Standard Costing

and Variance Analysis

Learning Objectives
• Discuss and apply standard costing principles
• Calculate and analyse direct cost
spending/rate/price variances
• Calculate and analyse direct cost
usage/efficiency/quantity variances
• Calculate and analyse indirect cost variances
• Calculate and analyse revenue variances
 Introduction
• Standard cost – the planned unit. cost of the
product, component or service produced in a
period.
• Standard costs are used for planning and control
• Standard costs are most appropriate for entities that
perform repetitive operations.
• There are ideal, attainable and current standards
which can be set at different levels using several
bases.
• The budgeting process produces variances when we
compare actual results to a flexed budget.
Variance Analysis
• A flexible budget can be used to identify the
costs that should have been incurred for the
actual level of activity.
• Flexible budget is tailored after the fact to
actual production levels.
• Flexible budget variance =
Actual costs – Flexible budget cost

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 Variance Analysis
• Flexible budget variance
= Actual costs – Flexible budget cost
• Dichotomizing flexible budget variance
Total flexible budget variance =
Price variance + Usage/Quantity/Efficiency variance
= (AP – SP)AQ + (AQ – SQ)SP
= (AP x AQ) – (SP x AQ) + (SP x AQ) – (SQ x SP)
= (AP x AQ) – (SP x SQ)
Total flexible budget variance expressed in different ways and is
further broken down within Material, Labour and Overheads (variable
and fixed) cost categories.
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Variance Analysis
• Variance analysis
▪ Identifies the general causes for the total
flexible budget variance by breaking it down
into separate price and quantity variances for
each production resource
▪ 2 possible reasons why actual cost may differ
from flexible budget cost for a given amount of
output produced:
– Difference between actual price and standard price
– Difference between actual quantity and standard quantity

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Variance Analysis
• Unfavorable and favorable variances
▪ Unfavorable variances occur whenever the
actual prices or usage of inputs are greater
than standard prices or usages (variances are +
ve) AP > SP, AQ > SQ

▪ Favorable variances occur whenever the actual

prices or usage of inputs are less than standard
prices or usages (variances are – ve)
AP < SP, AQ < SQ

▪ Favorable and unfavorable variances are not

equivalent to good or bad variances. Must
investigate underlying reasons for variances. 7
Variance Analysis
• Why separate total variances into price and
quantity variances?
▪ Separate variances that are subjected to a
manager’s direct influence from those that are
not
• Excessive focus on variances can lead to
dysfunctional behavior
• Decision to investigate
▪ Rarely will actual performance exactly meet
established standards
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Variance Analysis
▪ Management should develop an acceptable range
of performance.
– When variances are within this range, they are
assumed to be caused by random factors.
– When variances are outside this range, they are
assumed to be caused by nonrandom factors and
these variances should be investigated.
✓ Controllable: Corrective actions/Affirmative actions
✓ Uncontrollable: Revise standards

▪ Management should also consider costs and

benefits of investigating variances.
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Variance Analysis: DM

Actual Quantity of Actual Quantity of Standard Quantity of

Input at Actual Price Input at Standard Price Input at Standard Price
AQ x AP AQ x SP SQ x SP

Price Usage
Variance Variance
AQ x (AP - SP) SP x (AQ - SQ)

Budget
Variance
(AQ x AP) - (SQ x SP)

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Variance Analysis: DM
• Possible causes for DM Price Variance
▪ Inaccurate or outdated price standards
▪ Quality of DM
▪ Quantity discounts
▪ Market price fluctuations
• Possible causes for DM Usage Variance
▪ Inaccurate or outdated usage standards
▪ Quality of DM
▪ Level of scrap, waste or rework
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Variance Analysis: DL

Actual Hours of Actual Hours of Standard Hours of

Input at Actual Rate Input at Standard Rate Input at Standard Rate
AH x AR AH x SR SH x SR

Labor Rate Labor Efficiency

Variance Variance
AH x (AR - SR) SR x (AH - SH)

Budget
Variance
(AH x AR) - (SH x SR)

