## **Learning Outcomes**

By the end of this article, you will know the purpose and principles of standard costing, how to set cost standards, and the types of standards used in organisations. You will be able to explain the role of standard costs in cost control, budgeting, and performance measurement, and distinguish between basic, ideal, attainable, and current standards. You will also understand how standards underpin variance analysis for management control.

## **ACCA Management Accounting (MA) Syllabus**

For ACCA Management Accounting (MA), you are required to understand the fundamentals of standard costing systems, including the rationale for using standard costs and how they are established. Specifically, you should focus your revision on:

- The purpose and use of standard costing in cost control and budgeting
- The process of setting standard costs for materials, labour, and overheads
- The difference between standard, marginal, and absorption costing
- The main types of standards: basic, ideal, attainable, and current
- How standard costs are used as a benchmark for variance analysis and management control

## **Test Your Knowledge**

_Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision._

1. Which of the following best describes an attainable standard?
   a) Based on perfect conditions  
   b) Based on efficient but expected conditions  
   c) Based on current average performance  
   d) Set at historic levels with no changes

2. True or false? Basic standards are frequently updated to reflect current performance.

3. What is the main purpose of setting standard costs for materials, labour, and overhead?

4. Name the four main types of cost standards used in standard costing.

## **Introduction**

Standard costing is a method used by organisations to determine in advance what each unit of production or service should cost. These pre-set costs—known as standards—are then used as benchmarks for actual performance, supporting planning, monitoring, and performance evaluation. Setting standards is essential for effective cost control and variance analysis. Understanding the different types of standards and the process for establishing them is essential for the ACCA exam.

> **Key Term: standard cost**
> A predetermined unit cost based on expected levels of efficiency, serving as a benchmark for measuring actual performance.

## WHY SET STANDARDS?

Setting standard costs allows businesses to:

- Plan production and control costs
- Prepare budgets efficiently
- Monitor actual results against targets (control)
- Identify areas for improvement via variance analysis

> **Key Term: standard costing**
> The use of predetermined costs for products or services to support budgeting, control, and performance management.

## HOW ARE STANDARDS SET?

Defining a standard cost involves careful consideration of:

- The technical specifications of materials and processes
- Expected efficiency and wastage levels
- Likely market and operational conditions
- Input from engineering, costing, and production teams
  Standards should be challenging but achievable, promoting efficient resource use without being unrealistic.

### **Factors to consider when setting standards**

- Normal expected wastage or inefficiency levels
- Anticipated labour performance and machine capacity
- Typical material prices and wage rates
- Usual production methods and batch sizes

> **Key Term: standard hours**
> The amount of time that should be taken to make one unit, used as a basis for setting labour or machine time standards.

## TYPES OF COST STANDARDS

There are four main types of standards used when setting standard costs in a system:

### 1. Basic standards

- Established for long-term use, often remaining unchanged for several years
- Primarily used to measure trends in price or efficiency rather than for current control
- Provide a baseline for long-term performance tracking but rarely reflect current operational reality

### 2. Ideal standards

- Assume perfect efficiency with no wastage, breakdowns, or idle time
- Represent the theoretical minimum possible cost under flawless conditions
- Rarely attainable in practice and may be demotivating for employees

### 3. Attainable standards

- Reflect expected results under efficient but practical operating conditions
- Include normal losses, expected breakdowns, and usual stoppages
- Are the most widely used in business, balancing challenge and achievability

### 4. Current standards

- Based on existing efficiency levels and working conditions
- Adjusted to reflect recent performance or market rates
- Encourage performance maintenance but may not drive improvement

> **Key Term: basic standard**
> A long-term standard cost, set to observe trends but not regularly updated for current conditions.
>
> **Key Term: ideal standard**
> A standard cost reflecting perfect operating conditions with no allowances for inefficiencies.
>
> **Key Term: attainable standard**
> A practical standard cost incorporating normal inefficiencies and anticipated operational activities.
>
> **Key Term: current standard**
> A standard cost reflecting current levels of performance and operating conditions.

