To effectively control the costs of a certain organization, we need a yard stick to measure the actual performance against. Traditionally, most organizations are known to use the previous period costs as the yardstick. But due to the fast changing business environment of the world businesses operate in today, managers always find that the previous period’s performance is not an appropriate yard stick to measure the next and future periods’ performance against. This is why most organizations develop standard costs.
Standard cost is therefore a yardstick that measures how well the organization has achieved its set objectives. This simple definition standard cost shows that a standard cost is developed simply for performance evaluation and cost control purposes. A standard cost has therefore to be developed in advance before the actual performance to be measured begins; for this reason, a standard cost is a predetermined costs based on certain assumptions, the reader has to appreciate the fact that a standard costs is a mere estimate of expected costs under certain conditions.
From the above discussion, a standard costs clearly comes out as a cost set before the actual cots are actually incurred. Some scholars therefore refer to it as the “ cost level that should be” under attainable, acceptable performanceconditions. Others refer to standard costs as carefully predetermined costs of production used as a basis for measurement and comparison.
Standard costs establish the minimum desirable costs
When actual costs incurred exceed or are below the standard costs, we then investigate the variances with an objective to take appropriate corrective measures.
Standard costing, on the other hand, is defined as the process of establishing predetermined estimates of the costs of products and services and comparingthis with the actual cost when they are incurred. Thus, it is an exercise that determines the expected cost levels under certain conditions (standard costs), then applies the standard costs to the actual performance (performance analysis) so as to determine the difference (variance). This difference can be good (favourable) or bad (unfavourable) depending on whether it is more or less than the standard; it is the basis of taking corrective action. (Control).
The variance needs to be further analyzed to determine how it came about. This is referred to as variance analysis and it is important because it pinpoints the exact causes of favourable (F) or unfavourable (U) deviation. Such causes can be corrected so as to achieve the desired performance.
Process of Setting Standards
Establishing correct a standard is very important because of the accuracy of the standards usually determines the success of the standard cost system. As we will see later, the standard cost system has very serious behavioral implications for the staff whose performance will be measured against the standards. It the staff feels that the standards are too high, (unachievable), they will be frustrated and will be greatly demotivated.
Also if a disciplinary action is taken on an employee who fails to achieve the standards, but the employee feel that it is unfair as the standard was inaccurate, this will bring about resentment, sabotage and demotivation to the employees. On the other hand, if the standards are too low, they will be easily achieved by employees and they will not be challenged to work hard.
In determining standard cost, each cost should be carefully analyzed to ensure all factors affecting the cost level (in the period the cots are to be used) have been considered. In addition, managers in charge of the departments responsible for meeting the standards should approve the bases for the standards.
For the standard setting process and standards implementation to be successful, the employees responsible for meeting the standards should have the opportunity to participate in the Standard Setting Process. They are the best positioned in pinpointing inaccuracies in the set standards. It is easier to enforce standards once their acceptance is solicitated through participation in the setting process.
The manager overseeing the setting of standards should also have an honest desire to set achievable targets, and also to assist their lower managers and employees achieve them.
Also, standards should only be set after there has been interaction between all the individuals involved.
Last, and very important, the top management must fully support the standard costing process from Standards Setting to standards implementation. This support gives the standards the enforcement they need to be effected in the whole organization.
A standard cost is a predetermined calculation of how much is expected to be incurred under certain specified working conditions.
It is not an average of past costs since these may contain mistakes of past inefficiencies and may not incorporate changes in the business’s operating environment e.g. technological changes.
Standard costs are developed from a scientific study of the various production cost elements involved in producing a certain god or service. (These are usually specified in a product’s technical specifications). To develop these costs, one needs to have a good idea or reliable estimate of the materials, labour and other cost levels that will apply during a specified period.
Standard costs give a basis of cost control through variance analysis. It is one of the leases. It is also the basis ofbudgeting. Standard costs are also applied in setting prices, valuing closing stocks and performance evaluation.
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