Budgets tell a business what total spending to expect. Standard costing goes down to the level of one unit. It says what one bag, one litre or one hour of service should cost, if materials are bought at the planned price, used at the planned rate, and workers are as productive as planned.
Every difference between that yardstick and what really happened is a variance, and variances point managers to where they need to look.
This topic introduces standard costing: what it is, what it is for, how a standard costing system operates, how a standard cost card is built, and the four types of standard (ideal, attainable, basic and current). It also adds a background section on the advantages and disadvantages of standard costing, which examiners have asked for and the syllabus does not set out. The next topics calculate the material, labour, overhead and sales variances.
In 30 seconds
A standard cost is a predetermined estimate of cost under specified working conditions. Standard costing is a control technique that compares standard costs and revenues with actual results to obtain variances, which are used to stimulate better performance. It has two main uses: valuing inventory and cost of production, and controlling cost by analysing variances.
A system sets standards, records actual costs, compares them, analyses the variances, and uses the information. A standard cost card shows the standard cost of one unit. Standards may be ideal (perfect conditions), attainable (normal efficient conditions), basic (fixed for years) or current (based on present conditions). Adverse variances reduce profit and favourable variances increase it.
What standard costing is
CIMA’s terminology defines standard costing as a control technique that compares standard costs and revenues with actual results to obtain variances, which are used to stimulate improved performance. A standard cost is a predetermined estimated cost under specified working conditions. Its main purposes are to give a basis for control through variance accounting, for valuing stock and work in progress, and in some cases for fixing selling prices.
Standard costing can be used with absorption costing and with marginal costing.
Purposes of standard costing
- Valuing inventory and the cost of production. Units of output, and so stock, work in progress, cost of production and cost of sales, are valued at standard cost. This is simpler than recording each actual cost.
- Controlling cost. Standards are set, actual results compared with them, and the variances analysed. Management is shown where results differ from plans and can take corrective action.
Related uses include budgeting (the budget is built from standard costs and planned volumes), performance evaluation, decision making and, in some businesses, setting selling prices.
How a standard costing system operates
- Set standard costs for products or services. This means fixing the standard quantity of materials per unit and their standard price, the standard hours per unit and the standard wage rate, and the standard fixed and variable overhead costs per unit.
- Record actual costs. Track actual materials bought and used, actual labour hours worked and actual overhead incurred.
- Compare standard with actual. Calculate the variances. A variance is favourable when actual cost is lower than standard cost and adverse (unfavourable) when actual cost is higher.
- Analyse the variances. Investigate why they arose. An adverse materials usage variance, for example, may point to poor handling.
- Use the information. Variances show where management should investigate and where savings can be made. They also feed performance evaluation, budgeting and decisions.
Points to remember
- In a standard costing system, all units of output are valued at standard cost, so cost of production and cost of sales are at standard cost.
- Actual costs differ from standard costs. A cost variance is the difference between actual cost and standard cost.
- Actual cost above standard cost: adverse (A) or unfavourable (U). Actual cost below standard cost: favourable (F).
- Variances are calculated for direct materials, direct labour, variable production overhead and fixed production overhead. There are also sales variances.
- In the cost accounts, cost variances are adjustments to profit for the period. Favourable variances increase profit and adverse variances reduce it.
- The method of calculating variances is similar for all variable production costs (materials, labour, variable overhead). Fixed production overhead needs a different method.
The standard cost card
A standard cost card sets out the standard cost of one unit of product or service. Take a bag made by a leather company. Budgeted output is 8,000 bags and the company expects to use 20,000 direct labour hours (2.5 hours a bag). Budgeted fixed production overhead is ₦7,000,000.
| Standard cost card: one Bag | Working | ₦ |
|---|---|---|
| Direct material: leather | 2.5 m² @ ₦1,200 | 3,000 |
| Direct material: zips | 2 @ ₦150 | 300 |
| Total direct materials | 3,300 | |
| Direct labour: skilled | 1.5 hours @ ₦1,500 | 2,250 |
| Direct labour: unskilled | 1.0 hour @ ₦800 | 800 |
| Total direct labour | 3,050 | |
| Standard direct cost | 6,350 | |
| Variable production overhead | 2.5 hours @ ₦200 | 500 |
| Standard variable production cost | 6,850 | |
| Fixed production overhead | 2.5 hours @ ₦350 (₦7,000,000 ÷ 20,000 hours) | 875 |
| Standard full production cost | 7,725 | |
| Standard profit | 2,275 | |
| Standard selling price | 10,000 |
Management arrives at the standard full production cost by deciding on:
- the budgeted prices of materials, labour and expenses;
- how efficiently employees should use materials;
- the skills of the workforce; and
- the budgeted overhead costs and the budgeted volume of activity.