## SETTING STANDARD COSTS FOR COMPONENTS

Standards can be created for all cost elements:

- **Materials:** Specify standard quantity and price per unit
- **Labour:** Specify standard hours and wage rates
- **Variable overheads:** Based on standard hours or output volumes
- **Fixed overheads:** Usually absorbed per unit or per hour based on budgeted activity

Standard cost cards summarise these standards for a single unit, assisting in efficient budget preparation and cost control.

### **Worked Example 1.1**

A company manufactures Product Z. Standard cost details per unit are:

- Material: 2 kg @ \$8/kg
- Labour: 0.5 hrs @ \$12/hr
- Variable overhead: \$2 per labour hour
- Fixed overhead (absorption): \$4 per unit

**Question:** What is the total standard cost per unit (absorption costing style)?

> **Answer:**  
> Materials: 2 × \$8 = \$16  
> Labour: 0.5 × \$12 = \$6  
> Variable overhead: 0.5 × \$2 = \$1  
> Fixed overhead: \$4  
> **Total standard cost per unit = \$27**

## CHOOSING THE RIGHT STANDARD

The choice of standard affects the usefulness of variance analysis and impacts employee motivation:

- **Basic or ideal standards:** Good for measuring maximum possible improvement or long-term trends, but not suitable for day-to-day control or linking to bonus systems.
- **Attainable standards:** Provide the best control balance—realistic targets, motivate staff, and enable effective variance monitoring.
- **Current standards:** Useful for comparison with recent results, but may not stimulate improvement.

### **Worked Example 1.2**

An engineering firm sets an ideal standard for labour time: 1.5 hours per unit. Recent performance averages 2 hours per unit (attainable). In the last month, average achieved was 2 hours.

**Question:** What is the likely effect of comparing actual to ideal versus attainable standards?

> **Answer:**  
> Comparing to ideal (1.5 hrs) shows a large adverse variance—possibly discouraging staff.  
> Comparing to attainable (2 hrs) shows expected performance—useful for control and fair evaluation.

### **Exam Warning**

> Setting standards too high (ideal) can demotivate staff, resulting in lower productivity. Standards set too low (current) may fail to drive improvement or efficiency gains.

### **Revision Tip**

> Always state both the type of standard used and its justification if asked to describe your approach to standard costing in the exam.

## THE ROLE OF STANDARDS IN VARIANCE ANALYSIS

Once established, standard costs allow regular comparison of actual against planned figures for all cost components:

- **Favourable variance:** Actual cost lower than standard—efficiency gain or cost saving
- **Adverse variance:** Actual cost higher than standard—potential inefficiency or control issue

Regular analysis allows quick identification of issues and supports prompt management action.

### **Worked Example 1.3**

A production manager uses attainable standards in their cost card. This month, the actual material cost per unit was \$17, but the standard was \$16.

**Question:** What is the variance, and what does it indicate?

> **Answer:**  
> Actual cost (\$17) – Standard cost (\$16) = \$1 adverse variance per unit  
> Indicates higher material cost than expected—investigate supplier prices, purchasing practices, or wastage.

## **Summary**

Standard costing systems use pre-set costs as a basis for planning and control. Setting appropriate standards is essential—they must be realistic so that performance monitoring is fair and effective. There are four main types of standards: basic (trend-only), ideal (perfection), attainable (efficient yet realistic), and current (actual recent conditions). Setting standards supports the preparation of budgets, establishment of standard cost cards, and analysis of variances for management action.

## **Key Point Checklist**

_This article has covered the following key knowledge points:_

- The purpose and benefits of standard costing in planning, control, and performance measurement
- The rationale, process, and principles of setting standards for cost components
- The four main types of cost standards: basic, ideal, attainable, and current
- The implications and use of each standard type for control and motivation
- How standards underpin variance analysis for monitoring efficiency and cost control

## **Key Terms and Concepts**

- standard cost
- standard costing
- standard hours
- basic standard
- ideal standard
- attainable standard
- current standard

Standard costing systems - Setting standards and types of standards