# Standard Costing — Fundamentals
## Key Definitions
### Standard Cost
What cost should have been incurred — determined on a scientific basis.
| Feature | Standard Cost | Estimated Cost |
|---|---|---|
| Meaning | What cost should be | What cost will be |
| Basis | Scientific determination | Adjustment of past figures to future changes |
| Purpose | Cost control | Quoting selling price for new products |
| System | Standard costing system | Historical cost system |
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### Standard Costing
A method of costing that compares actual cost with standard cost.
Four Steps:
1. Fix realistic standard cost for each element (material, labour, overheads)
2. Compare actual cost with standard cost → compute variance
3. Analyse variances → find reasons for adverse variances
4. Management takes corrective action
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### Variance Analysis
The process of investigating variances:
1. Calculate the actual amount of each variance
2. Find the reasons behind unfavourable variances
3. Assign responsibility to the relevant department/person and take corrective action
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## Why Standard Costing is Preferred
1. Future cost prediction — Helps evaluate projects/orders for decision making
2. Target setting — Fixes cost targets; management monitors continuously and acts on deviations
3. Budgeting & performance evaluation — Enables setting of flexible budgets; traces responsible departments for adverse variances
4. Interim profit measurement & inventory valuation — Standard costs allow profitability statements to be prepared at any interim date
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## Standard Costing vs Budgetary Control
| Feature | Standard Costing | Budgetary Control |
|---|---|---|
| Basis of control | Actual cost vs Standard cost of actual output | Actual figures vs Budgeted figures (sales, production, capital) |
| Scope | Narrow — production costs only | Wide — all business operations (sales, capital, expenses) |
| Focus | Each element of cost (detailed) | Overall profitability & financial position |
| Accounts covered | Cost accounts only | Financial accounts + Cost accounts |
| Method | Detailed variance analysis per cost element | Control of total revenues and expenses based on estimates |
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## Key Principle
> "Calculation of variances in standard costing is not an end in itself, but a means to an end."
Variance analysis is useful only when management takes prompt and effective corrective action on the analysed variances. The value lies in the action taken, not the calculation itself.