Simple Explanation of Standard Costing Basics

Overview

The high level of cost management effectiveness is directly related to the cost accounting and control methodology. There is a variety of costing systems, but the cost management process in each of the systems is based on concepts such as planning, accounting, calculation of costs, and control.

The efficiency of the cost management system of the enterprise influences the efficiency of the entire management system of the company and its competitiveness in the market. Currently, the standard costing management system has been used by some companies.

Simple Explanation of Standard Costing Basics

At the beginning of the 20th century, the standard costing system appeared in the United States, and then in Europe, as a method to prevent unjustified costs. Standard costing is one of the varieties of in-house accounting systems used in a competitive environment. The founder of this system is F. Taylor, who conducted experiments on the use of human and material resources in the best possible way.

The term standard costing itself was introduced by J. Garrison at the beginning of the 20th century. The recognition of the new accounting system was facilitated by the training of qualified personnel in the association of production accountants. The name of the system broadly implies “pre-determined cost”.

The basis of this system lies in the fact that the accounting reflects not what happened, but what should happen; not what has been recorded for the period in bookkeeping records, but what is due taken into account previous records. The basic principles of the standard costing method as follows:

  • all costs incurred must be set against the standards;
  • differences found when comparing actual costs to standards should be evaluated.

Simply put, this is the development of estimates with pre-approved cost standards for products of one type for the planned reporting period.

Simple Explanation of Standard Costing Basics

Purpose

Standard costing is widely used in mass production, in industries such as mechanical engineering, furniture, footwear, clothing, etc. Today standard costing affects all existing areas of business. Managers are implementing this costing system for several purposes:

  • To help its marketing department maintain an effective pricing policy
  • For the preparation of reports that reliably reflect the position of their business
  • For budget planning and controlling to ensure effective functioning of the enterprise (material usage budget, funds budget, forecast report on financial results, etc.)
  • As a tool for management, budgeting, and making of correct decisions leading to profit maximization, production expansion, and investment inflow.

The main purpose of the standard costing system is to identify losses and deviations in the company’s profits. The system is based on preliminary (before the start of the production process) cost regulation. The amount of costs in the coming period is calculated based on the already achieved level and the planned reduction.

Detected deviations from the established standard cost rates are analyzed to find out the reasons for their occurrence. This allows the management to quickly adjust production costs. Accurate identification of deviations from established cost standards helps to improve the cost standards themselves. The advantage of the standard costing system is the prompt identification and prevention of negative trends in the process of forming the costs and profits of the organization.

Leave a Reply

Your email address will not be published. Required fields are marked *