Standard Cost System
An accounting method using predetermined costs for materials, labor, and overhead to value inventory, establish expectations, and evaluate performance through variance analysis.
Standard Cost System
An accounting method that uses predetermined estimates of what costs should be under efficient operating conditions for materials, labor, and overhead, establishing benchmarks for planning, controlling costs, and evaluating performance.
For instance, a furniture manufacturer might establish standard costs of $200 for materials, $150 for direct labor, and $100 for overhead to produce each dining chair, then compare these standards with actual costs incurred ($210 for materials, $145 for labor, $102 for overhead) to identify and investigate variances.
Standard cost systems serve dual purposes: simplifying inventory valuation by using predetermined rates rather than actual costs, and providing a control mechanism through variance analysis. Standards are typically set through industrial engineering studies, historical data analysis, and management input, with consideration for normal operating conditions. When variances occur, analysis distinguishes between price/rate variances (differences in input costs) and efficiency/usage variances (differences in quantities consumed). Favorable variances indicate better-than-expected performance, while unfavorable variances highlight potential problems requiring investigation. Effective standard costing requires realistic, attainable standards, timely variance reporting, appropriate responsibility assignment, and thoughtful analysis distinguishing between controllable and uncontrollable factors affecting performance.