Standard Cost Accounting System: Advantages and Disadvantages

This report discusses the importance of standard costing technique and its merits and demerits. It explores the two journals on standard cost accounting system and their research findings. The advantages of standard costing technique include proper budgetary control system, acting as a control device, and useful for budgeting and planning. The disadvantages include limited liability of executives, high cost, and constant revision requirement.

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By student name
Professor
University
Date: 5th Sep, 2018.
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Executive Summary
The given report has been prepared on the topic based on Standard Cost accounting system
and to analyze the importance of the given method of accounting. Both the merits and
demerits of the said method of costing have been discussed. For a clear understanding of this
topic two journals have been referred in the report and the research has been also discussed
below. The reports discusses on the different types of approaches in standard costing and also
the steps required to taken in order to improvise it in a textile manufacturing company. The
conclusions reached and the observations made have been discussed in the report below.
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Contents
Executive Summary.....................................................................................................................................2
Introduction.................................................................................................................................................4
Advantages of Standard costing technique.................................................................................................5
Disadvantages of Standard costing technique.............................................................................................5
Discussion on the two journals....................................................................................................................7
Explanation Of The Selected Management Accounting Topic.................................................................7
Purpose of the studies and the research questions set out to be explored............................................7
Similarities and differences between the findings of the 2 studies.......................................................10
Specific outcomes and relevant learnings from the research findings..................................................11
References.................................................................................................................................................13
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Introduction
There are various cost accounting techniques which are followed by different organizations.
Standard Costing can be defined as a cost accounting technique with which an expected cost is
substituted for an actual cost in the accounting records and then variances showing the
difference between the expected cost and actual cost are calculated and recorded in the books.
This accounting technique is being used by many manufacturers for the identification of
variances between the actual cost of the goods being produced and the cost that should have
been incurred for producing such goods (Axelsen, Green, & Ridley, 2017). Standard costing
disclosed the deviation in the cost from the standards set by an organization and helps in
clarifying the causes of such deviation so the matters in regard to which remedial actions are
required to be taken should be informed of to the management. So, basically standard costing
technique involves the following steps: firstly, the ascertaining and applying standard costs;
secondly, evaluation of actual cost; thirdly, determining the variances on the basis of
comparison of standard cost with the actual cost; fourthly, analyzing the resulting variances;
and lastly, on the basis of variance analysis, determining the appropriate measures that are
required to be taken (Bailey, Collins, & Abbott, 2017). The main objective of standard costing is
to help the management in taking correct decisions on various aspects of business like, pri ce
fixation of goods produced, decisions in relation to make-or-buy which will prove more
beneficial to the organization, along with ascertain the evaluation of performance and it also
helps in implementing proper system of budgetary control in the operation of an entity. The
standard cost system of accounting has both advantages as well as disadvantages. The same
has been discussed in brief below in this report. But even after the shortcomings faced by the
standard cost accounting technique, it has been adopted as the system of cost accounting by
many industries widely. We have taken the bas of two journals on standard cost accounting
system for a better research. Both the journals have been studied comprehensively and the
leanings from those are also discussed in this assignment.
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Advantages of Standard costing technique
There are various advantages of standard costing technique, which are discussed below:
1. It helps an organization in implementing proper budgetary control system for smooth
functioning of the business,
2. It helps the management by acting as a control device,
3. It acts as a guide in several function of the management by helping in price formulation
and policies relating to productions, etc. (Bromwich & Scapens, 2016).
4. Standard costing focuses on the variances in different costs, the analysis and
measurement of which helps the management to detect the mistakes and inefficiencies
and investigate the reasons behind them.
5. Standard costing is very useful for the purpose of budgeting and planning as these costs
are predetermined. It helps in estimating the effect of any changes in the relationship of
cost-price-volume thereby assisting the management in future decision making.
6. This system of costing helps the management in the prompt preparation of profit and
loss account for short period in order to analyse the business trends by the
management for prompt decision making (DeZoort & Harrison, 2016).
7. This system of cost accounting also helps in the proper evaluation of the performance of
the staffs in different cost centres with the use of calculation of various types of
variances.
Disadvantages of Standard costing technique
Apart from the advantages discussed above, standard costing technique suffers from few
drawbacks as well. These drawbacks are as discussed below:
1. The variance analysis that is stressed upon by this technique helps in the allocation of
mistakes. However, the liability of the executives are only limited to those actions which
are found to be actually controlled by them. In order to properly allocate the liability of
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responsibility, it is necessary to first segregate the variances into the controllable and
non-controllable portions, which to be honest, is an uphill task and many a times the
staff responsible for doing so is reluctant. As it increases the work load.
2. The standards are generally based on the entity’s average past result, maximum
theoretical efficacy or its obtainable good yield, which are either too radical or too firm.
