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19 Standard Costs Tools for Enterprise Performance Evaluation 3. Standard Costs
Budgets deal with total expected costs. But, as you saw for Mooster’s Dairy, these overall estimates
are based upon fundamental assumptions about standard quantity and cost of inputs required in
producing a single unit of output. Recall for Mooster: “. . . direct materials are variable and
anticipated to be $1 per gallon ($100,000 in total), direct labor is variable and anticipated to be $.50
per gallon ($50,000 in total), and variable factory overhead is expected to be $1.50 per gallon
($150,000 in total).” Standards are the predetermined expectation of the inputs necessary to achieve
a unit of output. Standard costs provide an assessment of what those inputs should cost.
Standards are important ingredients in planning and controlling a business. You have just seen how
they influence the budget preparation process. They are also integral to the assumptions needed for
proper cost-volume-profit analysis discussed in an earlier chapter. Standards can also be used in
pricing goods and services. Perhaps you have had your car repaired; the bill is likely based on an
hourly rate applied to a standard number of hours for the job (your specific repair might have
actually taken more or less time).
This chapter will look at how standards are used for performance evaluation via measures of
efficiency and cost incurrence. You have perhaps worked in a restaurant. Each cashier may have a
standard for how much business they must “ring.” Managers have standards for how many tables
must be “turned.” The bus staff is allowed only so much “breakage.” Virtually every business has a
similar set of standards. In a traditional manufacturing environment, a unit of finished goods is
decomposed into its components to determine how much raw material, labor, and overhead is
necessary to produce the item. These component quantities are then considered in terms of what
they should cost. 3.1 Setting Standards
The decision about the quantity and cost of productive components is more complex than it may seem. I...
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