When standard cost are used in process costing
IntroductionStandard costing is a cost accumulation method that makes use of predetermined amounts known as standard costs. These standard costs could be based on historical data, past experiences, market averages, and other relevant bases. Show
Advantages of Standard Costing1. Emphasizes control over costs. Analysis of variances between standard costs and actual costs provide vital information useful in improving and maintaining efficiency of operations. 2. Serves as a key element in responsibility accounting. In responsibility accounting, managers are evaluated based on their performance over things they can control. Actual performance is compared with expectations or established standards. 3. Supports management by objectives and management by exception. Management by objective is an approach where a manager and his or her subordinates are evaluated based on achievement of set goals. Management by exception is another managerial approach in which management gives attention to matters that materially deviate from established standards. 4. Promotes efficiency among workers and employees. Though not perfect, established standards set the acceptable amount of cost to be spent. 5. Simplifies and speeds up the recording process, especially when actual cost data are not readily available. Variance AnalysisThe difference between actual costs and standard costs is known as "variance". There is a favorable variance when actual costs are less than standard costs. An unfavorable variance occurs when actual costs are higher than the standard. The standard costing and variance analysis process is as follows:
Sometimes, established standards are too high, or too low, or are not applicable in the current situation. In such cases, the standards may need to be revised. Other NotesStandard costing system may be used in both job order costing and process costing. Standards may be established for materials, labor, and factory overhead. In an actual cost system, all manufacturing costs are recorded at actual costs. In a normal cost system, materials and labor are recorded at actual costs while factory overhead is recorded using standard costs. In a full standard cost system, materials, labor, and factory overhead are all recorded at standard costs. Variances are recorded later in the accounting process. Hence, the financial statements would still reflect the actual costs incurred. Key Takeaways Standard costing makes us of predetermined costs. 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. This allows managers to analyze variances, i.e. the differences between predetermined costs and actual costs, and decide on further actions. Web link APA format What is standard costing? (2022).
Accountingverse. Next Lesson → Chapter Outline ≡ Which of the following statements is false? The cost of rework on defective units, if A. abnormal, should be assigned to a loss account. B. normal and if actual costs are used, should be assigned to material, labor and overhead costs of the good production. C. normal and if standard costs are used, should be considered when developing the overhead application rate. D. abnormal, should be prorated among Work In Process, Finished Goods, and Cost of Goods Sold. Introduction to Standard CostingStandard costing is an important subtopic of cost accounting. Historically, standard costs have been associated with a manufacturing company's costs of direct materials, direct labor, and manufacturing overhead. Rather than assigning the actual costs of direct materials, direct labor, and manufacturing overhead to a product, some manufacturers assign the expected or standard costs. This means that a manufacturer's inventories and cost of goods sold will begin with amounts that reflect the standard costs, not the actual costs, of a product. Since a manufacturer must pay its suppliers and employees the actual costs, there are almost always differences between the actual costs and the standard costs, and the differences are noted as variances.
Standard costing (and the related variances) is a valuable management tool. If a variance arises, it tells management that the actual manufacturing costs are different from the standard costs. Management can then direct its attention to the cause of the differences from the planned amounts. If we assume that a company uses the perpetual inventory system and that it carries all of its inventory accounts at standard cost (including Direct Materials Inventory or Stores), then the standard cost of a finished product is the sum of the standard costs of these inputs:
Usually there will be two variances computed for each input: Since the calculation of variances can be difficult, we developed several business forms (for PRO members) to help you get started and to understand what the variances tell us. Learn more about AccountingCoach PRO. Note: Our Guide to Managerial & Cost Accounting is designed to deepen your understanding of topics such as product costing, overhead cost allocations, estimating cost behavior, costs for decision making, and more. It is only available when you join AccountingCoach PRO. Sample Standards TableLet's assume that your Uncle Pete runs a retail outlet that sells denim aprons in two sizes. Pete suggests that you get into the manufacturing side of the business, so on January 1, 2021, you start up an apron production company called DenimWorks. Using the best information at hand, the two of you compile the following information to establish the standard costs for 2021: Standards Table for DenimWorks The aprons are easy to produce, and no apron is ever left unfinished at the end of