STANDARD

COSTING AND
VARIANCE
ANALYSIS
PATRICK LOUIE E. REYES,
CTT, MICB, RCA, CPA
Standard Costing
Standard costs: realistic estimates of cost based on
analyses of both past and projected operating costs
and conditions.
Components:
•Standard costs, which provide a standard, or
predetermined, performance level
•A measure of actual performance
•A measure of the variance between standard and
actual performance
Standard vs. Actual vs. Normal
Standard costing uses estimated costs exclusively to
compute all three elements of product costs: DM, DL,
OH

Actual: Actual costs for DM, DL, OH

Normal: Actual costs for DM and DL; OH based on

predetermined OH rate
Standard Costs in Management
How managers use standard costs for planning and
control in the management process:
•Planning – For budget development; product costing,
pricing, and distribution
•Performing – For measurement of expenditures and
control of costs as they occur
•Evaluating – For variance analysis
•Communicating – For variance reports
Some notes
•The primary difference between standard costing in a
service organization and standard costing in a
manufacturing organization is that a service
organization has no direct materials costs.
•In a standard costing system, costs are entered into
the Materials, Work in Process, and Finished Goods
Inventory accounts and the Cost of Goods Sold
account at standard cost; actual costs are recorded
separately.
Elements
The following elements are used in determining a
standard cost per unit:
•Direct materials price standard
•Direct materials quantity standard
•Direct labor rate standard
•Direct labor time standard
•Standard variable overhead rate
•Standard fixed overhead rate
How Standards are Developed
•The direct materials price standard is based on a
careful estimate of all possible price increases,
changes in available quantities, and new sources of
supply in the next accounting period.
•The direct materials quantity standard is based on
product engineering specifications, the quality of
direct materials, the age and productivity of machines,
and the quality and experience of the work force.
How Standards are Developed
•The direct labor rate standard is defined by labor
union contracts and company personnel policies.
•The direct labor time standard is based on current
time and motion studies of workers and machines and
records of their past performance.
•The standard variable overhead rate and standard
fixed overhead rate are found by dividing total
budgeted variable and fixed overhead costs by an
appropriate application base.
How Standards are Developed
•The direct labor rate standard is defined by labor
union contracts and company personnel policies.
•The direct labor time standard is based on current
time and motion studies of workers and machines and
records of their past performance.
•The standard variable overhead rate and standard
fixed overhead rate are found by dividing total
budgeted variable and fixed overhead costs by an
appropriate application base.
Direct Material Standards
• Standard price per unit: should reflect the final, delivered
cost of materials, net of any discounts and inclusive of
allowances for handling costs.
• Standard quantity per unit: should reflect the units of
materials required to produce each unit of product,
including allowances for unavoidable wastages, spoilage,
as well as other normal inefficiencies

Standard Cost of DM per unit = Standard Price per unit ×

Standard Quantity per unit
Direct Labor Standards
• Standard rate per hour: should include the wages, fringe
benefits, and other labor costs.
• Standard time (hours) per unit: the amount of labor time in
hours required to produce each unit of product, including
allowances for employee rest periods, personal needs of
employees, and even normal machine downtime.

Standard Cost of DL per unit = Standard Rate per hour ×

Standard Time per unit
Overhead Standards
•Variable manufacturing overhead standards: computed
in the same manner as the standards for DL.
• Standard VMOH = Standard time per unit × VMOH rate per hour
•Fixed manufacturing overhead standards: usually
expressed in terms of total figures. To set the standard
rate for FMOH, the total FMOH costs is computed using the
practical or normal capacity level as the base.
• Standard MOH = Standard VMOH + Standard FMOH
Standard Unit Cost
A product’s standard unit cost is the sum of the
following:
•Standard direct materials cost
•Standard direct labor cost
•Standard manufacturing overhead cost
Variance Analysis
•Variance analysis is the process of computing the
differences between standard costs and actual costs
and identifying the causes of those differences.
Variance Analysis
• Variance analysis has four steps:
• Compute the amount of the
variance.
• Determine the cause of any
significant variance.
• Identify performance measures
that will track those activities,
analyze the results of the tracking,
and determine what is needed to
correct the problem.
• Take corrective action.
Direct Material Variances
•Direct Materials Price Variance = (Standard Price –
Actual Price) × Actual Quantity
•Direct Materials Quantity Variance = Standard Price ×
(Standard Quantity Allowed – Actual Quantity)
•Total DM Variance = MPV + MQV
Direct Labor Variances
•Direct Labor Rate Variance = (Standard Rate – Actual
Rate) × Actual Hours
•Direct Labor Efficiency Variance = Standard Rate ×
(Standard Hours Allowed – Actual Hours)
•Total DL Variance = LRV + LEV
Overhead Variances
The total overhead variance is divided into two parts:
• Variable overhead variances
• Fixed overhead variances
Variable Overhead Variances
•VMOH Spending Variance = (Standard Rate × Actual
Hours) – Actual VMOH
•VMOH Efficiency Variance = Standard Rate ×
(Standard Hours Allowed – Actual Hours)
•Total VMOH variance = VMOH spending variance +
VMOH efficiency variance

Note: Actual VMOH is usually given in problems.