Under marginal costing, the card stops at standard variable production cost (₦6,850), and the contribution per unit would be ₦10,000 − ₦6,850 = ₦3,150 (ignoring variable selling costs). Fixed overhead is not absorbed.
How the figures on the card are found
| Item | Quantity or time standard from | Price or rate standard from |
|---|---|---|
| Direct materials | Product specification, engineering design, test runs and past usage, allowing for normal wastage | Purchasing department quotes, supplier agreements and expected price changes |
| Direct labour | Time and motion studies, work measurement and past records, with allowance for normal rest and idle time | Wage agreements, pay scales and expected pay increases for each grade |
| Variable overhead | Hours of the activity base (labour or machine hours) per unit | Budgeted variable overhead ÷ budgeted hours |
| Fixed overhead | Hours per unit | Budgeted fixed overhead ÷ budgeted hours (or units) |
Types of cost standard
Management must decide how demanding to make a standard. Should it assume perfect performance in perfect conditions, or something that people can reasonably achieve? Each choice has behavioural effects.
| Type | Meaning | Behavioural and practical effects |
|---|---|---|
| Attainable standard | Can be achieved under normal, efficient operating conditions. It allows for normal losses and normal wastage. It may look hard but not impossible | Gives employees a useful psychological incentive because it is a realistic target |
| Ideal standard | Can be achieved only under perfect conditions. No allowance for losses, wastage, idle time or machine breakdown | Gives no incentive to work efficiently because it nearly always produces adverse variances. But it can show management where the biggest improvements could be made |
| Basic standard | Kept unchanged from year to year, to measure changes over a long time | The least useful and least used standard |
| Current standard | Applies for a short period and is based on present working conditions | Should be reviewed as prices and methods change. Its drawback is that it does not try to improve on current efficiency |
Illustration. The ideal material usage for a product is 4.0 kg. The firm knows that normal wastage in cutting and handling is 10% of the ideal quantity. The attainable standard is therefore 4.0 + 0.4 = 4.4 kg. If actual usage is 4.3 kg per unit, the variance is favourable (0.1 kg) against the attainable standard but adverse (0.3 kg) against the ideal standard.
The same performance is judged very differently, which shows why the level of the standard matters for motivation.
Standard costing in the accounts
Because everything is valued at standard cost, the cost accounts record material stock, work in progress, finished goods and cost of sales at standard. The differences between actual and standard are recorded in separate variance accounts, and are transferred to the income statement at the end of the period as adjustments to profit.
Example. The standard price of leather is ₦1,200 per m². 5,000 m² are bought at an actual price of ₦1,210. Material is held at standard cost, so the price variance is recorded when it is bought.
| Entry | Debit | Credit | ₦ |
|---|---|---|---|
| Materials bought | Materials inventory (5,000 × ₦1,200) | Payables (5,000 × ₦1,210) | 6,050,000 |
| Price variance | Materials price variance (5,000 × ₦10) | 50,000 |
The inventory is debited with ₦6,000,000 at standard, the price variance account with ₦50,000 (adverse), and payables credited with the actual ₦6,050,000. At the period end, the balance on the variance account is transferred to the income statement as a reduction of profit. This is why the material price variance is usually calculated on the quantity purchased: it keeps stock at standard cost.
Background: advantages and disadvantages of standard costing
Background: the syllabus does not list these, but examination papers have asked for four of each.
| Advantages | Disadvantages |
|---|---|
| Cost control. Variances show where actual results depart from plan, so managers can act early | Costly to set up and maintain. Setting standards for each product takes time and expertise, and standards must be updated often |
| Management by exception. Managers concentrate on significant variances and leave results on target alone | Standards go out of date. In periods of high inflation or rapid change, prices and methods move quickly and the standards lose meaning |
| Simplifies record keeping and stock valuation. All stock and production are valued at standard cost | Unsuitable for non-standard output. It does not work well for one-off jobs or products that vary a great deal |
| Basis for budgets and pricing. The standard card feeds budgets, quotations and prices | Behavioural problems. Variances may lead to blame, or to managers manipulating results or hiding problems |
| Motivation. Attainable standards give staff clear targets | Narrow focus on cost. Pursuing favourable variances may harm quality, customer service or delivery |
| Performance evaluation. Variances give an objective measure for individuals and departments | Variances may be interrelated. Buying cheap material may cause a favourable price variance but an adverse usage variance, so each variance alone can mislead |
The ideas in more depth
Who should set the standards?
