Edexcel A-Level Accounting: Standard costing (YAC11) – Revision Notes

These notes condense topic 2.5, Standard costing, of the Pearson Edexcel International Advanced Subsidiary/Advanced Level in Accounting (XAC11/YAC11) specification, Issue 2, September 2018: outcomes 2.5.1 to 2.5.6. It is examined in Unit 2, Corporate and Management Accounting: Unit 2 (A2) only. The standard costing study guide explains each idea in full with longer examples. Every company and figure below is made up; money is in dollars.

Useful pages: the course page, the YAC11 checklist to print, the standard costing practice set and the free diagnostics. Related: budgeting notes for flexible budgets, and introduction to costing for overhead absorption.

Key terms

Term	Meaning
Standard cost	Planned cost of one unit, built from a standard quantity and a standard price for each element
Standard cost card	The record of quantity, price and cost for each element of one unit
Variance	Difference between standard cost of actual output and actual cost
Favourable (F)	Actual cost below standard: profit higher than planned
Adverse (A)	Actual cost above standard: profit lower than planned
Ideal standard	Assumes perfect conditions; no waste or idle time
Attainable standard	Allows normal waste and idle time; demanding but achievable
Basic standard	Kept unchanged for a long period to show trends
Management by exception	Managers investigate only significant variances

Purpose of standard costing (2.5.1)

Six points to have ready:

1. Planning: unit standards make budgets quick to prepare at any output.
2. Control: actual cost is compared with what the actual output should have cost.
3. Responsibility: each variance is traced to a manager (purchasing, production, personnel).
4. Pricing and quotations from a reliable unit cost.
5. Inventory can be valued at standard cost.
6. Motivation through clear targets, and time saved through management by exception.

Stages in setting up the system (2.5.2)

1. Choose the type of standard (ideal, attainable or basic).
2. Set standard quantities: material per unit, labour hours per unit.
3. Set standard prices: material price per kg, wage rate per hour.
4. Set standard overhead absorption rates from budgeted overheads and budgeted activity.
5. Prepare a standard cost card for each product.
6. Collect actual data from the accounting records (table below).
7. Calculate variances and report them to the responsible manager.
8. Investigate significant variances, act, and review standards.

Actual figure needed	Where it comes from
Material price	Purchase invoices
Material quantity used	Stores requisitions, inventory records
Hours worked	Clock cards, time sheets, job cards
Wage cost	Payroll records
Overheads	Expense accounts in the ledger
Output	Production reports

Variance formulas (2.5.3)

Variance	Formula
Material price	(SP - AP) x AQ
Material usage	(SQ - AQ) x SP
Material total	(SQ x SP) - actual material cost
Labour rate	(SR - AR) x AH
Labour efficiency	(SH - AH) x SR
Labour total	(SH x SR) - actual labour cost
Total variable overhead	standard variable overhead for actual output - actual variable overhead
Total fixed overhead	actual output x standard fixed overhead per unit - actual fixed overhead

Letters: SP and AP are standard and actual price; SQ and AQ standard and actual quantity; SR and AR the hourly rates; SH and AH the hours. SQ and SH are always for actual output. Positive = F, negative = A.

Method in steps: a full variance question

1. Write down actual output.
2. Find SQ = actual output x standard kg per unit, and SH = actual output x standard hours per unit.
3. Find AP = actual material cost / AQ and AR = actual wages / AH.
4. Work out price, usage, rate and efficiency variances; label each F or A.
5. Find each total directly, then check sub-variances add to it.
6. Work out the two overhead totals. Fixed overhead absorbed = actual output x standard fixed overhead per unit.
7. Check: standard cost of actual output - actual total cost = net of all variances.

Small worked reminder: Kelsall Brushes Ltd

Standard per brush: 0.2 kg of bristle at 30 per kg; 0.1 hours at 18 per hour. Output 10,000 brushes. Actual: 2,080 kg costing 60,320; 980 hours costing 18,130.

SQ = 2,000 kg     AP = 60,320 / 2,080 = 29.00
SH = 1,000 hrs    AR = 18,130 / 980   = 18.50

Material price       (30 - 29) x 2,080       = 2,080 F
Material usage       (2,000 - 2,080) x 30    = 2,400 A
Material total       60,000 - 60,320         =   320 A

Labour rate          (18 - 18.50) x 980      =   490 A
Labour efficiency    (1,000 - 980) x 18      =   360 F
Labour total         18,000 - 18,130         =   130 A

Reading it: cheaper bristle (price F) may explain extra waste (usage A). Note that the favourable price variance is smaller than the waste it may have caused.

Fixed overhead: one point to get right

In standard costing, fixed overhead is absorbed on standard hours for actual output (or actual units x standard fixed overhead per unit). The total fixed overhead variance is the under- or over-absorption. It has two possible causes:

• spending different from the budgeted fixed overhead
• output different from budgeted output (a volume effect)

Only the total is required by the specification, but naming both causes improves an explanation.

