cost accounting

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Executive Summary

By looking at the calculation result from Appendix, we are aware that the efficiency variances for material, labour and variable overhead, the labour price variance and spending variance for variable and fixed overhead turn out to be unfavourable and favourable. These results can be used to evaluate the Jigsaw department, and give the performance evaluation of Jason Cheng (department¡¯s manager), Thomas Licuria (purchasing manager), Christine Tarrant (production manager). It is followed by detailed explanation of approaches specified in the development of the standard costing system; variance analysis, performance evaluation and reward system respectively, and the proper recommendations to improve those three areas.


Strattenberg Toys that a privately owned company in the manufacture of toys, puzzles, games and jigsaws has been operating for over 0 years. Each department is responsible for production, distribution and customer service related to its products. Research and Development, Product and Process Design and Marketing are undertaken centrally. The company had a great reputation in their industry. The Jigsaws Department began operations in March 00 and has finished its first full financial year of operations.

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The jigsaw department adopt new standard costing system during the year. They collect information from three main resources

¡¤ The information is collected from other departments about their standard production costs where different department has different process.

¡¤ Information was also collected from the department¡¯s raw materials purchasing manager, Thomas Licuria, and the production manager, Christine Tarrant regarding their estimation of costs and usage for material, labour, indirect manufacturing costs.

¡¤ Collect information on production costs incurred in the first three months of Jigsaw¡¯s operations.

Purpose of standard cost systems and variance analysis

Standard cost system were initiated by manufacturing companies, it can also be used by service and not-for-profit organization. In a standard cost system, both standard and actual costs are recorded in the accounting records. This dual recording provides an essential element of cost control have norms against which actual operations can be compared. Standards cost systems make use of standard costs, which are the budgeted costs to manufacture a single unit of product or perform a single service. Developing a standard cost involves judgment and practicality in identifying the material and labour types, quantities, and prices as well as understanding the kinds and behaviours of organizational overhead.

A standard cost system has three basic functions collecting the actual costs of a manufacturing operation, determining the achievement of that manufacturing operation, and evaluation performance through the reporting of variances from standard.

For each item of direct material, for each labour operation, and for factory overhead attributable to each department, actual costs are measured against standard cost, resulting in differences. These differences are analyzed and identified as specific types of standard cost variances. Variance analysis is the process of categorizing the nature (favourable or unfavourable) of the differences between actual and standard costs and seeking explanations for those differences. A well-designed variance analysis system captures variances as early as possible, subject to cost-benefit assessments. The system should help managers determine who or what is responsible for each variance and who is best able to explain it. An early measurement and reporting system allows managers to monitor operations, take corrective action if necessary, evaluate performance, and motivate workers to achieve standard production. As standard costs provide a basis for management by exception. Exceptions (variances) can be isolated and responsibility for these exceptions assigned. The materials price, materials quantity, labour rate, labour efficiency, and overhead budget and efficiency variances are used to isolate exceptions to what was expected about direct costs in advance of production. Consideration of these exceptions can result in changes in how products are manufactured or priced.

To control cost, the managers should determine the reasons for each significant variance by investigating the circumstances that caused it. Effective action can be taker only when the caused of cost variances are known.

Performance Evaluation and discussion

Jason Cheng

Jason Cheng, Jigsaws Department¡¯s manager has been with Strattenberg for 6 years. Before becoming manager of the Jigsaw department, he was manager of the company¡¯s Model Toy department. The bonus received by Jason depends on the base of % of department¡¯s profit as long as net profit was higher than $60,000. From table 1, the operating income is $6,658 which it is higher than $60,000. Through the calculations, Jason should get $10,7.74 as his bonus. Generally speaking, Jason had good performance during the year, because the department making profits more than anticipated. On the other hand, the favourable conclusion could be explained by two main reasons. The first reason is about the Jigsaw revenue factor. The Jigsaw¡¯s revenue has been increasing during the periods. It caused higher demands than the expectation. The other reason could be Jason Cheng did good management that increasing the quality of the production despite he just he has little experience in the manufacture of jigsaws.

Thomas Licuria.

Thomas Licuria is the department¡¯s purchasing manager. He is responsible on purchasing production materials (Paper, Cardboard and Cardboard box). The bonus would pay to him based on the material price variance if the variance is favourable. Because he managed to get the price discount for purchasing the paper and the cardboard of 0% and 16% respectively, so through the calculations, given the purchased price variance, Thomas will get $5,40, and given the used material price variance, he will get $,756.

Thomas Licuria found the cheaper supplier and got substantial price discounts for both the paper on which the jigsaw image is printed and the cardboard on which the image is glued, of 0% and 16% respectively. It looks good, but, in order to get the discount, he accepted the deal that buying large quantities for both materials from the supplier. In fact, this activities lead to large ending inventories of both paper and cardboards. In order to get additional bonus, Thomas Licuria could ignore in monitoring the quality of the materials. Then, it could lead to ineffective production. This is unfair to Christine who is in charge of the process of production.