A standard imposed from above may be resented. A standard agreed with those who must meet it is more likely to be accepted. Typically the cost accountant works with production engineers, purchasing staff and supervisors. Each gives technical input, and the accountant records the result in naira.
How often should standards be revised?
Standards should be reviewed regularly and whenever prices or methods change. In an economy with high inflation, a standard price fixed at the start of the year may be obsolete in months, which causes large price variances that say little about buying performance. Some firms revise price standards quarterly, or report price changes separately as an “external” variance that management cannot control.
Controllable and uncontrollable variances
A variance is only a signal. The management response depends on whether the cause is controllable. A supplier’s unexpected price rise is outside the buyer’s control, though the firm may respond by finding new suppliers. Poor handling causing wastage is within the factory manager’s control. Variance reports should give the cause and the person responsible.
Significance and investigation
Small variances occur by chance and are not worth investigating. A firm may set rules, for example investigating any variance greater than 5% of standard cost or ₦100,000. It may also look for trends: several small adverse variances in a row can matter more than one large one.
Standard costing and marginal costing
Standard costing is a way of setting and measuring costs. It can be used with either absorption costing (standard card includes fixed overhead absorbed per hour) or marginal costing (standard card shows only variable costs). With marginal standard costing, fixed overhead has only an expenditure variance and no volume variance.
Worked example: building a standard cost card
Scenario. Ilorin Soap Ltd makes one bar of soap. Each bar uses 0.5 kg of palm oil at ₦3,000 per kg and 0.1 kg of caustic soda at ₦2,000 per kg. Direct labour is 0.25 hours at ₦1,200 per hour. Variable production overhead is ₦400 per labour hour. Budgeted fixed production overhead is ₦2,400,000 for the year, based on budgeted output of 20,000 bars (5,000 labour hours). The firm adds a mark-up of 25% on standard full production cost.
Prepare the standard cost card and find the standard selling price.
- Palm oil:
0.5 × ₦3,000 = ₦1,500.
Caustic soda: 0.1 × ₦2,000 = ₦200.
Direct materials = ₦1,700. - Direct labour:
0.25 × ₦1,200 = ₦300. - Standard direct cost.
₦1,700 + ₦300 = ₦2,000. - Variable overhead:
0.25 × ₦400 = ₦100.
Standard variable production cost = ₦2,100. - Fixed overhead rate:
₦2,400,000 ÷ 5,000 hours = ₦480 per hour.
Per bar: 0.25 × ₦480 = ₦120. - Standard full production cost.
₦2,100 + ₦120 = ₦2,220. - Mark-up 25%:
₦2,220 × 0.25 = ₦555.
Standard selling price = ₦2,220 + ₦555 = ₦2,775.
Why standards matter to the later variance topics
Every variance in the next topics is the difference between a standard and an actual figure. Learn the four building blocks now, because they are used repeatedly:
| Cost | Standard quantity or time | Standard price or rate | Variances that follow |
|---|---|---|---|
| Direct materials | kg per unit × actual units produced = standard quantity | ₦ per kg | Price and usage (with mix and yield) |
| Direct labour | Hours per unit × actual units produced = standard hours | ₦ per hour | Rate, idle time and efficiency |
| Variable overhead | Hours per unit × actual units = standard hours | ₦ per hour | Expenditure and efficiency |
| Fixed overhead | Budgeted hours or units | ₦ per hour or per unit | Expenditure and volume (capacity and efficiency) |
| Sales | Budgeted sales volume | Standard selling price and standard profit | Price and volume (quantity and mix) |
The key idea is the flexed standard: the standard cost of the actual output. For the soap example, if 18,000 bars are made instead of the budgeted 20,000, the standard cost of actual output is 18,000 × ₦2,220 = ₦39,960,000, not the ₦44,400,000 of the budget. Variances compare actual cost with this flexed standard.