Reasons for variances (2.5.4): one-line prompts

• Material price F: discount, new supplier, cheaper grade. A: price rise, lost discount, rush order.
• Material usage F: better material, skilled staff, new machines. A: poor material, waste, theft, old machines.
• Labour rate F: lower-grade staff, less overtime. A: pay award, overtime premium, higher-grade staff.
• Labour efficiency F: skilled, motivated staff, good material. A: trainees, breakdowns, idle time, poor material.
• Variable overhead A: higher power or consumables prices, extra hours worked.
• Fixed overhead A: spending over budget, or output below budget.

Always match the reason to the direction (F or A) and, if the question gives a scenario, to the scenario.

Interrelationships (2.5.5)

Cause	Variances it can create
Cheaper, lower-grade material	Price F, usage A, labour efficiency A
Higher-grade material	Price A, usage F, labour efficiency F
More skilled, higher-paid staff	Rate A, efficiency F, usage F
Less skilled, lower-paid staff	Rate F, efficiency A, usage A
Extra hours worked (variable overhead on labour hours)	Efficiency A and variable overhead A

The point to make: one manager’s favourable variance may cause another manager’s adverse variance, so do not reward or blame on one variance alone.

Management by exception (2.5.6)

• Set a tolerance: a percentage of standard cost, a money amount, or both.
• Investigate variances outside the tolerance, favourable as well as adverse.
• Watch trends: a small variance growing each month deserves attention.
• Benefit: saves management time and focuses effort.
• Limitation: small variances can hide problems, offsetting variances can hide each other, and the limit is a judgement.

Must-know distinctions

• Price vs usage: the price difference is multiplied by AQ; the quantity difference is valued at SP.
• Rate vs efficiency: the rate difference is multiplied by AH; the hours difference is valued at SR.
• Standard for actual output vs budget: variances compare with what actual output should cost, not the original budget.
• Absorbed vs actual hours: under standard costing, fixed overhead is absorbed on standard hours for actual output.
• Favourable vs good: a favourable variance can signal a problem elsewhere or a slack standard.

Quick self-test

1. What does an adverse variance mean for profit?
2. Standard: 4 kg at 5 per kg. Output 500 units. Actual 2,100 kg costing 10,080. Find the price, usage and total material variances.
3. SH 900, AH 870, standard rate 20, actual rate 21. Find the rate, efficiency and total labour variances.
4. Standard fixed overhead 9 per unit; output 2,400 units; actual fixed overhead 22,500. Find the total fixed overhead variance.
5. Standard variable overhead 1.50 per unit; output 6,000; actual variable overhead 8,700. Find the total variable overhead variance.
6. Which type of standard allows for normal waste and idle time?
7. Name two accounting records used to collect actual labour data.
8. A price variance of 600 A arose on 3,000 kg bought at 4.20 per kg. What was the standard price?
9. Which variance is likely to move with an adverse labour efficiency variance when variable overhead is absorbed on labour hours?
10. State the principle of management by exception.
11. Can a total variance of zero still need investigating? Explain briefly.

Answers

1. Actual cost exceeded standard, so profit is lower than planned.
2. AP = 4.80; SQ = 2,000 kg. Price (5 - 4.80) x 2,100 = 420 F; usage (2,000 - 2,100) x 5 = 500 A; total 10,000 - 10,080 = 80 A.
3. Rate (20 - 21) x 870 = 870 A; efficiency (900 - 870) x 20 = 600 F; total 18,000 - 18,270 = 270 A.
4. Absorbed 2,400 x 9 = 21,600; 21,600 - 22,500 = 900 A.
5. 6,000 x 1.50 = 9,000; 9,000 - 8,700 = 300 F.
6. Attainable standard.
7. Any two: clock cards, time sheets, job cards, payroll records.
8. 600 / 3,000 = 0.20 per kg above standard, so standard price = 4.20 - 0.20 = 4.00.
9. The total variable overhead variance (adverse).
10. Managers concentrate on significant variances, outside a set tolerance, and ignore small ones.
11. Yes. Large favourable and adverse sub-variances can cancel, for example cheap material (price F) causing waste (usage A).

Where marks are usually lost

• Basing SQ or SH on budgeted output instead of actual output.
• Multiplying the price variance by standard quantity instead of actual quantity.
• Valuing the efficiency variance at the actual rate.
• Absorbing fixed overhead on actual hours, as in non-standard absorption costing.
• Missing F or A labels, or reversing them.
• Sub-variances that do not add to the total, left unchecked.
• Listing reasons that contradict the direction of the variance.
• Discussing a variance in isolation when the scenario shows a linked cause.

Official syllabus

Pearson Edexcel International Advanced Subsidiary/Advanced Level in Accounting (XAC11/YAC11) specification, Issue 2, September 2018 (first teaching September 2015), Pearson Education Limited. Unit 2: Corporate and Management Accounting, topic 2.5 Standard costing.