managers have. Isolation of Material Variances

46. You used too much material because of poorly trained workers and poorly maintained equipment. Also, your poor scheduling sometimes requires me to rush order material at a higher price, causing unfavorable price variances. I am not responsible for this unfavorable materialquantity variance. You purchased cheapmaterial, so my peoplehad to use more of it. Responsibility for Material Variances

47. Standard Costs Now let’s calculate standard cost variances fordirect labor.

48. Note • Materials variances: • Material price variance • MPV = AQ (AP - SP) • Material quantity variance • MQV = SP (AQ - SQ) • Labor variances: • Labor rate variance • LRV = AH (AR - SR) • Labor efficiency variance • LEV = SR (AH - SH) Actual hours Actual rate Standard rate Standard hours allowed for the actual good output

49. Zippy Labor Variances Example Hanson Inc. has the following direct labor standard to manufacture one Zippy: 1.5 standard hours per Zippy at $12.00 perdirect labor hour Last week 1,550 direct labor hours were worked at a total labor cost of $18,910to make 1,000 Zippies.

50. Zippy Quick Check  What was Hanson’s actual rate (AR)for labor for the week? a. $12.20 per hour. b. $12.00 per hour. c. $11.80 per hour. d. $11.60 per hour.