Without standards, many cost control problems would go undetected until considerable damage is done. Pricing DecisionsA company’ s product pricing decisions are greatly influenced by costs. When the cost of a product is used in determining its selling price, standard costs are used more often than actual costs, as standard costs reflect the desired or expected cost of a product, whereas actual costs may include efficiencies or inefficiencies of production that are not expected to prevail and that cannot be anticipated when the pricing decision is made. Performance AppraisalThe performance evaluation of employees is an onerous task, involving different variables, some of them being subjective and hence difficult or inappropriate to use in comparing employees.
When standards are established for evaluating employee performance, they provide tangible measurement inputs that can be applied uniformly to all employees. Cost AwarenessMost employees have little or no awareness of the cost associated with business activities. Standard costs and standard cost performance reports often inform employees about the cost implications of their actions. Such cost awareness may result in better employee efforts at cost control. Management by ObjectivesThis is a concept in which managers establish specific objectives for all business activities.
When such activities are within the desired performance levels, little or no management action is necessary. However, when performance is at wide variance with desired levels, management takes suitable action. Standards provide the quick, ready reference for identifying and reporting variances from acceptable performance levels. Variance AnalysisStandards may be set and variance computed not only for each cost element but also for each of the factors which determine the cost. The variances of particular elements of cost and those relating to quantity and price are known as principle variances.
When variances and analyzed, a principal variance may be found to have a number of constituent parts. A cost variance which is only a part of the principal variance is known as a sub-variance. Variances may be expressed either in amounts or in percentages. When it is expressed in amount, the variance is calculated by subtracting the actual cost from the standards cost. To express variance as a percentage, the ratio of actual cost to the standard cost is multiplied by 100.
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