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Setting Standards:

Calculation of a standard cost is based on physical standards, two types of which are often discussed, a basic standard and current standards.

A basic standard is a yardstick against which both expected and actual performances are compared. It is similar to an index number against which all later results are measured.

Current standards are of three types:

  1. The expected actual standard is a standard set for an expected level of operation and efficiency. It is a reasonably close estimate of actual results.

  2. The normal standard is a standard set for a normal level of operation and efficiency, intended to represent challenging yet attainable results.

  3. The theoretical standard is a standard set for an ideal or maximum level of operation and efficiency. Such standards constitute goals to be aimed for rather than performances that can be currently achieved.

Materials and labor costs are generally based on normal, current conditions, allowing for alterations of prices and rates and tempered by the desired efficiency level. Factory overhead is based on normal conditions of efficiency and volume.

Standards must be established for a definite period of time to be effective in the control and analysis of costs. Standards are usually computed for a six or twelve-month period, although a longer period is sometimes used.

The success of a standard costing system depends on the reliability, accuracy and acceptance of the standards. Extreme care must be taken to be sure that all factors are considered in establishment of standards. In certain cases, a sampling of averages derived from the records of previous periods are used as standards. However, the most effective standards are set by the industrial engineering department on the basis of careful studies of products and operations, using appropriate sampling techniques and including participation by those individuals whose performance is to be measured by the standards.

Standards must be set, and the system implemented, in an atmosphere that gives full consideration to behavior characteristics of managers and workers. In the long run, workers and plant management will tend to react negatively if they feel threatened by imposed standards. If they participate in setting standards, they can more readily identify with the standard costing procedure and the standards could become their personal goals.

Standards which are too loose or too tight will generally have a negative impact on worker motivation. If standards are too loose, workers will tend to set their goals at this low rate, thus reducing productivity below what is obtainable. If the standard is too tight, workers realize the impossibility of attaining the standard, become frustrated, and will not attempt to meet the standard. A reasonable standard which can be attained under normal working conditions is likely to contribute to the worker's motivation to achieve the designated level of activity or productivity.

Once standards are set, it is important to provide the proper standard cost cards, on which the itemized cost of each materials part, labor operation, and overhead cost is shown. A master standard cost card gives the standard unit cost of a product. The master standard cost card is supported by individual cards that indicate how the standard cost was compiled and computed. Each subcost card represents a form of standard cost card.

Relevant Articles:

Definition and Explanation of Standard Cost
Purposes and Advantages of Standard Costing System
Setting Standards
Materials Price Standard
Materials Price Variance
Materials Quantity Standard
Materials Quantity Variance
Direct Labor Rate Standard
Direct Labor Rate Variance
Direct Labor Efficiency Standard
Direct Labor Efficiency Variance
Factory Overhead Cost Standards
Overall or Net Factory Overhead Variance
Overhead Controllable Variance
Overhead Volume Variance
Overhead Spending Variance
Overhead Idle Capacity Variance
Overhead Efficiency Variance
Variable Overhead Efficiency Variance

Fixed Overhead Efficiency Variance

Mix and Yield Variance
Variance Analysis Example
Standard Costing and Variance Analysis Formulas
Management by Exception and Variance Analysis
International Uses of Standard Costing System
Advantages, Disadvantages, and Limitations of Standard Costing




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