STANDARD COSTING

      A standard cost is the predetermined cost of manufacturing a single unit or a specific

quantity of product during a specific period. It is the planned cost of a product under current or
anticipated operating conditions. A standard cost has two components: a physical
standard, which is a standard quantity of inputs per unit of output; and a price standard, which
is a standard cost or rate per unit of input.
     A standard is like a norm. Whatever is considered normal is one example of a standard. For
example, if a score of 72 is the standard for a golf course, a golfer's score is judged on the basis
of this standard. In industry, the standards for making a desk, assembling a microcomputer,
refining crude oil, or manufacturing automobiles often are based on careful quantitative and
qualitative measurements and engineering. A standard should be thought of as a norm for
production inputs, such as units of materials, hours of labor, percentage of capacity used.
Usefulness of Standard Costs
      A standard cost system can be used in connection with either process or job order costing.
Standard costing is most readily adaptable to environments with stable technology and
homogeneous products manufactured. It is difficult to establish standards where technology
changes rapidly or where each product is uniquely customized. Standard costing typically is
found where process costing is used; examples are manufacturers of petroleum and chemical
products, building supplies, steel and soft drinks.  Standard costing found where job order
costing is used for homogeneous units produced in batches on each job; examples are
manufacturers of radios and televisions, furniture, paper products, and processed foods.
Standard costs aid in planning and controlling operations. They provide insight into
probable impacts of decisions on costs and profits. Standard costs are used for:
1. Establishing budgets.
2. Controlling costs by motivating employees and measuring operating efficiencies.
3. Simplifying costing procedures and expediting cost reports.
4. Assigning costs to materials, work in process, and finished goods inventories.
5. Establishing contract bids and setting sales prices.
Standards are useful in preparing budgets. With standard costs, budgets for any
volume and mix of products are more reliably and quickly prepared. Reliability is enhanced
because standards are based on analyses of the production processes. The time taken to
prepare a budget is reduced because production requirements are documented in the standards
for each product.
Standard costs simplify costing by reducing clerical labor. A complete standard
cost system usually is accompanied by standardization of production. Production orders calling
for standard quantities of production and specific labor operations, along with materials
requisitions, labor time tickets, and operation schedules, can be prepared in advance of
production, and standard costs can be compiled. As orders for a part are sent into production,
previously established standards are used to determine input quantities, production processes,
and costs. As the production process becomes more standardized, clerical effort declines.
Some companies using standard costs for planning and control do not record inventories
at standard cost. Still, incorporating standard costs into accounting records increases efficiency
and accuracy in clerical work. A complete standard cost file, detailed by parts and operations,
simplifies assigning costs to materials, work in process, and finished good s inventories.
Inventory costs are easily determined by multiplying the quantities of each product in inventory
by the standard unit cost and then adding the total cost for each product, The use of standard
costs also can stabilize reported product costs in spite of short term fluctuations in input prices
and capacity used. 
Determining contract bids and establishing sales prices are enhanced by a standard cost
system. Computing costs to be incurred on a contract is simpler and more reliable using
standard costs or, if a unique product is to be produced, by using standard costs for the
production operations required.  Standards are useful in establishing sales price to the extent
the standards are up-to-date. When the market price of a product is not readily observable, as
would be the case for new products or products that are differentiated from those of
competitors, product cost typically is used as the starting point in establishing the sales price.

Setting Standards
Calculating a standard cost requires physical standards. Two types of physical
standards are basic and current. A basic standard is a yardstick against which both expected
and actual performances are compared. It is similar to an index number against which all
subsequent results are measured. Current standards are of three types:
1. An expected actual standard reflects the expected level of activity and efficiency. It is a
reasonably close estimate of actual results.
2. A normal standard reflects the expected level of activity and efficiency. It represents
challenging yet attainable results.
3. A theoretical standard reflects an ideal or maximum level of activity and efficiency. It is
a goal to be aimed for rather than a currently achievable performance.
Material and labor standards generally are based on normal, current conditions, allowing
for expected changes in prices and rates and reflecting desired efficiency. Overhead standards
usually are based on normal operating conditions, normal volume, and desired efficiency.
The success of a standard cost system depends on the reliability, accuracy, and
acceptance of the standards. In some cases, standards are set at the average of actual results
of previous periods. In other cases, standards are set by industrial engineers based on studies
of product components, production operations, sampling and participation of individuals whose
performance is measured by the standards.
In setting standards, consideration should be given to human behavior. Workers and
managers will react negatively if they feel threatened by imposed standards. If they participate
in setting standards and understand how standards are determined, they are more accepting.
Because of their practical knowledge and experience, workers can contribute to setting and
improving standards. Ideally employees accept standards as personal goals.
Links:
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Standard Cost Variances

