11-1
Control and
Evaluation of
Cost Centers
Prepared by
Douglas Cloud
Pepperdine University
11-2
Objectives
 Develop standard variable costs for a product.
After reading this
 Calculate direct labor, variable overhead, and
chapter, you should
materials variances.
be able to:
 Discuss the advantages and disadvantages of
approaches to setting standards.
 Describe new approaches to cost control and
management, as described by proponents of
JIT and other continuous improvement
approaches.
11-3
Cost control is important for
companies following a cost
leadership strategy where
total demand for the product
is not growing.
11-4
A standard cost is the
per-unit cost a company
should incur to make a
unit of product.
11-5
A standard cost has two
components: a standard
price, or rate, and a
standard quantity.
11-6
Standard Variable Costs
Cost Factor
Std. Quantity Std. Price
Materials
10.00
$0.80
Direct labor
0.50
16.00
Variable overhead
0.50
6.00
Total standard variable cost
Actual results:
Production
Materials purchased, 11,000 at $0.78.
Materials used
Direct labor, 480 hours at $16.20
Variable overhead incurred
Std. Cost
$8.00
8.00
3.00
$19.00
1,000 units
$8,580
10,200 gallons
$7,776
$3,100
11-7
Labor Variances
Total
standard
Standard
Actual
production x direct labor = direct labor
cost
cost per unit
(units)
1,000
x
$8.00
=
$8,000
11-8
Labor Variances
Actual
input
quantity
x
480 hours
x
Actual rate
for input =
factor
$16.20
Actual
cost of
input
factor
= $7,776
11-9
Labor Variances
Actual
input
quantity
480 hours
Budget
Standard rate allowance for
actual
for input
x
=
quantity of
factor
input factor
x
$16
=
$7,680
11-10
Labor Variances
Standard
input
quantity
1,000 units x
½ hour per
unit = 500
hours
Budget
Standard rate allowance for
actual
for input
x
=
quantity of
factor
output
x
$16
=
$8,000
11-11
Labor Variances
Labor rate variance
$ 96 unfavorable
Labor efficiency variance 320 favorable
Total labor variance
$224 favorable
11-12
Labor Variances
Actual Quantity
at Actual Rates
(Total Actual
Costs)
$7,776
480 x $16.20
Flexible Budget
For Actual
Quantity at
Standard Rate
Flexible Budget for
Standard Quantity
at Standard Rate
(Total Standard
Cost)
$7,680
$8,000
480 x $16.00
1,000 x 1/2 x $16.00
$320 F
$96 U
Rate variance
Efficiency variance
$224 F
Total Variance
11-13
Variable Overhead Variances
Actual Quantity
at Actual Rate
(Total Actual
Cost)
Flexible Budget for
Standard Quantity at
Standard Rate (Total
Standard Cost)
Flexible Budget
for Actual
Quantity at
Standard Rate
480 x $6
$2,880
$3,100
1,000 x 0.50 x $6
$3,000
$120 F
$220 U
Budget variance
$100 U
Total Variance
Efficiency variance
11-14
Variable Overhead Variances
The variable overhead
efficiency variance reflects
the efficient or inefficient
use of the item used as the
cost driver.
11-15
Materials Variances
Actual
Quantity
Purchased at
Actual Price
Actual Quantity
Purchased at
Standard Price
11,000 x $0.78
$8,580
11,000 x $0.80
$8,800
$220 F
Material Price Variance
11-16
Materials Variances
Material
Actual
price = quantity x
variance
purchased
Standard – Actual
price
price
$220 F = 11,000 x ($0.80 – $0.78)
11-17
Materials Variances
Flexible Budget
for Actual
Quantity Used at
Standard Price
Flexible Budget for
Standard Quantity at
Standard Price (Total
Standard Cost)
10,200 x $0.80
$8,160
1,000 x 10 x $0.80
$8,000
$160 U
Material Use Variance
11-18
Materials Variances
Material
Standard
use
x
= price
variance
Standard
quantity for – Actual
quantity
actual
output
$160 U = $0.80 x
(10,000 – 10,200)
11-19
Materials Variances
Material use
variance—is calculated
the same as the labor and
overhead efficiency
variances
Material price variance—differs
from its counterparts in labor and
variable overhead because
materials,unlike labor, can be stored.
