Standard Costing & Variance Analysis: Techniques, Variances & Control

Key Concepts & Definitions

1. Standard Costing: The Foundation

Standard costing is a cost control technique where predetermined (standard) costs are set for materials, labor, and overheads, and actual costs are compared against these standards to identify variances—deviations that signal inefficiencies or opportunities.

Why use standards?

• Provide a benchmark for performance.
• Simplify budgeting and decision-making.
• Highlight areas needing improvement.

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2. Setting Standard Costs

Standards are not arbitrary; they are derived from:

• Engineering standards (technical specifications).
• Historical data (past performance).
• Industry benchmarks (competitor analysis).

Example for a Kathmandu Retail Shop (NPR):

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Variance Analysis: The Control Tool

Variances are calculated as: Variance = Actual Cost – Standard Cost

• Favorable (F): Actual < Standard (cost saved).
• Unfavorable (U): Actual > Standard (cost overrun).

Types of Variances

1. Material Variances

Example (Kathmandu Fabric Shop):

• Standard: 2m fabric per shirt (NPR 250/m).
• Actual: 2.2m used, bought at NPR 270/m.

MPV = (270 – 250) × 2.2 = **NPR 44 F (unfavorable)**
MUV = (2.2 – 2.0) × 250 = **NPR 50 U (unfavorable)**

2. Labor Variances

Example (Daraz Warehouse Packing):

• Standard: 10 shirts/hour (NPR 200/hr).
• Actual: 8 shirts/hour, paid NPR 220/hr.

LRV = (220 – 200) × 8 = **NPR 160 U**
LEV = (8 – 10) × 200 = **NPR 400 F (more efficient!)**

3. Overhead Variances

Example (NTC Call Center):

• Standard: 50 calls/hour, NPR 500 overhead.
• Actual: 40 calls/hour, NPR 550 overhead.

VOEV = (40 – 50) × 10 = **NPR 100 F (better efficiency)**
FOVV = (40 – 50) × 10 = **NPR 100 U (underutilized capacity)**

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The Accounting Cycle with Standard Costing

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In the Real World

1. Khalti & eSewa (Digital Payments)

   • Standard Costing for Transaction Fees: Khalti sets a standard processing cost per transaction (e.g., NPR 5). If actual costs rise due to fraud (e.g., NPR 7), the price variance helps identify fraudulent transactions needing stricter checks.

2. Daraz (E-Commerce Logistics)

   • Labor Efficiency Variance in Warehouses: Daraz tracks standard packing time per order (e.g., 3 minutes). If workers take 4 minutes due to poor training, the labor efficiency variance triggers retraining programs.

3. Nepal Rastra Bank (NRB) Loan Processing

   • Overhead Volume Variance for Loan Approvals: NRB budgets standard processing time per loan (e.g., 2 hours). If actual time increases to 3 hours due to understaffing, the fixed overhead variance signals the need for more employees.

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Worked Example: Kathmandu Retail Shop

Scenario: A shop in Thamel makes handmade Nepali topi (caps). Standards:

• Material (wool): 500g @ NPR 400/kg → NPR 200 per topi.
• Labor: 1 hour @ NPR 180/hr → NPR 180 per topi.
• Overhead: 20% of labor → NPR 36 per topi.

Actuals for 100 topi:

• Material used: 55 kg (550g per topi).
• Material cost: NPR 24,000 (NPR 435/kg).
• Labor hours: 120 hours.
• Labor cost: NPR 22,000 (NPR 183/hr).
• Overhead: NPR 5,000.

Calculations:

Total Unfavorable Variance = NPR 8,605 Root Causes:

• Wool price hike (MPV).
• Workers took longer due to poor cutting tools (LEV).
• Extra overtime (LRV).

Corrective Actions:

1. Negotiate bulk wool discounts.
2. Train workers on faster cutting techniques.
3. Limit overtime to standard hours.

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Advantages & Disadvantages of Standard Costing

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Exam Tip

1. Always show calculations step-by-step—examiners reward clear workings.
2. Label variances as F/U—partial credit is lost if you omit this.
3. Link variances to real causes (e.g., "MPV due to inflation").
4. Compare with past years’ questions—TU/PU often test material and labor variances together.
5. For numericals:
   • Use realistic Nepali examples (e.g., Daraz, NTC, banks).
   • Round to nearest NPR unless instructed otherwise.
6. Short-answer tips:
   • Standard Costing = "Predetermined cost for performance evaluation."
   • Variance = "Difference between actual and standard cost."
   • Favorable Variance = "Cost saved."

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Final Checklist Before Submission

✔ Did I define standard costing and variances? ✔ Did I calculate all 4 key variances (MPV, MUV, LRV, LEV)? ✔ Did I link to a real Nepali business (e.g., Kathmandu shop, Daraz)? ✔ Did I show a t-account or table for clarity? ✔ Did I explain corrective actions for unfavorable variances?