  For each item of direct materials, for each labor operation, and for factory overhead
attributable to each department, each cost center, or each activity, actual costs are compared to
standard costs. The differences are analyzed and identified as standard cost variances. If actual
cost exceeds standard cost, the variance is unfavorable, because the excess has an
unfavorable effect on income. If the standard cost exceeds the actual cost, the variance is
favorable, because it has a favorable effect on income.
The analysis does not end there. A standard cost variance is a question, not an answer.
To control cost, managers should determine the reasons for significant variances by
investigating their causes. Effective action can be taken only when the causes are known.
Responsibility and control of variances are examined later.
Materials Standards and Variances
Two standards are developed for direct materials costs—a materials price
standard and a materials quantity or usage standard. Price standards permit (I) monitoring
performance of the purchasing department and detecting influences on materials cost and
(2) measuring the effects that materials price increases or decreases have on
profits. Determining the purchase price to be used as the standard cost is often difficult,
because materials purchase price is controlled more by external factors than by management.
Prices selected should reflect current market prices, and the standards should be revised at
inventory dates whenever the market price of an important material changes.
Typically, prices are determined at the beginning of the accounting period and used
throughout the period. During periods of rapidly changing prices, it may be necessary to change
the price standard frequently, especially if inventory is recorded in the accounting records at
standard.
If the actual price paid is more or less than standard, a price variance occurs. If materials
price variances are recorded when materials are purchased, they are called materials
purchase price variances. If they are recorded later, when the materials are issued to the
factory, they are called materials price usage variances. To hold the purchasing department
responsible for price variances when they occur, the variances should be recorded at the time of
purchase. Otherwise, materials used in the current period may include price variances related to
materials purchased in an earlier period, or price variances applicable to current period
purchases may be inventoried. In either case, the materials price usage variance would be
difficult to interpret because of the compounding effects of inventory changes. In a just-in-time
inventory system, there is little if any distinction between the two alternatives because there is
practically no materials inventory. Stated another way, in JIT the time of purchase and time of
use tend to be nearly identical, and the quantity purchased and quantity used also tend to be
nearly identical. 
To illustrate computing a materials purchase price variance, assume 10,000 units of Part 3-89
on the standard cost card for Paxel  are purchased at a unit price of $7.44 (refer to illustration
above). The materials purchase price variance is computed as follows:

Quantity Unit cost Amount

Actual quantity purchased 10,000 7.44 actual $74,400
Actual quantity purchased 10,000 7.50 standard 75,000
Materials purchase price variance  10,000 (.06) $ (600) favorable
 The $600 materials purchase price variance is favorable because the actual price paid
is less than standard; specifically, the actual cost is $.06 per unit less than the standard.
Alternatively, the materials price usage variance can be computed. For example, if 9,500 units
of Part 3-89 are issued and used by production during the period, the
materials price usage variance is computed as follows:

Quantity Unit Cost Amount

Actual quantity used 9,500 $7.44 actual $70,680
Actual quantity used 9,500 7.50 standard 71 250
Materials purchase usage variance 9,500 (.06) $ (570) favorable

The $600 favorable materials purchase price variance is $30 greater than the $ 570
favorable materials price usage variance. The reason for the difference is that 500 of the units of
Part 3-89, purchased this period at a favorable variance of $.06 per unit, were added to
inventory.
Because carrying inventory is costly, inventory build-up also can be reported as an
unfavorable variance and inventory reduction as a favorable variance.  The variance is called
the materials inventory variance and is defined as the standard cost of the change in
materials inventory. The materials inventory variance for Part 3-89 is computed as follows:

Unit Cost Amount

Actual quantity purchased 10,000 $7.50 standard $75,000
Actual quantity used 9,500 $7.50 standard 71,250
Materials inventory variance 500 $7.50 standard 3,750 unfavorable

The $3,750 materials inventory variance is unfavorable because the inventory of Part 3-
89 has increased, presumably increasing inventory carrying costs. Although the actual cost of
carrying excess inventory is not reported by the materials inventory variance, the variance
nevertheless provides a useful signal to executive management that inventory is not being
minimized. Such a signal is particularly important for companies concerned about inventory
build-up and those employing just-in-time.

