Standard cost

The standard cost is defined as the estimated or predetermined cost of performing an operation or producing a good or service, under normal conditions, where special or extraordinary factors, that may affect performance are absent. A standard cost means a target cost that should be attained. They are used as target-costs and are developed from historical data analysis or from time and motion studies.

The standard cost is usually compared to the actual cost to measure the performance of a given costing department or operation. Actual cost is defined as the total amount of materials, labor costs, and any directly associated overhead costs that can be charged to a specific project. The standard cost takes into consideration a standard value and uses that figure to track the usage of resources. This is usually represented in the form of either hours or the number of units consumed, and can identify variance between the production and consumption. However the actual cost is concerned only with the costs incurred during the course of the project, and not the units produced. Both the costs are different, but are often used to evaluate the profitability of a given project. Variances are the difference between the standard cost and actual cost. The variances indicate the inefficiencies that have to be investigated.

Standard costs are associated with a manufacturing company's costs of direct material, direct labor, and manufacturing overhead. Instead of assigning the actual costs of direct material, direct labor, and manufacturing overhead to a product, many manufacturers assign the expected or standard cost. Hence a manufacturer's inventories and cost of goods sold will begin with amounts reflecting the standard costs, not the actual costs, of a product. Manufacturers still have to pay the actual costs. Standard costing and the variances is a valuable management tool. Therefore if a variance arises the management becomes aware that manufacturing costs have differed from the standard (planned, expected) costs.

Questions

• What is a standard cost?
• Why is a standard cost compared to the actual cost?