any given day. This means that DenimWorks will never have work-in-process inventory at the end of an accounting period. When we make the journal entries for completed aprons, we'll use an account called Inventory-FG which means Finished Goods Inventory. We'll also be using the account Direct Materials Inventory or Raw Materials Inventory or Stores. Most manufacturers will also have an account entitled Work-in-Process Inventory, which is commonly referred to as WIP Inventory. Direct Materials Purchased: Standard Cost and Price VarianceDirect materials are the raw materials that are directly traceable to a product. In your apron business the main direct material is the denim. (In a food manufacturer's business the direct materials are the ingredients such as flour and sugar; in an automobile assembly plant, the direct materials are the cars' component parts). DenimWorks purchases its denim from a local supplier with terms of net 30 days, FOB destination. This means that title to the denim passes from the supplier to DenimWorks when DenimWorks receives the material. When the denim arrives, DenimWorks will record the denim received in its Direct Materials Inventory at the standard cost of $3 per yard (see the standards table above) and will record a liability for the actual cost of the material received. Any difference between the standard cost of the material and the actual cost of the material received is recorded as a purchase price variance. Examples of Standard Cost of Materials and Price VarianceLet's assume that on January 2, 2021, DenimWorks ordered 1,000 yards of denim at $2.90 per yard. On January 8, DenimWorks receives the 1,000 yards of denim and the supplier's invoice for the actual cost of $2,900. On January 8, DenimWorks becomes the owner of the material and has a liability to its supplier. On January 8, DenimWorks' Direct Materials Inventory is increased by the standard cost of $3,000 (1,000 yards of denim at the standard cost of $3 per yard), Accounts Payable is credited for $2,900 (the actual amount owed to the supplier), and the difference of $100 is credited to Direct Materials Price Variance. Putting this information in a general journal entry looks like this:  The $100 credit to the Direct Materials Price Variance account indicates that the company is experiencing actual costs that are more favorable than the planned, standard costs. In February, DenimWorks orders 3,000 yards of denim at $3.05 per yard. On March 1, DenimWorks receives the 3,000 yards of denim and the supplier's invoice for $9,150 due in 30 days. On March 1, the Direct Materials Inventory account is increased by the standard cost of $9,000 (3,000 yards at the standard cost of $3 per yard), Accounts Payable is credited for $9,150 (the actual cost of the denim), and the difference of $150 is debited to Direct Materials Price Variance as an unfavorable price variance: After the March 1 transaction is posted, the Direct Materials Price Variance account shows a debit balance of $50 (the $100 credit on January 8 combined with the $150 debit on March 1). A debit balance in any variance account means it is unfavorable. It means that the actual costs are higher than the standard costs and the company's profit will be $50 less than planned unless some action is taken. On June 1 your company receives an additional 3,000 yards of denim at an actual cost of $2.92 per yard for a total of $8,760 due in 30 days. The entry is: Direct Materials Inventory is debited for the standard cost of $9,000 (3,000 yards at $3 per yard), Accounts Payable is credited for the actual amount owed, and the difference of $240 is credited to Direct Materials Price Variance. The $240 variance is favorable since the company paid $0.08 per yard less than the standard cost per yard x the 3,000 yards of denim.
After this transaction is recorded, the Direct Materials Price Variance account shows a credit balance of $190. A credit balance in a variance account is always favorable. In other words, your company's profit will be $190 greater than planned due to the lower than expected cost of direct materials. Note that the entire price variance pertaining to all of the direct materials received was recorded immediately (as opposed to waiting until the materials were used). We will discuss later how to handle the balances in the variance accounts under the heading What To Do With Variance Amounts. How can Standard costs be used in a process costing system?What is standard costing? Standard costing is the practice of estimating the expense of a production process. It's a branch of cost accounting that's used by a manufacturer, for example, to plan their costs for the coming year on various expenses such as direct material, direct labor or overhead.
Where is standard cost system used?Standard costing is a system of accounting that uses predetermined standard costs for direct material, direct labor, and factory overheads. Standard costing is the second cost control technique, the first being budgetary control. It is also one of the most recently developed refinements of cost accounting.
What are standard costs used for?Standard costing is an accounting system used by some manufacturers to identify the differences or variances between: The actual costs of the goods that were produced, and. The costs that should have occurred for the actual goods produced.
Is standard costing the same as process costing?Companies that produce a continuous flow of identical products often choose process costing systems. Standard costing systems allow companies to determine their expected cost for each product.
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