Quantity or usage standards generally are developed from specifications prepared by

engineers and designers. In a small or medium-sized company, the superintendent or
department supervisors specify type, quantity, and quality of materials needed and operations to
be performed. Quantity standards should be set after analysis of the most economical size,
shape, and quality of the product and the use of various grades of materials.
The materials quantity (or usage) variance is computed by comparing the actual
quantity of materials used with the standard quantity allowed, when both are measured at
standard cost. The standard quantity allowed is the quantity of materials that should be required
to produce one unit of product (the standard quantity allowed per unit) multiplied by; the actual
number of units produced during the period. Units produced equals the equivalent units of
production for materials.
 Computing the materials quantity (or usage) variance can be illustrated with the 4,668
equivalent units of Paxel produced in the Assembly Department of Wilton Manufacturing
Corporation during the period. The standard cost card calls for two units of Part 3-89 per unit of
Paxel, so the standard quantity of material Part 3-89 allowed is 9,336 units (4,668 x 2). The
materials quantity (or usage) variance for material Part 3-89 is computed as follows:

Quantity Unit Cost Amount

Actual quantity used 9,500 7.50 standard $71 ,250
Standard quantity allowed 9,336 7.50 standard 70,020
Materials quantity variance 164 7.50 standard $1 ,230 unfavorable

The $1,230 materials quantity (or usage) variance is unfavorable because the actual
quantity used exceeds the standard quantity allowed by 164 units. The dollar amount of
the variance is 164 times the standard cost of $7.50.

Labor Standards and Variances

Two standards are developed for direct labor costs—a rate, wage, or cost standard, and
an efficiency, time, or usage standard. The rate standard may be based on collective bargaining
agreements that define hourly wages, piece rates, and bonuses. Without a union contract, the
rate standard is determined by the agreed wage. Because rates tend to be based on definite
agreements, labor rate variances are infrequent. If they occur, they usually are due to unusual
short-term conditions.
To assure fairness in rates paid for each operation performed, job ratings are used.
When a rate is revised or a change is authorized temporarily, it must be reported promptly to the
payroll department to avoid delays, incorrect pay, and faulty reporting. Any difference between
standard and actual rates results in a labor rate (wage or cost) variance.
To illustrate computing the labor rate variance for Operation 3-25 on the standard cost
card for Paxel , assume that 1,632 hours are actually worked at an actual rate of $12.50 per
hour to produce 4,512 equivalent units of Paxel. The labor rate variance is computed as follows:

Hours Rate Amount

Actual hours worked 1,632 $12.50 actual $20,400
Actual hours worked 1,632 12.00 standard 19,584
Labor rate variance 1,632 .50 $ 816 unfavorable

The labor rate variance of $816 is unfavorable because the actual rate exceeds the
standard rate by S.50 per hour. The actual labor hours worked exclude non-productive time,
which is charged to factory overhead. Idle labor cost, to the extent that it is not included as a
budgeted overhead item, ultimately becomes part of the controllable variance in the two-
variance method or the spending variance in the three-variance method, as discussed later.
Determining labor efficiency standards is a specialized function best performed by
industrial engineers, using time and motion studies. These standards are based on actual
performance of a worker or group of workers possessing average skill and using average effort
while performing manual operations or while working on machines operating under normal
conditions. The effects of fatigue, personal needs, and delays beyond the control of the workers
are included in the standard. Time attributable to setting up machines, waiting, and breakdowns
is included in the factory overhead standard.
The labor efficiency variance is computed at the end of any reporting period (day, week,
or month) by comparing actual hours worked with standard hours allowed, both measured at the
standard labor rate. Standard hours allowed equals the standard number of direct labor hours to
produce one unit of product (the standard labor hours per unit) multiplied by the actual number
of units produced during the period. The units produced are the equivalent units of production
for labor cost. The standard hours allowed for the 4,512 equivalent units of Paxel produced in
the Assembly Department of Wilton Manufacturing Corporation during the month are 1,504
(4,512 equivalent units x 1/3 standard hour per unit).
The labor efficiency variance for Operation 3-25 is computed as follows:

