Amity School of Business

Variance Analysis

Module VI
 Standard Costing Amity School of Business

• Standard costing is the establishment of

cost standards for activities and their
periodic analysis to determine the reasons
for any variances. Standard costing is a
tool that helps management in controlling
costs. Standard costing involves the
creation of estimated (i.e., standard) costs
for some or all activities within a company.
 Amity School of Business

• For eg;- at the beginning of a year a

company estimates that material costs
should be Rs.2 per unit. Such standards
are established either by historical trend
analysis of the cost or by an estimation by
any engineer or management scientist.
After a period, say one month, the
company compares the actual cost
incurred per unit, say Rs.2.05 to the
standard cost and determines whether it
has succeeded in controlling cost or not.
 Variance Analysis Amity School of Business

• The comparison of actual costs with

standard costs is called variance analysis
and it is vital for controlling costs and
identifying ways for improving efficiency
and profitability. If actual cost exceeds the
standard costs, it is an unfavorable
variance. On the other hand, if actual cost
is less than the standard cost, it is a
favorable variance.
 Amity School of Business

Variance analysis is usually conducted for

• Direct material costs (price and quantity
variances);
• Direct labor costs (wage rate and
efficiency variances); and
• Overhead costs.
 Need for Standard Amity School of Business

Costing
• Budgeting
• Effective cost control
• Helps in planning and formulating plicies
• Price formulation
• Eliminates wastes
• Valuation of stocks
• Economical and simple
 Standard costing Amity School of Business

vs.
Budgetary control
• Although budgetary control and standard
costing both are based on some common
principles; both are pre-determined,
comparison will be made with the actual
costs and both system need a revision of
the standards or the budget, these two
systems have certain differences which
are as follows:
 Amity School of Business

• Budgetary control deals with the operation

of a department or the business as a
whole in terms of revenue and
expenditure. Standard costing is a system
of costing which makes a comparison
between standard costs of each product or
service with its actual cost.
 Amity School of Business

• Budgetary control covers as a whole in

terms of revenue and expenditures such
as purchases, sales, production, finance
etc. Standard costing is related to a
product and its cost only.
• Budgetary control is applicable to utmost
all business organizations. Standard
costing is applicable to manufacturing
concerns producing standard products and
services.
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• Budgetary control is concerned with a

specific period and is based on the totals
of amounts. Standard costing is concerned
with the standard costs, which are worked
out generally per unit of production.
• Budgetary control is not based on
standard costing system. Standard costing
cannot exist in the absence of a budgetary
control system.
 Material Variance Amity School of Business

• Material Cost Variance = ( SQ X SP)- (AQ

X AP)
• Material Price Variance = (SP –AP) X AQ
• Material Usage Variance = (SQ – AQ) X
SP
• Material Mix Variance = (RSQ – AQ) X SP
 Labour Variance Amity School of Business

• Labour Cost Variance = ( SR X SH)- (AR

X AR)
• Labour Rate Variance = ( SR – AR) X AH
• Labour Efficiency Variance = ( SH-AH) X
SR
• Where SR = Standard Rate
• AR = Actual Rate
• SH = Standard Hour
• AH = Actual Hour