Check the flexed standard quantities for the soap: oil 18,000 × 0.5 = 9,000 kg; caustic soda 18,000 × 0.1 = 1,800 kg; labour 18,000 × 0.25 = 4,500 hours. If actual oil used was 9,300 kg, the usage variance is (9,300 − 9,000) × ₦3,000 = ₦900,000 adverse. These numbers are worked in the next topic.
Common mistakes in the exam
- Calling a variance favourable when actual cost is above standard cost, or the reverse.
- Confusing standard costing (a control technique that compares standard with actual) with budgeting (a total plan).
- Describing ideal standards as attainable.
- Forgetting that a standard cost card includes the quantity and the price (or time and rate) for each element.
- Using the wrong activity base for the overhead rate on the card.
- Treating variances as problems only when adverse. Large favourable variances may point to poor standards or to quality problems.
- Listing the steps in operating a system without explaining them.
Quick revision
- Standard cost = predetermined estimate under specified conditions. Standard costing = compare standard with actual to get variances.
- Uses: valuing stock and production at standard; control through variances.
- Steps: set standards; record actual; compare; analyse; use the information.
- Favourable = actual cost below standard. Adverse = actual cost above standard. Variances adjust profit.
- Standard cost card: materials (quantity × price), labour (hours × rate), variable overhead, fixed overhead, standard profit, selling price.
- Types: ideal, attainable, basic, current.
Practice questions
These are original questions written in the style of the Institute of Chartered Accountants of Nigeria (ICAN) exam. Try each one before you open the answer.
Section A style: multiple choice
Question 1. A standard cost is best described as:
- The actual cost of the last period
- A predetermined estimated cost under specified working conditions
- The selling price
- A budgeted profit
Show the answer
B. It is a predetermined estimate.
Question 2. An adverse cost variance arises when:
- Actual cost is less than standard cost
- Actual cost is more than standard cost
- Actual cost equals standard cost
- Sales exceed budget
Show the answer
B. Costs were higher than planned.
Question 3. A standard that can be achieved only under perfect working conditions is:
- An attainable standard
- An ideal standard
- A basic standard
- A current standard
Show the answer
B. It allows no wastage, idle time or breakdown.
Question 4. Which standard gives employees a realistic target and so a useful incentive?
- Ideal
- Attainable
- Basic
- None
Show the answer
B. It can be achieved under normal efficient conditions.
Question 5. A standard that is left unchanged for several years is:
- A basic standard
- An attainable standard
- A current standard
- An ideal standard
Show the answer
A. It measures long-term changes.
Question 6. Favourable variances:
- Reduce reported profit
- Increase reported profit
- Have no effect
- Are never recorded
Show the answer
B. They are adjustments that increase profit.
Question 7. A standard card shows 2 kg of material at ₦500 per kg and 3 hours of labour at ₦400 per hour. The standard direct cost per unit is:
- ₦2,200
- ₦1,900
- ₦5,000
- ₦2,500
Show the answer
A. (2 × ₦500) + (3 × ₦400) = ₦1,000 + ₦1,200 = ₦2,200.
Question 8. Budgeted fixed overhead is ₦600,000 and budgeted hours are 20,000. A unit takes 4 hours. The fixed overhead per unit on the card is:
- ₦30
- ₦120
- ₦150
- ₦600
Show the answer
B. Rate ₦30 per hour × 4 hours = ₦120.
Question 9. In a standard costing system, stock is valued at:
- Actual cost
- Standard cost
- Selling price
- Last purchase price
Show the answer
B. Output is valued at standard cost.
Question 10. Standard costing is unsuitable for:
- Large volumes of identical products
- One-off jobs of varying specification
- Repetitive manufacture
- Standard services
Show the answer
B. No stable standard exists for non-standard output.
Section B style: written questions
Question 11 (10 marks). Define standard costing and explain its purposes. Describe the steps in operating a standard costing system.
Question 12 (20 marks). Sokoto Mats Ltd makes prayer mats. Each mat uses 1.5 kg of yarn at ₦2,000 per kg and 0.4 kg of dye at ₦4,000 per kg. Direct labour is 0.8 hours at ₦750 per hour. Variable production overhead is ₦300 per labour hour. Budgeted fixed production overhead is ₦1,200,000 for the year on budgeted output of 5,000 mats (4,000 hours). The mark-up is 20% on standard full production cost.