Hours Rate  Amount

Actual hours worked 1,632 $ 12.00 standard  $19,584
Standard hours allowed 1,504 12.00 standard    18, 048
Labor efficiency variance 128 12.00 standard $ 1 ,536 unfavorable

The unfavorable labor efficiency variance of $1,536 is due to the use of 128 hours in
excess of standard hours allowed (128 x $12 = $1,536).
In highly automated production systems, labor may be such a small part of total product
cost that it becomes impractical or impossible to trace labor directly to products. In such cases,
labor is likely to be treated as pan of overhead, and no separate labor variances are computed. 

Factory Overhead Standards and Variances

Methods for establishing and using standard factory overhead rates are similar to the
methods discussed for calculating predetermined overhead rates and applying them to jobs and
products. First, a factory overhead budget is prepared; estimating each item of overhead
expected to be incurred within each department, cost center, or activity at some predetermined
level of activity, typically normal capacity or expected actual capacity. Next, budgeted service
department costs are allocated to user departments based on planned amounts of services. If a
producing department has multiple cost centers or if activity-based costing is used, these
allocated service department costs in turn are allocated to cost centers within the department or
to activities. When all budgeted overhead has been allocated, the budgeted overhead for each
producing department, activity, or other cost center is totalled. The total is divided by the
predetermined level of the allocation base, and the result is a standard factory overhead rate for
each producing department or cost center.
Allocation bases can vary from department to department, depending on the nature of
each production process. Common bases include direct labor hours, direct labor dollars,
machine hours, direct materials cost, units of product, machine setups, quantity, of materials,
and number of requisitions. There are two important considerations in the selection of an
appropriate allocation base. First, to assign overhead to products in meaningful amounts, the
base should be one that reflects the primary cause of overhead cost in the department. For
example, if the production process is labor intensive in one department and capital intensive in
another, direct labor hours or direct labor cost should be used in the first department and
machine hours or processing time in the second. However, if only one product is produced
within the department, the equivalent units of product are a reasonable allocation base,
regardless of the nature of the production process. If one activity within a department does not
appear to be closely related to most of the overhead costs within that department, and if
different products are produced within the department, then multiple rates can improve costing
accuracy. In such a case, different overhead rates based on different activities are used for the
different cost pools within the department; Of course, the cost of developing and administering
multiple rates is higher and should be weighed against the potential usefulness of more
accurate product costing.  
The second consideration in selecting an allocation base is that the activity measure
chosen must be accurately monitored for each unit or job. Preferably, the measure is available
within the existing data-gathering system or with an inexpensive modification to that system. If
machine hours are selected, a data gathering system must accurately record numbers of
machine hours used on each unit or job. Such data are not collected routinely in most
companies, and it is expensive to install and operate a system that accurately collects the data.
As a result, manufacturers traditionally have used allocation bases for which the data are
already available for each unit or job, such as direct labor hours or direct labor cost. However,
with increasing use of robotics, direct labor is becoming a less significant cost. Consequently,
many companies are redesigning their cost systems and finding new ways of allocating factory
overhead, both where predetermined rates and where overhead cost standards are used.
  
