Discuss standard costing. As part of your discussion, define a standard cost. In addition, compare and contrast standard costs and predetermined overhead costs. Include in your discussion at least three reasons why standard costs are introduced into a standard cost accounting system. How is a standard cost accounting system useful to management?

Answer 1

Standard costs are predetermined realistic costs for direct materials, direct labor, and overhead that are usually expressed as costs per unit of finished product. Standard costs and predetermined overhead costs share two important characteristics: both forecast the dollar amounts to be used in product costing, and both depend on projected costs for budgeted items. However, unlike the predetermined overhead rate, standard costing focuses on total unit cost, which includes all three manufacturing cost elements. In addition, the computation of standard costs is more detailed than that of predetermined overhead costs. For example, standard costs are based on engineering estimates, forecasted demand, worker input, time and motion studies, and type and quality of direct materials, whereas predetermined overhead rates usually depend on projections based on past costs alone. One of the drawbacks to a standard costing system, however, is that it is expensive to install and maintain.
Standard costs are introduced into a cost accounting system for several reasons. This type of system is very useful for preparing budgets, setting realistic prices, and simplifying cost accounting procedures for inventories and product costing. Standard costing also makes it easier to pinpoint production costs that must be controlled, and it helps in the evaluation of managers and workers. Finally, a standard cost accounting system, although expensive to set up and maintain, can help a company save money through the reduction of waste and inefficiency.