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Variance Analysis: DL
• Possible causes for DL Rate Variance
▪ Inaccurate or outdated labor rate standards
▪ Increase or decrease in the pay of workers
▪ Use of highly or lowly skilled workers in the
production
• Possible causes for DL Efficiency Variance
▪ Inaccurate or outdated quantity standards
▪ Training of employees
▪ Quality of machinery
▪ Quality of materials
▪ Level of supervision 13
Variance Analysis: VMOH

Actual Hours of Input x Actual Hours of Input x Std Hours of Input x

Actual Variable OH Rate Std Variable OH Rate Std Variable OH Rate
AH x AVOH rate AH x SVOH rate SH x SVOH rate

Spending Efficiency
Variance Variance
AH x (AVOR – SVOR) SVOR x (AH - SH)

Total Variance
(AVOR x AH) – (SVOR x SH)

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 Variance Analysis: VMOH
• Possible causes for VMOH Spending Variance
▪ Inaccurate or outdated VMOH rate standards
▪ Changes in the price of the variable overhead items
Efficiency in the use (in terms of quantity) of the
variable overhead items
• Possible causes for VMOH Efficiency Variance
▪ Inaccurate or outdated quantity standards for allocation
base
▪ Efficiency in the use of the cost allocation base
– If the cost allocation base is direct labor hours, the reasons for direct labor
efficiency variance will be the reason for VMOH efficiency variance

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 Variance Analysis: FMOH
Impt: Note that budgeted hours is used instead of actual hours because FMOH
does not vary with the number of units
Applied Fixed OH
Actual Fixed OH Budgeted Fixed OH
SH x SFOR for
AH x AFOR rate BH x SFOR
actual work done

Spending Variance Volume Variance

Total Variance

[Note: Variance formulas for DM, DL and VMOH are not applicable for computing spending
variance and volume variance of FMOH] 16
 Variance Analysis: FMOH
• Spending variance = Actual FMOH cost – Static FMOH
budget
[Note: Spending variance = Flexible budget variance = Static budget variance]

• Volume variance = Static FMOH budget – “Flexible” FMOH

budget
• Volume variance = Static FMOH budget x % change in
number of units sold
• In fact, the volume variance is just (negative of) Static
FMOH budget x % change in number of units sold

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Variance Analysis: FMOH
• Possible causes for FMOH Spending Variance
▪ Inaccurate or outdated budgets for FMOH
▪ Changes in the price and quantity of the FMOH
items
▪ Note: Many FMOH items are not subject to
change in the short run, consequently fixed
overhead costs are often beyond the
immediate control of management
• Cause for FMOH Volume Variance
▪ Changes in the level of output
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Variance Analysis: TR

Actual Price x Budgeted Price x Budgeted Price x

Actual Volume Actual Volume Budgeted Volume
AP x AQ BP x AQ BP x BQ

Sales Price Sales Volume

Variance Variance
AQ x (AP - BP) BP x (AQ - BQ)

Revenue
Variance
(AP x AQ) - (BP x BQ)

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Variance Analysis: TR

Flexible budget variance

= Actual revenue – Flexible budget revenue
Example

FAS budget 2001 ticket sales at $70,000 per home game, which represent the sale
of an estimated 10,000 tickets at a selling price of $7. In July’s first game, actual
gate ticket revenue was $66,000, creating a total unfavorable revenue variance of
$4,000. The actual sales consisted of 12,000 tickets at $5.50.

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Variance Analysis: TR

Actual Price x Budgeted Price x Budgeted Price x

Actual Volume Actual Volume Budgeted Volume
12,000 x 5.50 7 x 12,000 7 x 10,000

Sales Price Sales Volume

Variance Variance
12,000 x (5.50 - 7) 7 x (12,000 – 10,000)
18,000U 14,000F

Revenue
Variance
(66,000) - (70,000)
4,000U

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Variance Analysis: TR
• Possible causes for TR Price Variance
▪ Inaccurate or outdated price standards
▪ Changes in the market price of the product
• Possible causes for TR Volume Variance
▪ Inaccurate or outdated quantity standards
▪ Changes in the level of demand for the product
• Note: For TR variance only, variance favorable if
AP > SP, AQ > SQ
(In contrast with cost variances)

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