Variable Overhead Variances
As you can notice, the computation of VMOH variance is
similar to the computation of DL variance, except that
the rates to be used are the VMOH rates.

Actual VMOH xx Actual time × Actual VMOH rate

Standard VMOH (xx) Standard time × Standard VMOH rate
VMOH variance xx
Fixed Overhead Variances
•FMOH Spending Variance = Budgeted FMOH – Actual
FMOH
•Volume Variance = FMOH applied to products* –
Budgeted FMOH
•Total FMOH variance = FMOH spending variance +
volume variance

Note: Budgeted FMOH and Actual FMOH are usually

given in problems. *Standard FMOH rate × Standard hours allowed
Illustrative Problem
A company produces a single product that has the
following standard costs:
Materials (5 pieces @ Php 4 per piece) 20
Labor (3 hours @ Php 10 per hour) 30
Variable Manufacturing OH (3 hours @ Php 15 per hour) 45
Fixed Manufacturing OH (3 hours @ Php 5 per hour) 15
Total Standard Manufacturing Costs 110
Illustrative Problem
The total budgeted fixed manufacturing overhead is Php
15,000. This is for the budgeted production of 1,000 units
requiring total budgeted time of 3,000 hours.
During the period, the company produced 1,100 units and
incurred the following costs:
Materials (5,600 pieces @ Php 3.80 per piece) 21,280
Labor (3,250 hours @ Php 11 per hour) 35,750
Variable Manufacturing OH (3,250 hours @ Php 14.50 per hour) 47,125
Fixed Manufacturing OH 16,000
Total 120,155
Solution to Illustrative Problem
Total Manufacturing Cost Variance:
Actual manufacturing costs 120,155
Standard manufacturing costs @ 1,100 units 121,000
Total Manufacturing Cost Variance 845 F

Remember to always place F or U beside the amount to

indicate whether the variance is favorable or unfavorable. A
variance is favorable if the actual costs are lower than
standard costs. Otherwise, it is unfavorable.
Solution to Illustrative Problem

For purposes of analysis, we are going to break down the 845-

peso favorable variance.
Solution to Illustrative Problem
Direct Materials Variance

MPV = (4.00 – 3.80) × 5,600 = 1,120 F

MQV = 4.00 × (5,600 – 5,500) = 400 U

Total DM Variance = 1,120 F + 400 U = 720 F

Solution to Illustrative Problem
Direct Labor Variance

LRV = (11.00 – 10.00) × 3,250 = 3,250 U

LEV = 10.00 × (3,250 – 3,300) = 500 F

Total DL Variance = 3,250 U + 500 F = 2,750 U

Solution to Illustrative Problem
Variable Manufacturing Overhead Variance

Spending = (14.50 – 15.00) × 3,250 = 1,625 F

Efficiency = 15.00 × (3,250 – 3,300) = 750 F

Total VMOH Variance = 1,625 F + 750 F = 2,375 F

Solution to Illustrative Problem
Fixed Manufacturing Overhead Variance

Spending = 16,000 – 15,000 = 1,000 U

Volume Variance = 15,000 – 16,500 = 1,500 F

Total FMOH Variance = 1,000 U + 1,500 F = 500 F

Solution to Illustrative Problem
Total Manufacturing Overhead Variance

VMOH variance 2,375 F

FMOH variance 500 F
Total MOH Variance 2,875 F
Solution to Illustrative Problem
Total Manufacturing Cost Variance

DM variance 720 F
DL variance 2,750 U
Total MOH Variance 2,875 F
Total variance 845 F
Causes and Responsibility
Variances
Materials Price Variance (MPV)
Materials Quantity Variance (MQV)
Labor Rate Variance (LRV)
Labor Efficiency Variance (LEV)
Possible Causes Responsible Person
• Quality of materials
• Quantity purchased
• Purchasing Officer
• Delivery time (rush orders, delivery
delays)
• Quality of materials
• Defective machines
• Production Manager
• Unskilled workers
• Poor supervision
• Workers’ skill
• Supervisors
• Overtime premiums (if added to labor
• Persons setting labor rates
cost)
• Workers’ skill
• Change in workers’ efficiency
• Production Manager
• Imposition of control measures in the
production process
Disposition of Variances
• Closed to Cost of goods sold when the variance is not very
significant in amount.
• Used as adjustment to Cost of goods sold* and appropriate
inventory accounts (Materials, Work in process, Finished
goods) when the variance is significant in amount, so that
actual costs are reflected in the financial statements.

*prorated
More to come…

Materials Price, Mix, and Yield variance analysis will be taken

up in your higher accounting subjects. Flexible budgets will
also be taken in your higher accounting subjects.