The monthly flexible budget for the Assembly Department of Wilton Manufacturing
Corporation. The Wilton data will illustrate the computation of a standard overhead rate and
overhead variances.
Assuming the 100 percent column is normal capacity, the standard factory overhead rate
for the Assembly Department is computed as follows:
$24,000 total factory overhead/ 1,600 direct labor hours 
= $15.00 per standard direct labor hour
At the 100 percent capacity level, the Assembly Department standard factory overhead
rate consists of the following variable and fixed portions:
$4,800 total variable factory overhead/1,600 direct labor hours               
= $ 3.00 variable factory overhead rate
$19,200 total fixed factory overhead/1,600 direct labor hours                   
=   12.00 fixed factory overhead rate

Total factory overhead rate at normal capacity                                                     

=$15.00 per standard direct labor hour
The standard overhead chargeable to each job or process is determined by multiplying
the standard amount of the allocation base allowed (direct labor hours in this illustration) by the
standard factory overhead rate. The standard amount of the allocation base allowed is
determined by multiplying the standard amount of the allocation base allowed per unit of product
by the actual number of equivalent units of product produced. At the end of each month or other
period, the factory overhead actually incurred is compared with the total standard overhead
charged to work in process. The difference is the overall (or net) factory overhead variance.
If standard costs are fully integrated into the accounting records then inventories are recorded in
the accounts at standard costs,-and the overall factory overhead variance is equal to over- or
under applied factory overhead.

For example, assume Paxel is the only product produced in the Assembly Department of Wilton
Manufacturing Corporation during March, and the following data are available at the end of the
month:
Actual factory overhead                                                                      $24,422
Standard hours allowed for actual production (4,512 units x 1/3 standard labor hour per unit)                               
1,504
Actual direct labor hours used                                                                1 ,632
The overall factory overhead variance is computed as follows:
Actual factory overhead                                                                      $24,422
Factory overhead chargeable to work in process, at standard (1,504 standard hours allowed x
$15 standard overhead rate)        22,560
Overall (or net) factory overhead variance                                        $ 1,862 unfavorable
The overall factory overhead variance should be further analyzed to reveal sources of
the variance and thus to provide a guide to management in determining its causes. Causes
must be known before remedial action is possible. The overall variance can be broken down for
analysis in many different ways. The ways most frequently used are to compute two or three
factory overhead variances. Regardless of the method used, the sum of the computed
variances equals the overall factory overhead variance.

Two Variance Method

The two-variance method is the most frequently used method in practice, perhaps
because it is the easiest to compute. The two variances are the Controllable variance and the
volume variance.
The controllable variance is the difference between the actual factory overhead
incurred and a budget allowance for the standard amount of the allocation base allowed for
actual production. The budget allowance can be thought of as the amount of factory overhead
that would have been budgeted at standard if the actual quantity produced had been known in
advance. Stated another way, the budget allowance is the total standard amount of variable
overhead budgeted for actual production, plus total budgeted fixed overhead.
The controllable variance is the responsibility of department managers to the extent that
they control overhead costs incurred. It; is composed of two elements: (I) the difference
between actual variable factory overhead and standard variable factory Overhead allowed and
(2) the difference between actual fixed factory overhead and budgeted fixed factory overhead.
Based on the data for the Assembly Department, the controllable variance is computed as
follows:
Actual factory overhead    $24,422
Budget allowance based on standard hours:
Variable factory overhead (1,504 standard hours x $3.00 variable overhead rate) 4,512
Budgeted fixed factory overhead          19,200
23,712
Controllable Variance                 $ 710 unfavorable
The volume variance is the difference between the budget allowance based on the
standard amount of the allocation base allowed for actual production and the standard factory
overhead chargeable to work in process. It indicates the cost of capacity that was available but
not used, or not used efficiently. It is the responsibility of the department manager if it was
caused by changes in production efficiencies. It is the responsibility of executive management if
it was caused by unexpected changes in sales demand. The volume variance for the Assembly
Department is computed as follows:
Budget allowance based on standard hours allowed (from previous computation)                                 
$23,712
 Factory overhead chargeable to work in process at standard (1 ,504 standard
hours allowed x $15 standard overhead )                 22,560
Volume Variance                                      $ 1,152 unfavorable
When standard cost rather than actual cost is charged to production, the volume
variance can be thought of as the amount of over- or under applied budgeted fixed factory
overhead. It is the difference between budgeted fixed factory overhead and the amount of fixed
factory overhead chargeable to production. The overhead chargeable to production is based on
the standard amount of the allocation base allowed for actual production. The volume variance
for the Assembly Department can be computed as follows:
Budgeted fixed factory overhead             $19,200
Fixed factory overhead chargeable to production, based on the standard hours allowed for units
produced (1 ,504 standard hours allowed x 12 fixed overhead rate)        18,048
Volume Variance                                  1,152 unfavorable
Alternatively, it also can be computed as follows:

