Standard Costs and Operating

Performance Measures
Chapter 11

McGraw-Hill/Irwin Copyright © 2010 by The McGraw-Hill Companies, Inc. All rights reserved.
 Standard Costs
Standards are benchmarks or “norms” for
measuring performance. In managerial accounting,
two types of standards are commonly used.

Quantity standards Price standards

specify how much of an specify how much
input should be used to should be paid for
make a product or each unit of the
provide a service. input.

Examples: Firestone, Sears, McDonald’s, hospitals,

construction and manufacturing companies.
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Standard Costs
Deviations from standards deemed significant
are brought to the attention of management, a
practice known as management by exception.

Standard
Amount

Direct
Material
Direct Manufacturing
Labor Overhead

Type of Product Cost

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Variance Analysis Cycle

Take
Identify Receive corrective
questions explanations actions

Conduct next
Analyze period’s
variances operations

Prepare standard
Begin
cost performance
report

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Setting Standard Costs
Should we use I recommend using practical
ideal standards that standards that are currently
require employees to attainable with reasonable
work at 100 percent and efficient effort.
peak efficiency?

Engineer Managerial Accountant

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Setting Direct Material Standards

Price Quantity
Standards Standards

Final, delivered Summarized in

cost of materials, a Bill of Materials.
net of discounts.

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Setting Direct Labor Standards

Rate Time
Standards Standards

Often a single Use time and

rate is used that reflects motion studies for
the mix of wages earned. each labor operation.

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Setting Variable Manufacturing Overhead
Standards

Rate Quantity
Standards Standards

The rate is the The quantity is

variable portion of the the activity in the
predetermined overhead allocation base for
rate. predetermined overhead.

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Price and Quantity Standards
Price and quantity standards are
determined separately for two reasons:

 The purchasing manager is responsible for raw

material purchase prices and the production manager
is responsible for the quantity of raw material used.

 The buying and using activities occur at different times.

Raw material purchases may be held in inventory for a
period of time before being used in production.

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A General Model for Variance Analysis

Variance Analysis

Price Variance Quantity Variance

Difference between Difference between

actual price and actual quantity and
standard price standard quantity

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A General Model for Variance Analysis

Variance Analysis

Price Variance Quantity Variance

Materials price variance Materials quantity variance

Labor rate variance Labor efficiency variance
VOH rate variance VOH efficiency variance

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A General Model for Variance Analysis

Actual Quantity Actual Quantity Standard Quantity

× × ×
Actual Price Standard Price Standard Price

Price Variance Quantity Variance

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A General Model for Variance Analysis

Actual Quantity Actual Quantity Standard Quantity

× × ×
Actual Price Standard Price Standard Price

Price Variance Quantity Variance

Actual quantity is the amount of direct

materials, direct labor, and variable
manufacturing overhead actually used.

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A General Model for Variance Analysis

Actual Quantity Actual Quantity Standard Quantity

× × ×
Actual Price Standard Price Standard Price

Price Variance Quantity Variance

Standard quantity is the standard quantity

allowed for the actual output of the period.

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A General Model for Variance Analysis

Actual Quantity Actual Quantity Standard Quantity

× × ×
Actual Price Standard Price Standard Price

Price Variance Quantity Variance

Actual price is the amount actually

paid for the input used.

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A General Model for Variance Analysis

Actual Quantity Actual Quantity Standard Quantity

× × ×
Actual Price Standard Price Standard Price

Price Variance Quantity Variance

Standard price is the amount that should

have been paid for the input used.

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A General Model for Variance Analysis

Actual Quantity Actual Quantity Standard Quantity

× × ×
Actual Price Standard Price Standard Price

Price Variance Quantity Variance

(AQ × AP) – (AQ × SP) (AQ × SP) – (SQ × SP)

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

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 Responsibility for Material Variances

Materials Quantity Variance Materials Price Variance

Production Manager Purchasing Manager

The standard price is used to compute the quantity variance

so that the production manager is not held responsible for
the purchasing manager’s performance.

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Responsibility for Labor Variances

Production managers are Mix of skill levels

usually held accountable assigned to work tasks.
for labor variances
because they can
Level of employee
influence the:
motivation.

Quality of production
supervision.

Quality of training
provided to employees.
Production Manager

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Advantages of Standard Costs

Management by Promotes economy

exception and efficiency

Advantages
Enhances
Simplified responsibility
bookkeeping accounting

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 Potential Problems with Standard Costs
Emphasizing standards Favorable
may exclude other variances may
important objectives. be misinterpreted.
Potential
Problems
Standard cost Emphasis on
reports may negative may
not be timely. impact morale.

Invalid assumptions Continuous

about the relationship improvement may
between labor be more important
cost and output. than meeting standards.
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Delivery Performance Measures

Order Production Goods

Received Started Shipped

Process Time + Inspection Time

Wait Time + Move Time + Queue Time

Throughput Time

Delivery Cycle Time

Process time is the only value-added time.

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Delivery Performance Measures
Order Production Goods
Received Started Shipped

Process Time + Inspection Time

Wait Time + Move Time + Queue Time

Throughput Time

Delivery Cycle Time

Manufacturing Value-added time
Cycle =
Efficiency Manufacturing cycle time

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End of Chapter 11

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