There is adverse effect on the motivation and morale of the employees if these
standards are too high, as it becomes difficult to achieve and thus creates undue
pressure on the employees. Sometimes the management set standards which are very
high and practically impossible to be achieved, this lowers the confidence and morale of
the staffs (Dan, 1995).
3. Change is a constant phenomenon. The business condition of an organization keeps on
changing as a result of which the standards are always changing. There is great
requirement of constant revision in the standards so that the actual results are in fact
comparable with the standards. The constant revision of the standards poses various
problems, especially in adjustment of inventory. Also, the requirement of revising the
standards on a timely basis adds up to the cost of the organization and it also requires
management’s full time and attention, which the management are not always prepared
for.
4. Standard costing is an expensive technique, since the degree of technical skill involved
with such costing technique is very high. Moreover, the regular updating requirement
also increases the cost of an organization, along with the cost involved in implementing
it in the very first time (Dan, 1995). Therefore, small and medium sized organization
cannot afford to introduce this system of cost accounting as their financial resources are
limited. However, the benefit of such technique is will be very high as compared to the
initial cost involved, in case this technique of cost accounting is once introduced.
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Discussion on the two journals
The two journal articles which have been considered here for discussion on the given topic are
“Standard Costing Games that Managers Play” by Calvasina, Richard V and Calvasina, Eugene J
and “How to Tell If Standard Costs are Really Standard” by Barnes, John L.
Explanation of the Selected Management Accounting Topic
The first journal paper emphasizes on the matters relating to the demerits of standard costing
techniques and that the damage caused by it to the managers by providing misinformation are
more than the advantages it is believed to give to the organization. In the end the main sufferer
of the system is the corporation (Calvasina & Calvasina, 2017). The second journal emphasizes
on the evaluation of the evaluation of improvements in the standard costing methodologies in
a textile industry. It focuses on the updating of worn out methods and procedures of standard
costing in order to keep this system of cost accounting going.
Purpose of the studies and the research questions set out to be explored
The objective of the first case study is to draw attention towards the flaw of standard costing
techniques. The author has initially discussed the there are three basic functions of standard
costing technique, these are: firstly, the collection of actual costs of the manufacturing
operations; secondly, determination of the achievement of the above manufacturing operation
and lastly the performance evaluation from the standard by the reporting of variances. The
managers places heavy reliance on such data for detecting those areas the performance of
which are not in compliance with the budget and to keep a check on the cost centers to ensure
that they are running efficiently to achieve the goals set by the organization during the planning
stage. The author has discussed the standard costing technique in reference various games, the
first one of which is “Everlasting Standard Game”. Under this game the author has discussed
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the situation in case of the companies which are either small with nonexistent department of
industrial engineering or those the managers of which are under a notion that implementation
of standard costing technique is one time process and once implemented, no revision in
standards are required (Barnes, 2015). The standard quantities of material and labor which was
set during the formation of the company was not revised for years and after number of years
revision was done only in respect of labor and material cost ignoring any revision in the
requirement of material quantities and labor hours. This results in the manager’s reluctance to
review the reports since the same data is being produced without any value addition to the
standards which are conventionally followed by the organization. Consequently, the efficiency
variance and material variance are outdated. The second game is the “Unbreakable Schedule
Game”, as per which the standard costs are revised but only on the scheduled time set for such
revision. No consideration is being given to the major changes in the costing or production
techniques that are occurring between the dates set for revision (Choy, 2018). Due to the
rigidity of the system, again as per the first game, the variances calculated are misleading. This
type problem is witnessed in those companies the management of which does not want to
spend much time on the accounting function of the company. The third game is named as the
“Methods Change Variance Game”, the main objective of the adoption of this game is to uproot
the problem associated with the labor efficiency variance. This labor efficiency variance is being
calculated to reflect the difference between the labor efficiency based on the old standard that
is currently followed by the company and the labor efficiency variance that would have been
calculated based on the new standard, if it was currently employed. Both the reports of
variances are then presented to the manager (Dichev, 2017). The cost in relation to the
preparation of both reports is not fully evident. The fourth game is the “Material Mix Game”,
this is basically the other version of the method change variance game, and the only difference
is that it is in respect of material mix variance. Under this strategy, in the manufacture of a
product a combination of different ingredients is used and the quantities of each raw material
are specified. Only the total amounts of the ingredients are reduced with a change in their
proportion. As a result of which the material mix variance turns out to be favorable. The fifth
game is the “All Encompassing Standard”, this is a little different version of the material mix
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game. Under this game, the company produces a variety of products which are identical on
outside but differ in its uses. The average costs of the products are kept same as per the cost
card but the proportions of the ingredients are calculated on the basis of strength that is
provided by each product (Kew & Stredwick, 2017). In this game, the material mix variance will
appear as long as the strength of the product does not match the standard strength as per the
cost card. The sixth and the last game is the “Full Figure Standard Game”, in this game the
company adds a little to the expected quantities of labor and material to ensure that the cost is
met and the variances are favorable. This method is adopted so that the achievable standards
are actually achieved by the organization.