Purchases made in one period are not
necessarily used in that period, but the
economic effect of paying more or less
than standard prices for materials
occurs at the time of purchase. So the
material price variance is based on the
quantity of materials purchased, not the
quantity used.
11-20
Standard Costs and ActivityBased Costing Example
• There are two principle variable overhead
cost pools.
• One is driven by machine time, while the
other is driven by the number of machine
setups.
• The two rates are $6.00 per machine hour
and $140 per setup.
Continued
11-21
Standard Costs and ActivityBased Costing Example
• The standard machine hours and number of setups
for 1 batch (1,000 units) is 1,500 hours and 20
setups, respectively.
• Actual machine hours and number of setups for 10
batches (10,000 units) are 14,000 hours and 210
setups, respectively.
• The actual overhead costs driven by machine
hours and number of setups are $85,000 and
$27,500, respectively.
11-22
Standard Costs and ActivityBased Costing Example
Budget for
Actual
Use
Actual
Cost
$85,000
14,000 x $6.00
$84,000
Standard
Cost
10 x 1,500 x $6.00
$90,000
$6,000 F
$1,000 U
Budget variance
Efficiency variance
$5,000 F
Total Variance
Machine-driven
variable
overhead
11-23
Standard Costs and ActivityBased Costing Example
Budget for
Actual
Use
Actual
Cost
Standard
Cost
210 x $140
$29,400
$27,500
10 x 20 x $140
$28,000
$1,400 U
$1,900 F
Budget variance
Efficiency variance
$500 F
Total Variance
Setup-driven
variable
overhead
11-24
Variances and Performance
Evaluation
• Variances signal nonstandard performance
only if they are based on up-to-date
standards that reflect current production
methods and current prices of input factors.
• Many variances are interdependent.
11-25
Setting Standards—Behavioral
Problems
Engineering methods
Managerial estimates
Benchmarking and best
practices
11-26
Setting Standards—Behavioral
Problems
Engineering Methods
Some companies develop standard
quantities for materials and labor by
carefully examining production methods
and determining how much of an input
factor is necessary to obtain a finished unit.
11-27
Setting Standards—Behavioral
Problems
Managerial Estimates
Some companies rely on the judgment of
managers closest to the task to determine
quantities of input needed to produce a
unit of product. Managers who
participate in setting standards are more
likely to commit to meeting them.
11-28
Setting Standards—Behavioral
Problems
Benchmarking
Benchmarking is a relatively recent
development that companies use to determine
whether their operations and costs compare
favorably to those of world-class companies.
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What Standard?
An ideal standard can be attained only
under perfect conditions.
Setting a currently attainable standard
recognizes expectations about efficiency
under normal working conditions.
An historical standard is based on
experience.
11-30
Kaizen Costing and
Target Costing
Kaizen costing stresses continuous
improvement in the production process.
Under kaizen, performance standards are
continually raised (standard costs lowered), so
the objective is to meet targeted reductions,
not standard costs.
11-31
Kaizen Costing and
Target Costing
Value engineering refers to design and re-design
that focuses on customer value. Value
engineering is redesigning products so that they
will cost less. Value engineering is an optimizing
technique where people seek exactly what
features the product needs, how to make it, what
materials to use, and so on.
11-32
Kaizen Costing and
Target Costing
Target costing is pricedriven; market prices
determine cost instead of vice
versa. Companies reduce cost
through systemic analyses of
the features and functions
deemed most important to
customers. Much of target
costing takes place during
product design.
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Chapter 11
The End
11-34