Discuss how standard costing is used in management planning and control systems!

Essay by weibchen January 2004

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Standard costs, flexible budgeting, and variance analysis--all are vital components of an effective cost accounting system. Standard Costs are predetermined costs that are usually expressed on a per-unit basis; they are target costs, costs that should be attained. One can think of a standard as a budget for a single unit. Standard costs are the building blocks of a flexible budgeting and feedback system (the comparison of actual performance with planned performance).

Since the company's main objective is to maximise profit, a planning and control system is essential. Firstly, a strategy that best satisfies the objectives of a company has to be selected. Secondly, the decision has to be implemented into a planning process. Therefore, a budget that relates to the entire activity of a company and to forecasted future revenues and expenditures has to be prepared. Standard costing can assist in budget setting and it supports cost control by setting standards.

Establishing a standard cost for each unit produced enables a detailed analysis of budgeted and actual costs so that costs can be controlled more effectively. Once a budget is set, it becomes the target by which performance is evaluated and measured. A company must remember that targets must be realistic and achievable to motivate people, otherwise the budget will become a source of demotivation. After finishing the budget the input of a company (4 M`s = Manpower, Machines, Money and Material) is going to be transformed to output units during the production process. The production is followed by the control process: actual costs incurred are compared with standards costs to reveal variances, to monitor performance and to provide feedback. A standard cost system highlights exceptions (instances where things are not going as planned). The identification of variances (variance analysis) serves as an early warning system...