Perhaps no accounting principle utilizes performance management concepts better than standard costing. One of the elements of cost accounting, standard costing is of particular benefit to those companies engaged in manufacturing.
A firm wishing to utilize finances efficiently monitors the following costs:
- Direct Material Costs
- Direct Labor Costs
- Manufacturing Overhead
The process of standard costing is achieved, in part, i.e., identifying a standard cost for each. A typical company may employ a committee to develop a standard costing plan.
Such a committee often involves key personnel such as a Cost Accountant, Production Manager, Personnel Manager and Purchase Manager.
This group clarifies and classifying its costs in more detail, grouping them by some categories such as the examples below:
- Functionality (production, Selling, Distribution, etc.)
- Fixed Costs
- Variable Costs
- Direct Costs
- Indirect Costs
Assuming a company establishes realistic standard costs, it may then monitor performance with an eye on increasing efficeintcy and minimizing waste.
To judge the company on its performance over time, the standard costing team will determine which type of standard to employ. Depending on its goals and industry environment, a company may choose one of the following types of standards:
Maximum Level Standards – presumes that maximum ideal environmental conditions and company conditions are most favorable.
Current Level Standards – developed from recent company conditions and industry environment. Current standards are usually adjusted annually.
Basic Level Standards – provides levels and baselines designed for long term use, perhaps based on average levels over a 10 year period. Basic standards don’t adjust for current conditions, and does not serve monitoring purposes as well.
Each type of standard has its strengths and weaknesses, but regular monitoring and making revisions based upon current conditions incorporates performance management concepts and would seem to present the best chance for success