Further investigation should reveal
whether the exception or variance was caused by the inefficient use
of materials or resulted from higher prices due to inflation or
inefficient purchasing. In either case, the standard cost system
acts as an early warning system by highlighting a potential hazard
for management. Since the company’s external financial statements must reflect the historical cost principle, the standard costs in the inventories and the cost of goods sold will need to be adjusted for the variances. Since most of the goods manufactured will have been sold, most of the variances will end up as part of the cost of goods sold. 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. This type of standard costing believes the perfect condition when there is no interruption and wastage during production.

They believe that there is no machine breakdown, worker tea break, or any error in the production process. Therefore, the production will be able to maximize their capacity which almost impossible to happen in real life. Essentially, standard costing is a technique of cost calculation and control. Standard standard costing system costs are prepared and used to clarify the final results of a business. The efficiency of management depends on the control of costs, among other factors. To control costs effectively, management needs to know the actual cost, as well as the variation between the expected cost and actual cost.

Standard Costing Formula

Nonreporting of certain variances Workers do not always report all exceptions or variances. If management only investigates unusual variances, workers may not report negative exceptions to the budget or may try to minimize these exceptions to conceal inefficiency. Workers who succeed in hiding variances diminish the effectiveness of budgeting.

This is a forecast of the average prices of material during the future period. This standard is quite difficult to establish because prices are regulated more by the external factors than by the company management. While setting standard prices, the past experiences, existing prices and anticipations should closely examine.

Standard Costing (Explanation)

In setting standards, the key question is to decide on the type of standard to be used in fixing the cost. The main types of standards are ideal, basic, and currently attainable standards. Classification or grouping of accounts is essential for standard costing. https://www.bookstime.com/articles/tax-shield Standard costing techniques have been applied successfully in all industries that produce standardized products or follow process costing methods. Standard cost offers a criterion against which actual costs incurred by the business can be measured and analyzed.

A variance is the difference between the actual cost incurred and the standard cost against which it is measured. A variance can also be used to measure the difference between actual and expected sales. Thus, variance analysis can be used to review the performance of both revenue and expenses.