28 Jul 2022


Standard Costs and Variance Analysis

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Academic level: Master’s

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As the business firms embark on production, the stakeholders have to plan the cost of offering the services sufficiently. Therefore, firms have to come up with a standard cost and cumulatively a budget, which they can use to track the amount of cash needed. Additionally, this initial analysis is necessary for realizing any extra costs incurred that stakeholders did not anticipate. The standard costs define the estimated costs of a single item or service needed in the entire production process. The standard fee is based on the current prevailing prices of the items in the market. Although most people may confuse the standard costs with the budget, the two terms are quite different. The budget indicates the totality of the standard costs. It is the total amount of money required to make the entire purchase, while standard costs define a single item.

In many cases, the businesses spend different amounts of money on the production costs, hence creating a deviation in the anticipated production costs. Therefore, the actual cost of the items may be either higher or lower. In such instances, there is said to have been a variance in the standard price. In cases where the actual cost is lower than the typical cost, the variance is favorable. On the other hand, if the actual cost becomes higher than anticipated, then the variance is unfavorable. The variations may be caused by sudden changes in the prices of items or other indirect factors.

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The standard cost variances may be indifferent factors of production. These include materials and labor. Additionally, the materials may differ in prices or the number of materials used with output. The material price variance shows the difference between the actual price per unit of the materials (AP) and the standard price per unit of the materials (SP) times the exact quantity of material purchased (AQ P ) (Jiambalvo, 2016). The material quantity variance equals the difference between the actual quantity of material used (AQ U ) and the standard quantity of material (SQ) used times the average price of the material (SP). The direct labor variances are divided into two. Labour rate variance indicates the variation between the actual wage rate (AR) and the standard wage rate (SR) times the exact number of hours worked (AH). On the other hand, labor efficiency variance is the difference between the actual number of hours worked (AH) and the standard labor hours for the number of units (SH) produced times the standard labor wage rate (SR).

Problem 11-1 Material Variances 

Material Price Variance (MPV) = (AP−SP) AQP

But Actual Price (AP) = 290,700÷19,000

= 15.3

Therefore; MPV = (15.3−15) 19,000

= 5,700 (unfavourable) 

Material Quantity Variance (MQV) = (AQ U −SQ) SP

But , Actual Quantity Used (AQ U ) = 325,000÷16,800


Therefore; MQV = (19.35−75)15

= 834.75 (unfavourable) 

The material price variance is unfavorable from the above calculations since the actual price per unit is higher than the anticipated standard price. However, the conflict is insignificant, hence does not need investigation. This price variation may be brought up by factors like sudden and unforeseen price changes. On the other hand, the material quantity variance is significant and calls for an investigation. Therefore, the company needs to act and understand what could have caused the extensive margin in the variance.

Decentralization and Performance Evaluation 

Decentralization is essential in many corporations. It has several significant benefits for the growth of the organization. This strategy adopts incorporating subunit managers in reviews and decision-making about the organization (Jiambalvo, 2016). Among the advantages of decentralization is the fast decision-making process. If given the authority to make decisions concerning their departments, a subunit manager would make bad decisions faster than it takes to consult the top manager. For the top officials to decide, they need the subunit manager to submit the facts about their departments. It follows an explanation and extra time for top management to understand the information and make up their minds. On the other side, the subunit manager has original data, making it easier for them to make faster and perfect decisions. Quick decisions are significant to react to changing circumstances, whose impact on the organization could be substantial.

Again, the subunit managers have a better understanding of their departments. Therefore, they can make better and informed decisions than the top officials. This strategy would be more advantageous if the top officials allow the subunit managers to make decisions, especially those that need perfect departments' knowledge. Such information includes the overall strategies adopted by competitors in the market, the prevailing prices, and other current situations in the market. Also, a chance for the subunit managers to make decisions motivates them to work more efficiently and responsibly. Besides, managers with the freedom to make such decisions would work harder and submit more output than those who receive orders and already made decisions from the top management. Another advantage of decentralization is that it is an excellent opportunity to train future top managers.

However, decentralization may bring out some disadvantages. The strategy may promote duplication of costly activities in the organization. Such may include double marketing departments or purchase departments in every subunit. However, these departments could be set up from central control and bring out economic advantage. Also, the subunits' managers may pursue personal interests other than the organization's priorities. This could include the selfish interest of managers to lead extensive operations, which would be unnecessary and unprofitable. Precisely, the decentralization would need to be regulated to ensure the maximum profitability of the organization.

PROBLEM 12-1. Cost Centers and Performance Measures 

The evaluation of subunit managers is to assess whether they are performing as expected. Also, the technique is essential to trigger certain behaviors. For instance, if the top management evaluates how the manager relates to the clients, in the future, the manager may work harder to ensuring a better relationship with them. It is also necessary in determining whether the subunit is growing and whether it needs to be expanded or a backup is necessary. Cost center subunits are obliged to control the organization's costs, but they do not work on raising the revenues (Jiambalvo, 2016). These departments include the photocopying and computer maintenance departments. They are responsible for ensuring that the cost of their services is the minimal point. The profit center is responsible for generating more revenues and minimizing the costs for the organizations. The profitability of the firm can measure the performance of this subunit. For instance, the marketing department works on optimal sales volume, holding minimal costs. Finally, investment centers deal with minimizing the costs, increasing the revenues, and reinvesting assets. Therefore a subunit maybe a profit or investment center depending on the roles they play.

The budget and analysis of variance in costs are critical in controlling the costs in the cost centers. Cost control subunits use the standard budgeted charges and compare them with the actual costs to minimize the net price. The comparison is critical to assess whether the variance is manageable. When the difference in prices is significant, an investigation is done to see whether the error is controllable or find other possible means. There are four non-financial measures that managers can use to assess their performance and compare the organization's growth. This approach is called the balanced scored measure that focuses on aspects like learning the growth dimension, internal process dimension, customer care, and the financial dimension (Jiambalvo, 2016). Learning and growth assess whether the company is improving on its innovations or not. Customer care answers whether clients are satisfied by the company’s operations, the financial dimensions investigate whether the firm is achieving its financial targets. Finally, the internal processes study whether the organization is observing the internal processes.


Jiambalvo, J. (2016). Managerial accounting . Wiley.

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