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Standard Costing, Operational Performance Measures, and the Balanced Scorecard

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10

Chapter Ten

Standard Costing, Operational Performance Measures, and the Balanced Scorecard

Standardperformancelevel

Actualperformancelevel

Comparison between standard and actual performancelevel

Costvariance

Standard Costs are

Based on carefullypredetermined amounts.

Used for planning labor

and material requirements.

The expected levelof performance.

Benchmarks formeasuring performance.

Managers focus on quantities and coststhat exceed standards, a practice known asmanagement by exception.

Standard

Amount

DirectMaterial

DirectLabor

Type of Product Cost

Analysis ofHistorical Data

TaskAnalysis

CostStandards

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

Practical standardsshould be set at levelsthat are currentlyattainable with

reasonable and

efficient effort.

Should we usepractical standardsor perfection standards?

I agree. Perfection standards areunattainable and therefore discouraging to most employees.

- Standard cost analysis may be used in any organization with repetitive tasks.
- A relationship between tasks and output measures must be established.

Takecorrective actions.

Identifyquestions.

Receive explanations.

Conduct next period’s operations.

Analyze variances.

Prepare standard cost performance report.

Begin

Standard Cost Variances

Price Variance

Quantity Variance

The difference betweenthe actual price and thestandard price

The difference betweenthe actual quantity andthe standard quantity

Standard price is the amount that should have been paid for the resources acquired.

Actual Quantity Actual Quantity Standard Quantity × × × Actual Price Standard Price Standard Price

Price Variance

Quantity Variance

Actual Quantity Actual Quantity Standard Quantity × × × Actual Price Standard Price Standard Price

Price Variance

Quantity Variance

Standard quantity is the quantity allowed for the actual good output.

Actual Quantity Actual Quantity Standard Quantity × × × Actual Price Standard Price Standard Price

Price Variance

Quantity Variance

Materials price variance Materials quantity varianceLabor rate variance Labor efficiency varianceVariable overhead Variable overhead spending variance efficiency variance

AQ(AP - SP) SP(AQ - SQ)

AQ = Actual Quantity SP = Standard PriceAP = Actual Price SQ = Standard Quantity

Let’s use the concepts of the general model to calculate standard cost variances, starting withdirect material.

Zippy

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.

Zippy

What is the actual price per pound paid for the material?

a.$4.00 per pound.

b.$4.10 per pound.

c.$3.90 per pound.

d.$6.63 per pound.

Zippy

What is the actual price per pound paid for the material?

a.$4.00 per pound.

b.$4.10 per pound.

c.$3.90 per pound.

d.$6.63 per pound.

AP = $6,630 ÷ 1,700 lbs.AP = $3.90 per lb.

Zippy

Hanson’s material price variance (MPV)for the week was:

a.$170 unfavorable.

b.$170 favorable.

c.$800 unfavorable.

d.$800 favorable.

Zippy

Hanson’s material price variance (MPV)for the week was:

a.$170 unfavorable.

b.$170 favorable.

c.$800 unfavorable.

d.$800 favorable.

MPV = AQ(AP - SP) MPV = 1,700 lbs. × ($3.90 - 4.00) MPV = $170 Favorable

Zippy

The standard quantity of material thatshould have been used to produce 1,000 Zippies is:

a.1,700 pounds.

b.1,500 pounds.

c.2,550 pounds.

d.2,000 pounds.

Zippy

The standard quantity of material thatshould have been used to produce 1,000 Zippies is:

a.1,700 pounds.

b.1,500 pounds.

c.2,550 pounds.

d.2,000 pounds.

SQ = 1,000 units × 1.5 lbs per unit SQ = 1,500 lbs

Zippy

Hanson’s material quantity variance (MQV) for the week was:

a.$170 unfavorable.

b.$170 favorable.

c.$800 unfavorable.

d.$800 favorable.

Zippy

Hanson’s material quantity variance (MQV) for the week was:

a.$170 unfavorable.

b.$170 favorable.

c.$800 unfavorable.

d.$800 favorable.

MQV = SP(AQ - SQ) MQV = $4.00(1,700 lbs - 1,500 lbs) MQV = $800 unfavorable

Price variance$170 favorable

Quantity variance$800 unfavorable

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

Zippy

- The price variance is computed on the entire quantity purchased.
- The quantity variance is computed only on the quantity used.

Hanson purchased and used 1,700 pounds. How are the variances computed if the amount purchased differs from the amount used?

Zippy

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.

Zippy

Price variance increases because quantity purchased increases.

Price variance$280 favorable

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

Zippy

Quantity variance is unchanged because actual and standard quantities are unchanged.

Quantity variance$800 unfavorable

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

I need the variances as soonas possible so that I canbetter identify problems and control costs.

You accountants just don’tunderstand the problems we production managers have.

Okay. I’ll start computingthe price variance whenmaterial is purchased andthe quantity variance assoon as material is used.

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.

Now let’s calculate standard cost variances for direct labor.

Zippy

Hanson Inc. has the following direct labor standard to manufacture one Zippy:

1.5 standard hours per Zippy at $10.00 per direct labor hour

Last week 1,550 direct labor hours were worked at a total labor cost of $15,810 to make 1,000 Zippies.