Christine Tarrant

Christine Tarrant is the production manager. Her performance should be evaluated by the efficiency variance for material, labour and variable overhead, the labour price variance and the spending variances for variable and fixed overheads. The bonus should base on the above variances. Her performance are $ 55,87.5 of unfavourable in variance of Labour efficiency, 1,504.75 (Unfavourable) of Materials efficiency variance, $ 7,45 (Favourable) of Labour Price Variance, 10,000 (Favourable) of Spending Variance for Fixed overhead.

Due to unexpected sales demand, her production team often had to work overtime at higher labour rates. This became such a problem at times that Christine had to employ several casual machine operators to cover production demand. That is why the occurrence of the unfavourable variance. Christine hired the cheapest labour and reduced the average direct labour hour, as a result, we get favourable variance. Christine managed to reduce the maintenance expenditure of the machine, so the spending variance for fixed overhead was favourable.

Evaluate the approach Jigsaw has taken in the development of following areas.

The standard costing system

In Jigsaw¡¯s standard costing system, both standard costs and actual costs are need to record in the accounting records. This dual recording provides an essential element of cost control having norms against which actual operations can be compared. Jigsaw department use standard costs, which are the budgeted or estimated costs to manufacture a single unit of jigsaw. Standards are traditionally established for each component including material, labour, and overhead of product cost. Jigsaw department¡¯s developing a standard cost involves judgment and practicality in identifying the material and labour types, quantities and prices. A primary objective in producing a single jigsaw is to minimize unit cost while simultaneously achieving certain quality specifications. In other words, the main purpose of the standard cost system in Jigsaw department is to minimise the cost of the product and maximize the revenue, simultaneously produce quality product as well.

Variance Analysis

Jigsaw department¡¯s variance analysis consists of parts. Which are material variance, labour variance and variable manufacturing overhead cost variance.

Direct materials

We can see from the calculations that actual out put price of paper and cardboard is less than the standard cost, only Cardboard boxes is slightly higher. It means the purchasing department did well as the price decrease. But, we still need to notice that purchasing manager bought a large quantities of raw material in order to get the discount. But, it may cause large ending inventories and large inventory cost.

Direct labour

F-b variance for direct labour = $ 745F + $ 5587.5U

= $ 476.5U

The labour rate variance shows the difference between the actual rate paid to labour for the period and the standard rate for all hours actually worked during the period. The comparison of the number of hours actually worked with the standard hours allowed for production-achieved results in the labour efficiency variance, which is $5587.5.

Variable manufacturing overhead

F-b variance for the variable manufacturing overhead = $11880F + $1017U

= $117U

Compare to the standard cost, actual cost is still $117 more. Management should consider some reaction to reduce the cost.

Performance evaluation and reward system

The jigsaw department adopt the evaluation and rewards scheme measured and evaluated against the department¡¯s master budget and its stand cost system as follows

Jason Cheng

As we know that Jason Cheng would receive a bonus equal to % of the department¡¯s profit as long as net profit was higher than $60000. But we should consider that the actual net profit is less than the budgeted, and the cost has been increased. Jason should only receive a bonus if the actual net profit is more than budgeted.

Thomas Licuria

Would receive a bonus equal to 0% of the material price variance if the variance were favourable. But Thomas bought a large quality of raw material and may cause large amount of inventory costs. If the purchasing manager¡¯s performance is evaluated solely on price variance, then the evaluation will be positive, as Thomas bargained effectively. However, these efficiency gains could be offset by higher inventory storage costs or higher inspection cost on Jigsaw production line. Performance measures increasingly focus on reducing the total costs of the company as a whole. In this case, Thomas could still base on the initial policy, but it also need to deduct possible inventory cost from material price variance.

Christine Tarrant

As a production manager, if the net material, labour, and variable overhead, the labour price variance and spending variances for variable and fixed overhead were favourable, she could receive a bonus equal to 4% of those favourable variances. According to her performance, it is not fair for Christine. Because there are many possible causes that Christine can¡¯t control them all. May be due to the poor design of products or processes and the materials efficiency variance increase or poor work in the manufacturing of the Jigsaws. Christine needs to ensure the efficiency of labour at the same time reduced the labour price.


a) the stand costing system

Jigsaw department collected information from the other departments about their production and inputs. Ideally, it should concern about its own standard production costs. Actually, in stead of the information that was collected from the department¡¯s purchasing manager and production manager, the information provided by the professional accountant both inside and outside seemed more reliable.

b) variance analysis

Variance analysis is mainly focus on providing an outcome of calculating the production and purchasing managers¡¯ bonuses. It is recommended that collect more other cost information from other departments to analyse the results.

c) the performance evaluation and reward system

For department¡¯s purchasing and production managers, it is not fair to determine their bonus only based on those variances were favourable or not. For example, purchasing manager could undertake to acquire excessive materials in order to gain own bonus which made the production manager reluctantly to bear the production cost. It is optimal and ideal to specify a bonus base, which combines them together and draw a conclusion after valuing their working performance


Standard costing is appropriate for organisations whose activities consist of a series of repetitive operations. It is therefore most suited to manufacturing organisations, since the processes involved are often of a repetitive nature. Companies use standard costs to trace the flow of costs through its accounting system. The standard cost system has three main advantages Motivation; Planning; Controlling. Companies who use the standard cost system need to do continue improvement to minimize the cost in every particular period.