Number of labor hours used to compute the overhead rate

1,600
( normal r budgeted capacity)
Standard hours allowed for actual production 1,504
Capacity hours not utilized, or not used efficiently 96
Fixed factory overhead rate x 12
Volume variance 1,152 unfavorable

The controllable variance plus the volume variance equals the overall factory overhead variance
for the Assembly Department, as follows:
Controllable Variance                         710 U
Volume Variance                                1,152 U
Overall factory overhead variance   1,862  U

Three Variance Method

One problem of the two-variance method is that it conceals the overuse or underuse of
the input that is the overhead allocation base. The three-variance method attempts to remedy
this problem. The three-variance method requires computing the spending variance, variable
efficiency variance, and volume variance.  The spending variance is the difference between
actual factory overhead and a budget allowance based on the actual level of the allocation
base. For the Assembly Department of Wilton Manufacturing Corporation, the spending
variance is computed as follows:

Actual factory overhead incurred                              $24,422

Budget allowance based on actual hours: Variable overhead (1,632 actual labor hours x $3.00
variable overhead rate) $ 4,896

Budgeted fixed overhead                                                                                        19,200

        24,096
Spending Variance                                                                                 $ 326 unfavorable
The variable efficiency variance equals the variable overhead rate multiplied by the
difference between the actual level of the allocation base and the standard amount of the
allocation base allowed for actual production. It is the portion of the efficiency variance that
measures how much the efficient or inefficient use of the allocation base affects the cost of
variable factory overhead. The variable efficiency variance is computed as follows:
Budget allowance based on actual hours worked                                $24,096
(previously computed for the spending variance)
Budget allowance based on standard hours allowed                                             23 712
(previously computed for the two-variance method)             
Variable efficiency variance                                 $ 384 unfavorable
Alternatively, it can be computed as follows:
Actual hours worked                                       1,632
Standard hours allowed for actual units produced        1,504
Excess of actual hours over standard hours allowed        128
Variable factory overhead rate                                          x3
Variable efficiency variance                                              384 unfavorable
The unfavorable spending variance of $326 plus the unfavorable variable efficiency
variance of $384 equals the unfavorable controlled variance of $710 computed under the two-
variance method.
The last variance in the three-variance method is the volume variance. It is the same as
the volume variance in the two-variance method, so for the Assembly Department illustration, it
is the $1,152 unfavorable volume variance previously computed. The sum of the three
variances equals the overall factory overhead variance as follows:
Spending variance                                               $ 326 unfavorable
Variable efficiency variance                                  384 unfavorable
Volume variance                                                   1,152 unfavorable
Overall factory overhead variance                      $11,862 unfavorable

Four Variance Method

The four-variance method is similar to the alternative three-variance method, except that
the efficiency variance is divided into its fixed and variable components. The four variances are
the spending variance, the variable efficiency variance, the fixed efficiency variance, and the
idle capacity variance. The variable efficiency variance is computed just as it was in the three-
variance method. The spending and idle capacity variance are computed just as they were in
the alternative three-variance method. All three of those variances were illustrated previously.
The fourth variance, the fixed efficiency variance, is the only one unique to this method. It is
the difference between the fixed overhead that would be charged to production based on the
actual level of the allocation base and the fixed overhead that would be charged to production
based on the standard amount of the allocation base allowed for actual production.  For the
assembly Department of the Wilton Manufacturing Corporation, the fixed efficiency variance is
computed as follows:
Actual hours (1,632) x FOH rate (12)                                    19,584
Standard hours allowed (1,504) x Fixed OH rate (12)          18,048
Fixed Efficiency variance                                                          1,536 unfavorable
Alternatively, it can be computed as follows:
Actual hours worked                                                              1,632
Standard hours allowed for actual units produced               1,504
Excess of actual hours over standard hours allowed              128
Fixed factory overhead rate                                                    x    12
Fixed efficiency variance                                                          1,536 unfavorable
The sum of the four variances is equal to the overall factory overhead variance, as follows:
Spending variance                         326 U
Variable efficiency variance          384 U
Fixed efficiency variance              1,536 U
Idle capacity variance                   (384) F
Overall FOH variance                   1,862 U
The four different methods of computing factory overhead variances are merely different
combinations of the same basic computations. The four-variance method reconciles to the two-
variance method by simply combining the spending variance and variable efficiency variance to
get the controllable variance, and then combining the fixed efficiency variance and the idle
capacity variance to get the volume variance. These relationships for the Assembly Department
of Wilton Manufacturing Corporation are demonstrated as follows:
Spending Variance                            326 U
Variable efficiency variance             384 U
Controllable variance                        710 U
Fixed efficiency variance                   1,536  U
Idle capacity variance                         (384) F
Volume variance                                 1,152 U
The four-variance method reconciles to the regular three-variance method by keeping
the spending and variable efficiency variances separated, and combining the fixed efficiency
variance and the idle capacity variance to get the volume variance. These relationships for the
Assembly Department are as follows:
Spending variance                                 326 U
Variable efficiency variance                  384 U
Fixed efficiency variance                      1,536 U
Idle capacity variance                           (384) F
Volume variance                                   1,152 U