Zippy

What was Hanson’s actual rate (AR)for labor for the week?

a.$10.20 per hour.

b.$10.10 per hour.

c.$9.90 per hour.

d.$9.80 per hour.

Zippy

What was Hanson’s actual rate (AR)for labor for the week?

a.$10.20 per hour.

b.$10.10 per hour.

c.$9.90 per hour.

d.$9.80 per hour.

AR = $15,810 ÷ 1,550 hours AR = $10.20 per hour

Zippy

Hanson’s labor rate variance (LRV)for the week was:

a.$310 unfavorable.

b.$310 favorable.

c.$300 unfavorable.

d.$300 favorable.

Zippy

Hanson’s labor rate variance (LRV)for the week was:

a.$310 unfavorable.

b.$310 favorable.

c.$300 unfavorable.

d.$300 favorable.

LRV = AH(AR - SR) LRV = 1,550 hrs($10.20 - $10.00) LRV = $310 unfavorable

Zippy

The standard hours (SH) of labor thatshould have been worked to produce 1,000 Zippies is:

a.1,550 hours.

b.1,500 hours.

c.1,700 hours.

d.1,800 hours.

Zippy

The standard hours (SH) of labor thatshould have been worked to produce 1,000 Zippies is:

a.1,550 hours.

b.1,500 hours.

c.1,700 hours.

d.1,800 hours.

SH = 1,000 units × 1.5 hours per unit SH = 1,500 hours

Zippy

Hanson’s labor efficiency variance (LEV)for the week was:

a.$510 unfavorable.

b.$510 favorable.

c.$500 unfavorable.

d.$500 favorable.

Zippy

Hanson’s labor efficiency variance (LEV)for the week was:

a.$510 unfavorable.

b.$510 favorable.

c.$500 unfavorable.

d.$500 favorable.

LEV = SR(AH - SH) LEV = $10.00(1,550 hrs - 1,500 hrs) LEV = $500 unfavorable

Rate variance$310 unfavorable

Efficiency variance$500 unfavorable

Actual Hours Actual Hours Standard Hours × × × Actual Rate Standard Rate Standard Rate

1,550 hours 1,550 hours 1,500 hours × × ×$10.20 per hour $10.00 per hour $10.00 per hour

$15,810 $15,500 $15,000

Using highly paid skilled workers toperform unskilled tasks results in anunfavorable rate variance.

High skill,high rate

Low skill,low rate

Production managers who make work assignmentsare generally responsible for rate variances.

Poorlytrainedworkers

Poorqualitymaterials

UnfavorableEfficiencyVariance

Poorsupervisionof workers

Poorlymaintainedequipment

You used too much time because of poorly trained workers and poor supervision.

I am not responsible for the unfavorable laborefficiency variance!

You purchased cheapmaterial, so it took moretime to process it.

Maybe I can attribute the laborand material variances to personnel for hiring the wrong peopleand training them poorly.

What clues help me to determine the variances that I should investigate?

- Size of variance
- Dollar amount
- Percentage of standard

- Recurring variances
- Trends
- Controllability
- Favorable variances
- Costs and benefits of investigation

Display variations in a process and help to analyze the variationsover time.

Distinguish between random variationsand variations thatshould be investigated.

Provide a warning signal when variationsare beyond a specified level.

ControlCharts

Warning signals for investigation

•

•

Favorable Limit

•

•

•

•

•

Desired Value

•

Unfavorable Limit

•

1

2

3

4

5

6

7

8

9

Variance Measurements

Standard material and labor costsare entered into the manufacturingaccounts instead of actual costs.

Standard cost variancesare closed directly toCost of Goods Sold.

Advantages

Sensible CostComparisons

Management byException

PerformanceEvaluation

EmployeeMotivation

Standard costing may be inappropriate in some modern manufacturing environments.

Undue concern for variances and cost minimization may lead to lower quality.

Automation reduces labor costs andthe significance of labor variances.

Standard costing may not be applicablein flexible manufacturing operationswith short life-cycle products.

- Raw Material and Scrap Control
- Inventory Control
- Machine Performance
- Product Quality
- Production and Delivery
- Productivity
- Innovation and Learning

Material & Scrap Control

Quality

Lead time

Cost of scrap

Total cost

Inventory Control

Turnover ratio

No. of inventory items

Ratio of inventory value to sales revenue

Machine Performance

Availability

Downtime

Usage

Setup time

Product Quality

Warranty claims

Customer complaints

Defective products

Cost of rework

Productivity

Units produced per day per employee

Ratio of output value to input value

Innovation and Learning

Percentage of sales from new products

Cost savings from process improvements

Order Received

ProductionStarted

Goods Shipped

Process Time + Inspection Time+ Move Time + Waiting Time

Wait Time

Manufacturing Cycle Time

Delivery Cycle Time

Process time is the only value-added activity.

Manufacturing

Cycle

Efficiency

Process TimeManufacturing Cycle Time

=

Order Received

ProductionStarted

Goods Shipped

Process Time + Inspection Time+ Move Time + Waiting Time

Wait Time

Manufacturing Cycle Time

Delivery Cycle Time

Exh.10-8

Financial Perspective

How do we lookto the firm’s owners?

Internal OperationsPerspective

In which activities must we excel?

Customer Perspective

How do our customers see us?

Innovation andLearning PerspectiveHow can we continuallyimprove and create value?

Let’s set the standard alittle higher.