(a) Prepare the standard cost card per mat. (10 marks)
(b) Calculate the standard selling price. (3 marks)
(c) State and explain four types of standard. (4 marks)
(d) State three advantages and three disadvantages of standard costing. (3 marks)
A further written question
Question 13 (10 marks). (a) The ideal usage of a material is 5 kg per unit. Normal wastage is 8% of the ideal quantity. Calculate the attainable standard. (2 marks) (b) Actual usage was 5.3 kg per unit. State the variance per unit against each standard, in kg. (4 marks) (c) Explain which standard is more likely to motivate staff. (4 marks)
Model answers
Show the model answer to Question 11
Definition. Standard costing is a control technique that compares standard costs and revenues with actual results to obtain variances, which are used to stimulate improved performance. A standard cost is a predetermined estimated cost under specified working conditions.
Purposes. (1) To value inventory and cost of production at standard cost, which simplifies the accounts. (2) To control costs: by setting standards and analysing variances, management is shown where performance departs from plan and can take corrective action. It also supports budgeting, performance evaluation and pricing.
Steps. (1) Set standard costs: quantities and prices of materials, hours and rates of labour, and overhead per unit. (2) Record actual costs of materials, labour and overheads. (3) Compare actual with standard to calculate variances, favourable if actual cost is lower and adverse if higher. (4) Analyse the variances to find their causes. (5) Use the information to control costs, evaluate performance and improve budgets and decisions.
Show the model answer to Question 12
(a) Standard cost card per mat.
- Yarn 1.5 kg × ₦2,000 = ₦3,000.
- Dye 0.4 kg × ₦4,000 = ₦1,600.
- Direct materials ₦4,600.
- Direct labour 0.8 hours × ₦750 = ₦600.
- Standard direct cost ₦5,200.
- Variable production overhead 0.8 × ₦300 = ₦240.
- Standard variable production cost ₦5,440.
- Fixed production overhead.
rate = ₦1,200,000 ÷ 4,000 = ₦300 per hour - 0.8 × ₦300 = ₦240.
- Standard full production cost = ₦5,680.
(b)
- Mark-up = 20% × ₦5,680 = ₦1,136.
- Standard selling price = ₦6,816.
(c) Types. Ideal: achievable only in perfect conditions, with no allowance for wastage, idle time or breakdown. Attainable: achievable under normal efficient operating conditions, allowing for normal losses and wastage. Basic: kept constant for years to measure long-term change. Current: based on current conditions and reviewed as they change.
(d) Advantages: cost control through variances; management by exception; simpler stock valuation and record keeping. Disadvantages: costly to set and keep up to date; standards become obsolete in times of rapid price change; unsuitable for non-standard output.
Show the model answer to Question 13
(a) Attainable standard = 5 kg + (8% × 5 kg = 0.4 kg) = 5.4 kg.
(b)
- Against the attainable standard.
5.4 − 5.3 = 0.1 kg favourable. - Against the ideal standard.
5.3 − 5.0 = 0.3 kg adverse.
(c) The attainable standard is more likely to motivate. It is realistic under normal efficient conditions, so staff can meet it and see the credit for doing so. An ideal standard produces adverse variances almost all the time, which can discourage people, as no effort seems to be good enough. The ideal standard can still be useful to management for showing the maximum possible improvement.
Pathfinder on Standard costing, operation and cost cards
These are the ICAN Pathfinder questions that test this topic. ICAN owns the questions and the suggested solutions, so we point you to them and do not copy them. Open your Pathfinder, attempt each question under exam conditions, then check your answer against the notes above.
Part (a) asks for four advantages and four disadvantages of standard costing (4 marks). Part (b) gives a standard cost for a household item and asks for variances. The advantages and disadvantages are in the background section.
Revise first: Background: advantages and disadvantages of standard costing
A standard costing question for a single cost centre, giving the standard selling price and the standard costs of materials and labour, and asking for variances and a reconciliation of profits.
Revise first: The standard cost card
Multiple-choice items can test the types of standard, the meaning of favourable and adverse variances, and standard cost cards. Check Section A of every diet you practise.
Revise first: Types of cost standard
Source: ICAN Pathfinder, Management Accounting. Diets covered: May Diet, 2026 and November Diet, 2025. May Diet, 2025 and November Diet, 2024 are not covered here.
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