Standard Cost and Standard Costing : Meaning, Concept, Objectives, Advantages, Limitations

 Standard Cost and Standard Costing 

Meaning :

The word standard means a 'norm' or a 'criterion'. Standard cost is thus a criterion cost which may be used as a yardstick to measure the efficiency with which actual cost has been incurred.
There is a constant process of development effected in business through the help of standard costing method since the standard costs set in are sensible, capable of being attained and are revised from time to time in accord with needs and requirements of the business enterprise.

Standard Cost :

Standard cost is a figure which represents an amount that can be taken as a typical of the cost of an article or other cost factor. It is established on the basis of planed operations, planed cost efficiency levels, and expected capacity utilization.

Standard cost is a predetermined calculation of the presumed cost under the specified conditions. It is built up from an assessment of the value of cost elements. It correlates technical specification of material, labour and other cost to the price or wage rate which have occurred during the period in which the standard cost is to be determined.

The standard cost is a predetermined cost which is calculated from management standard of efficient operation and relevant necessary expenditure. - by C.I.M.A. London 

The standard cost is a predetermined cost which determines what each product or service should cost under given circumstances. - by Brown and Howard

Standard Costing:

A standard costing system is a method of cost accounting in which standard costs are used in recording certain transaction and the actual costs are compared with the standard cost to learn the amount and reason for variations from the standard. - by W.B. Lawrence 

Standard costing involves the preparation of cost based on pre‐ determined standards and continuous comparison of actual with them for the purpose of guidance and control. - by D. Joseph

Historical Costing:

The term ‘Historical Cost’ is also known as Actual Cost. The meaning of this cost suggests the actual costs of products which have been incurred in their production.

The experts maintain that, the production of products, the expenses like material, labour, overheads etc. should be paid first and then they should be recorded in books. So these total expenses are called historical costs or past costs.

The figures relating to costs obtained at the end of the production process may have some definite value in rectifying past practices if they are properly analyzed. 

Concepts of Standard Cost and Standard Costing:

1) Standard Cost:

standard costs are called pre-determined costs. The different standards regarding all the elements of costs, i.e., material, labor and overheads, are determined on the basis of historical cost and many other factors. These factors are cautiously studied before determining the standards. The standard committee will generally consist of production manager, purchase manager, personal manager, and other functional heads. It is possible that the standard cost decided by the manager could be idle, normal or expected. The idle standard cost may refer to an estimate of the cost under perfect competition. It is competed on the basis that there is no scrap, no idling of machinery or breakdown and so on. On the other hand, expected standard cost is based upon the attainable result.

Standard Costs are not simple average but they are set with due care after careful study and observation of production activity in the past and the present.

2) Standard Costing:

Standard costing is a perfect system of controlling the costs and measuring efficiency and its development. It is a technique of cost reduction and cost control. It helps to provide valuable guidance in several management functions such as formulating policies, determining price level, etc. The essence of standard costing is to set objectives and targets to achieve them, to compare the actual costs with these targets.

Standard Costing is used to ascertain the standard cost under each element of cost, i.e., materials, labours, overhead. It can eliminate all kinds of waste. Through the application of this costing it can be ascertained whether or not the activities of production are going on according as the pre-determined plan. 

Objectives of Standard Costing:

1. To institute a control mechanism on all the elements of costs that affect production and sales

2. To measure different operational efficiencies and check the wastages

3. To improve the delegation of authority and generate a sense of

   responsibility among the employees

4. To develop a cost consciousness in the employees

5. To presume the production costs, sales and profit

6. To avail the benefits of 'Management by exception.'

7. To bring about a vivid progressive vision and sagacious decision making at

   each managerial level. 

Advantages of Standard Costing:

1. Proper Planning: It helps to apply the principle of “Management by exception”. That is, the management need not worry over those activities which proceed in tandem plans. It is only on the issues of exceptions that they have to concentrate.

2. Efficient Cost Control: Standard Costing is a tool for the management to gain reduction in the cost and control over it. Under this technique, differences are analyzed and responsibilities are determined.

3. Motivational Factor: Labour efficiency is promoted and they are destined to be cost conscious. Standards provide incentives and motivation to work with greater effort. This increases efficiency and productivity.

4. Comparison of Forecasting and Outcome: A target of efficiency is set for the employees and the cost consciousness is stimulated. Since the process of standard costing allow an appraisal to be made of personnel, machines and method of working, current inefficiencies come to the notice and get eliminated.

5. Inventory Control: Standard costing facilitates inventory control and simplifies inventory valuations. This ensures uniform pricing of stocks in the form of raw materials, work-in-progress and finished goods.

6. Economical System: Standard costing system is economical system from the viewpoint that it does not require detailed records. It also does not require a big staff. It results in the reduction in paper work in accounting and needs very few records. Thus, there is saving of time as well as money.

7. Helpful in Budgeting: Budgets are prepared on the basis of standard costing. Standards which are set up in respect of materials, labour and overheads, are helpful in preparing various budgets. For example, flexible budget, sales budget, etc.

8. Helps Formulate Policies: This technique is a valuable aid to the management in determining prices and formulating production policies. Standard costing equips cost estimates while planning the production of new products.

9. Helps Distinguish Activities: Standard costing helps in distinguishing between skilled and unskilled activities. So the skilled worker only gives pays attention to improving the activities of the unskilled workers.

10. Eliminates Wastage: Through fixing standard, certain waste such as material wastage, idle time, lost machine hours, etc. are reduced.

Limitations of Standard Costing:

1. Costly System: Because the Standard Costing requires highly skilful and competent personnel, it becomes a costly system too. For the same experts are paid high remuneration.

2. Difficulties in Fixation of Standard: It is always difficult to determine precise standard costs in a given situation which will coincide with actual cost when operations are over. Standard cost are determined partly by the past experience and partly by the cost projections based on advanced statistical techniques. Thus, uncertainties revolve around standards.

3. Constraint for Service Industry: Standard costing is applied for planning and controlling manufacturing costs. Thus, it cannot be applied in a service industry.

4. Consistency of Standard: because the standards of marginal costing fluctuate and vary time to time, it is difficult to always sustain and continue the same standards.

5. Unsuitable for Non-standardised Products: Standard costing is expensive and unsuitable for job manufacturing industries as they manufacture non standardized products such as catering, tailoring, printing, etc.

6. Relatively Fixed Standards: A business may not be able to keep standards up-to-date. In other words, a business may not revise standards to keep pace with the frequent changes in manufacturing conditions. Firms may avoid revising standards as it is a costly affair.

7. Difficulties for Small Industries: Establishment of standards and their implementation involve initial high costs. Standards have to be revised and new standards be fixed involving larger costs. Thus, small firms find it expensive to operate standard costing system. This system is not fit for each type of industries.

8.  Discouragement for Workers: Sometimes the employees and workers are discouraged when the standards are fixed at a high level. The unreal high standards may adverse by effect the morale of workers rather than working as an incentive for better efficiency.

9. Inaccurate Diverse Results: Inaccurate and unreliable standards cause misleading results and thus may not enjoy the confidence of the users of this system.