Mix and Yield Variance

Establishing a standard product cost requires determining price and quantity standards.
In many industries, particularly of the process type, materials mix and materials yield play
significant parts in the final product cost, in cost reduction, and in profit improvement.
Materials specification standards generally are set up for various grades and types of
overhead materials, in most cases, specifications are based on laboratory or engineering tests.
Comparative costs of various grades of materials are used to find a satisfactory materials mix,
and changes often are made when it is possible to use less costly grades: In addition, a
substantial cost reduction is sometimes achieved by improving the yield of good product. At
times, trade-offs may occur. For example, a cost saving resulting from use of a less costly grade
of materials may result in a poorer yield. A variance analysis program identifying and evaluating
the nature, magnitude, and causes of mix and yield variances is an aid to operating
management.
Mix Variance
 After the standard specification has been established, a variance representing the
difference between the standard cost of formula materials and the standard cost of the materials
actually used can be calculated. This variance is generally recognized as a mix (or blend)
variance, which is the result of mixing basic materials in a ratio that differs from standard
materials specifications, In a woolen mill, for instance, the standard proportions of the grades of
wool for each yarn number are reflected in the standard blend cost. Any difference between the
actual wool used and the standard blend results in a blend or mix variance.
Industries such as textiles, rubber, and chemicals, whose products must possess certain
chemical or physical qualities, sometimes find it economical to apply different combinations of
basic materials and still achieve a perfect product. In cotton fabrics, a change in the mix of
cotton from different parts of the world may reduce cost and improve profits. In many cases, a
new Il) ix is accompanied by either a favorable or an unfavorable yield of the final product,
making it difficult to judge correctly the origin of the variances. A favorable mix variance, for
instance, may be offset by an unfavorable yield variance, or vice versa.
Yield Variance
Yield can be defined as the amount of product manufactured from a given amount of
materials. The yield variance is the result of obtaining a yield different from what would be
expected from actual input. In sugar refining, a normal loss of yield develops because it takes
approximately 102.5 pounds of sucrose, in raw sugar form, to produce 100 pounds of sucrose in
refined sugars. Part of this sucrose emerges as blackstrap molasses, but a small percentage is
completely lost.
In the canning industry, it is customary to estimate the expected yield of grades per ton
of fruit purchased or delivered to the plant. The actual yield is compared to the one expected
and is evaluated in terms of cost. If the actual yield deviates from predetermined percentages,
cost and profit will differ.
To illustrate calculating mix and yield variances, assume the Springmint Company
manufactures chewing gum and uses a standard cost system. Standard product and cost
specifications for 1,000 pounds of chewing gum are as follow:

Material Quantity (pounds) Unit cost per pound Amount

A 800 .25 200
B 200 .40 80
C 200 .10 20
Input 1,200 300 300/1,200lbs =.25/lb
Output 1,000 300 300/1,000lbs =.30 per lb
 The production of 1,000 pounds of chewing gum requires 1,200 pounds of raw
materials.  Hence the expected yield is 1,000 pounds divided by 1,200 pounds, or 5/6 of input.
Materials record indicates: