Download Standard Costs, Variable Costing Systems, Quality Costs, and Joint

Chapter
19
Standard Costs,
Variable
Costing
Systems,
Quality Costs,
and Joint Costs
McGraw-Hill/Irwin
Copyright © 2007 by The McGraw-Hill Companies, Inc. All rights reserved.
Standard & budgeted costs
• Standard cost = a measure of how much
cost should be = cost of one unit of
product.
• Budgeted cost = what total costs of many
units or of a time period should be.
• Standard cost system = a product costing
system that records standard costs either
in addition to or instead of actual costs.
19-2
Standard cost sheet
 Contains breakdown of standard cost of a unit of
a particular product.
 Bill of material:
 Standard quantity of each item of material input needed
to make one unit of output.
 Standard price = current cost of each item of material
input.
 Routing = labor routing = bill of labor:
 Various labor operations required to make the item.
 Standard labor hours = Total of hours required to make a unit of
product.
19-3
Standard cost
 Standard quantity of materials * standard
price of each material.
 + standard labor hours * standard labor
rate
 + standard activity measure (e.g. standard
labor hours) * predetermined overhead
rate.
19-4
Favorable/Unfavorable
Variance
 Standard cost - actual cost.
 For materials, labor and overhead, separately or
jointly.
 Favorable variances are credit balances which:
 Indicate costs were less than expected.
 Are reductions of cost of goods sold (possibly some also
allocated to inventory).
 Unfavorable variances are debit balances which:
 Indicate costs were higher than expected.
 Are increases of cost of goods sold i.e. expenses (possibly
some also allocated to inventory).
19-5
Total material variances
 Actual cost - standard cost
 = (act qty * act pr) - (Std qty * std pr)
 = mat. price variance + mat. usage variance.
 Materials price variance
 = act qty * std pr - act qty *act pr
 = (standard price -actual price) * actual quantity
 = price * actual quantity.
 Materials usage variance
 = (std qty * std pr) - (act qty * std pr)
 = (std qty - act qty) * standard price
 = quantity * standard price.
19-6
Disposition of Production
Cost Variances
• Amount by which goods produced in an
accounting period have been “miscosted”.
 Alternative disposition of variances:
 Proportionately between EOP inventory and COGS.
 Best matching.
 Debit or credit the expense cost of goods sold.
 Expediency.
 If amounts that should have been allocated to
inventory are material, then this approach is not in
compliance with GAAP.
 Keep in an overhead clearing account.
 Not GAAP. Should be zeroed out at year-end.
19-7
Variations in Standard Cost
• In a standard cost system: some or all elements
of cost are carried in an inventory account at
standard.
• A variance account is generated at the point that
an element of cost is shifted from actual to
standard.
– Material can be shifted from actual to standard when
received, when issued from Materials inventory or not
at all.
– Some companies use standard cost only for material
or only for direct labor.
19-8
Uses of Standards
 Control.
 Starting point for measuring performance: compare actual
costs with standards.
 Decision making.
 Pricing & alternative choice decisions.
 More rational costs.
 Identical costs for same products.
 e.g. different production levels in month.
 Recordkeeping savings.
 Eliminates need to cost each requisition, or batch.
 Standards changed infrequently (say, once every six months or a
year).
19-9
Variable costing system
 Up to now: full or absorption cost systems.
 Variable and fixed production costs are assigned
to product.
 Required by GAAP and tax regulations.
 Variable costing system.
 Useful for management decision making.
 Only variable production costs are included in
inventory.
 Fixed costs are treated as period costs.
 Fixed costs = cost of maintaining capacity.
 Sometimes mistakenly referred to as a direct costing
system.
19-10
Advantages of variable
costing
 Simplifies accounting: no determination of
overhead rate for fixed overhead.
 Overhead variance is a pure spending
variance.
 Caused by actual overhead differing from costs
based on a flexible budget.
 Variances caused by volume differences are not
reflected in variances.
 Avoids confusion from overhead volume variance.
 Management better focuses on differences arising from
production cost variances other than volume.
19-11
Management Control Allowed
by Variable Costing
 Variable costs on a cost-per-unit basis.
 Fixed cost on a total-cost-per-period basis.
 Useful for break-even and differential analysis.
 Reported monthly income is related to month’s sales
volume.
 Under absorption costing, reported monthly income is
related to both sales and production volumes.
 If production is higher (lower) than sales, absorption
costing results in higher (lower) income than variable
costing.
 Results from increased (decreased) fixed OH in inventory.
19-12
Overhead rates
• Variable costing system: overhead rate
is essentially same as accounting for
direct material and direct labor, i.e. all 3
are variable.
 Absorption costing system: In effect the
sum of 2 rates:
 To absorb variable overhead.
 Slope of the flexible overhead budget line.
 To absorb/allocate fixed overhead costs.
 Determined by estimating standard volume
over which fixed overhead costs are averaged.
19-13
Why use full costing?
• Variable costing leads management to
focus on contribution margin & not on fixed
costs.
• Makes costs tied up in inventory look
smaller.
• Mgmt thinks sales are more profitable.
• Decomposing overhead costs into variable
& fixed components may be difficult.
19-14
Why use full costing?
(continued)
 Needed for pricing, & financial & tax
reporting.
 Variable costing system would require
maintaining 2 systems.
 However, if management decomposes
overhead into variable and fixed
components, reports in CM or full cost
format can easily prepare.
19-15
Quality Costs
• Prevention costs: to prevent defects.
– Supplier education and certification, product redesign, process
improvement….
• Quality appraisal (or detection) costs: to find defects
before goods are delivered.
– Inspection, testing….
• Internal failure cost: to correct defects before good is
delivered.
– Scrap, rework…..
• External failure costs: correcting defect after delivery.
– Refunds, warranty costs for repairs and replacements, product
liability,….
19-16
Joint-product costing
• 2 or more dissimilar end products.
– Produced from same process/materials, e.g. steer,
oil refining, timber processing, dairy.
• Allocation of joint costs up to split-off:
– Proportionately to sales value of end product less
separate processing & marketing costs.
• By-product costing:
– Costed so that 0 profit reported for by-product.
• Amount of joint cost=sales revenue-costs after split-off.
19-17
Joint Product Example
• Assume joint products Y & Z:
– Joint processing costs = $1,100.
– Sales value: Y=$2,200, Z=$600.
– Costs beyond split-off: Y=$600, Z=$200.
– Sales value-separate costs: Y=$1,600, Z=$400.
• How much joint cost should be allocated to
Y & to Z?
• How much cost should be allocated to Y
and Z, if Z is considered a by-product?
19-18
Judgment Calls Affecting
Cost Determination








Capital, product or period costs.
Measurement of direct costs.
Direct or indirect cost.
Cost driver used to allocate costs.
Alternative allocation methods.
Choice of activity measure.
Estimate of volume.
Definition of cost centers.
19-19
Cost system design choices
• Job order or process system?
 Actual cost or standard cost system?
 Absorption costing or contribution margin
format?
 How many cost centers?
 How should volume be measured in each
cost center?
19-20
Cost system design choices
(Continued)
 What is the step down cost order for
allocating costs of service centers to
production cost centers?
 Should labor related and material
related costs be treated as direct costs
or part of overhead?
 Should system be kept simple and
supplement it with an activity based
costing model?
19-21
Chapter
19
End of
Chapter 19
McGraw-Hill/Irwin
Copyright © 2007 by The McGraw-Hill Companies, Inc. All rights reserved.