Variance analysis is often used for performance evaluation and management uses. Two attributes of performance are commonly evaluated

¡¤ Effectiveness the degree to which a predetermined objective or target is met.

¡¤ Efficiency the relative amount of inputs used to achieve a given output level. The fewer the inputs used for a given level of output or the greater the output for a given level of input, the greater the efficiency.

To sum up, Jigsaw didn¡¯t achieve the profit level as the expectation. It may be due to the limitations of the standard costing system and variance; inexperience of the manager in the manufacture of jigsaws and the company had never produced jigsaws before.


1. Neish, W, Management accounting principles and applications, McGraw-Hill

. Mason, Ohio, Cost management accounting and control, Thomson/South-Western

. Barfield, J, Cost accounting traditions and innovations, South-Western College Pub.

4. Robert S. K, Management accounting ( ed.), Upper Saddle River, N.J

5. Maher, M, Cost accounting creating value for management, Irwin


Price Variances for Materials purchased


Price Variance = (Actual Price ¨C Standard Price) Actual Quantity purchased

= ($ 8 - $10) 8,000 sq meters

= $16,000 F


Price Variance = (Actual Price - Standard Price) Actual Quantity purchased

= ($ 6. - $7.5) 8,500 sq. meters

= $10,00 F

Price Variances for Materials Used


Price Variance = (Actual Price ¨C Standard Price) Actual Quantity input

= ($ 8 - $10) 6,00 sq meters

= $1,600 F


Price Variance = (Actual Price - Standard Price) Actual Quantity input

= ($ 6. - $7.5) 5,150 sq. meters

= $6,180 F

Efficiency Variances for Materials Used


Efficiency Variance = (Actual Quantity ¨C Standard Quantity) Budgeted Input Price

= (6,00 ¨C (,15 0.5)) $10

= (6,00 ¨C 5,578.75) $10

= $7,1.50 U


Actual Cost per Meter = Input Price Discount Percentage

= $10 0.8

= $8

Actual Quantity = Actual Total Cost / Actual Cost per Meter

= $50,400 / $8

= 6,00


Efficiency Variance = (Actual Quantity ¨C Standard Quantity) Input Price

= (5150 ¨C (15 0.)) $7.50

= (5150 ¨C 446) $7.50

= $5,15.50 U


Actual Cost per Meter = Input Price Discount Percentage

= $7.50 0.84

= $6.0

Actual Quantity = Actual Total Cost / Actual Cost Per Meter

= $,445 / $6.0

= 5,150 meters

Cardboard Box

Efficiency Variance = (Actual Quantity ¨C Standard Quantity) Input Price

= ($,80 ¨C $,15) $.15

= $1.75 U

Efficiency Variance for Direct Labor

Efficiency Variance = (Actual Quantity ¨C Standard Quantity) Input Price

= ($14,850 ¨C ($,15 0.5)) $15

= ($14,850 ¨C ($11,157.50)) $15

= $55,87.50 U


Actual Cost per Hour = Actual Cost ¨C $0.50

= $15 ¨C $0.50

= $14.50

Actual Quantity = Actual Total Cost / Actual Cost per Hour

= $15,5 / $14.50

= 14,850 hr

Efficiency Variances for Variable Manufacturing Overhead

Efficiency Variance = (Actual Quantity ¨C Standard Quantity) Input Price

= ($14,850 ¨C (,15 0.5)) $8.40

= ($14,850 ¨C $11,157.5) $8.40

= $1,017 U

Price Variances for direct labor

Price Variance = (Actual Price ¨C Standard Price) Actual Direct Labor Used

= ($14.50 ¨C 15.00) 14,850 hours

= $7,45 F


Actual Direct Labor Used = $155 / $14.50 per hour

=14850 hours

Spending Variances for Variable Overhead Manufacturing Cost

Spending Variance = (Actual Price ¨C Budgeted Price) Actual Variable Overhead Used

= ($7.60 - $8.40) 14,850 hrs

= $11,880 F

Spending Variance for Fixed Overhead Cost

Spending Variance = (Actual Price ¨C Flexible Budgeted Price)

= ($5,000 - $5,000)

= 10,000 F

Bonus Schemes

Jason Cheng

% of Operating income if its greater than $60,000

Bonus = % $64,658

= $10,.74

Thomas Licuria

0% of Favorable material price variance based on used

Bonus = 0% (1,600 F + 6180 F)

= $,756

0% of Favorable material price variance based on purchased

Bonus = 0% (16,000 F + 10,00 F)

= $5,40

Christine Tarrant

4% of the following favorable variances

Materials efficiency variance = $ 1,504.75 U

Labour Efficiency Variance = $ 55,87.5 U

Variable overhead Efficiency = $ 1,017 U

Labour Price Variance = $ 7,45 F

Spending Variance for Variable overheard = $ 11,880 F

Spending Variance for Fixed overhead = $ 10,000F

Net Variances = $6,604 U

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