In the second case the author focuses on the necessity of the continuous updating of the
costing system, especially in the textile manufacturing companies. The author was the chief
accounting and controlling officer in Graniteville Company. He discussed the system of cost
accounting adopted by the company and the weaknesses observed by him in the system. He
pointed out the basis questions faced by the team in respect of cost accounting. These were:
the problems in respect of the cost accounting; the cost accounting goals and objectives of the
company; and how the company should achieve its goals and objectives and also solve other
problems, .the author has discussed the various goals and objectives of the cost accounting
which involved that the system must have the capability to provide details which are accurate
and reliable, it should the management with timely information at all levels (Trieu, 2017). The
intracompany profit centers must be excluded from the cost system of the company and in
considering the cost centers of the company all the activities must be included. The cost
standards of the company are required to reflect along with the optimum practical operation of
each plant, the goal for operating management, which is challenging and could be achieved. For
the purpose of projecting the gross margin and evaluating the operations with the use of
variance between the actual and projected costs, the information relating to the standard cost
must be combined with estimated sales price (Naci & Hasan, 2012). For allowing the
development of a standard inventory of carrying value by style there was a need for standard
costing system. The author has also highlighted the areas which poses major problem in the
system of cost accounting. These are in respect of the issues relating to documentation of the
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system of cost accounting, integration of general accounting system with the cost accounting
system due to which the required financial data is not captured by the current general
accounting system. The payroll and data collection system fails to provide accurate information
which is required by the cost accounting system on a timely basis, .the author has also provided
certain recommendations based on his study, these includes implementing various controls
systems relating to payroll data collection and reporting; production reporting; dyes and
chemicals; maintenance and capital expenditure, supplies and raw materials; and also the
system of accounting followed must be updated on timely basis and the system should be
analyzed by the project team (Jefferson, 2017). In view of the author, the system of cost
accounting must be managed by a set of skilled staffs who can who can make efficient uses of
this technique as the deficiencies in the people operating the cost accounting system is the
worst system deficiency. Therefore, the management should set an objective of developing
automated mechanisms in order collect data and for the purpose of inquiry so that the flow of
basic information could be simplified by the elimination of clerical procedures associated with
the process. The management should also develop an automated mechanism for the purpose
of calculating variances, accurate cost estimates and revisions in the cost which are necessary
for the changes in business environment.
Similarities and differences between the findings of the 2 studies
The similarities between the two studies given below:
1. Both the case studies have emphasized on the updating of the standards of the standard
costing system on a timely basis (Grenier, 2017).
2. In both the case studies the focus was on improvising the cost accounting system...
The differences between the two case studies are as follows:
1. We have observed that the first case study focuses more different approach that could
be adopted in the standard cost while the second highlighted mainly on increasing the
standards of cost accounting system.
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2. The first case study has been discussed considering the application of standard costing
system in any organization while the second has pointed the major requirements in a
textile manufacturing company.
Specific outcomes and relevant learnings from the research findings
From the above case studies, there are number of things to be noticed and learned. The points
noted would in fact be highly useful for the Australian Companies who have adopted or look
forward to adopt the same. The major points to be learned from the first case study are
discussed as follows:
1. The standards which are followed must be current and not outdated. The management
should review and update the standards on a continuous basis instead of waiting for the
dates set for revision of standards. The revision of standards should be based on any
major changes that occur in the costing system (Kim, Schmidgall, & Damitio, 2017).
2. The standards followed must be relevant. When there is any change in the layout of
plant as per the decision of the management, then the cost card relating to the material
mix or the procedures followed to produce a product must be changed too. If the same
is not changed as per the plant layout then the value of inventories as well the reports
on performance provided will be invalid and misleading.
3. The standards followed must be realistic and not ambiguous. The standards set for
overheads like material, labour and manufacturing overheads must not be rigid. The
point is that the standards set should not be such which cannot be achieved.
4. Standards set should be used in a positive way. The standards must not be too strict.
The reason behind unfavourable variance should be analysed. Moreover, favourable
variances do not always indicate profit. It should be ensured that the standards set are
correct (Kuhn & Morris, 2016).
5. Standards followed must be based on future. The standards should be set keeping in
mind the past performance but it should be aimed towards future prospects. This is one
of the reasons why the standards should be updated on a continuous basis.
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From the second case study the key points which might be useful for the Australian companies
are listed below:
1. The textile manufacturing company, Graniteville Company has face some major issues
relating to the cost accounting system, the same has been overcome by improvising the
system by automating and documenting the system of cost accounting; formalizing a
project team for the development of standard cost accounting system (Schoenberger,
2016).
2. The project team allocated to the standard cost accounting system of the company
should prepare a test cost ledger and report formats constituting the budget standards.
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References
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Auditing: A Journal of Practice & Theory,
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Barnes, J. L. (2015). How to Tell If Standard Costs are Really Standard.
Journal of Management
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