Establishing a Standard Cost System
The Tipy Canoe Company makes fiberglass canoes. The fiberglass resin is initially molded to the shape of a canoe, then sanded and painted. Metal or wooden seats and frames are added for stability. The Tipy Canoe Company was started several years ago in the owner's garage. The owner, Jeff George, did a lot of the initial manual labor with the help of a few friends. The company has since expanded into a large warehouse and new employees have been hired. Because of the expansion, Jeff is no longer directly involved with production and is concerned about his ability to plan for and control the company. He is considering the implementation of a standard cost system.
Required:
a. Describe the procedures Jeff should use in setting standards for direct labor and direct materials.
b. Describe how Jeff could use standards for planning purposes.
c. Describe how Jeff could use standards for motivating employees and problems in using standards as performance measures.
d. Why are some of Jeff's friends who worked with from the beginning not very excited about a change to a standard cost system?

Question

Quizplus · Accepted Answer

The Answer is a. Direct material standards should be established for the fiberglass resin and the wood and metal for the seats and the frame. For planning purposes, the standards for quantity and price should reflect expectations, but Jeff is no longer familiar with production and must ask some employees about expected quantities and prices. The purchasing manager has information on prices and the manufacturing manager has information on quantities. The direct labor standards are based on expectations from the personnel manager and the manufacturing manager.
b. If accurate estimates of prices and quantities are provided, Jeff can use the information to plan for cash flows. Also, the standards can be used to plan for appropriate inventory levels given planned manufacturing efforts.
c. The standards can be used as benchmarks to evaluate the performance of employees. A problem with using standards as performance measures is the difficulty of obtaining accurate standards from the individuals being evaluated. Standards can also provide incentives to increase inventories, discourage cooperative behavior, and lead to satisficing behavior.
d. Some of Jeff's friends who are still working in the expanded organization will probably be unhappy with the standard costing system because they will no longer be judged directly by their friend Jeff, but through standards that appear impersonal and lacking in trust. Jeff's friends, however, must recognize that Jeff can no longer directly observe what is happening in the company. Standard costing systems are not established because of a lack of trust. Standard costing systems are used to convey information among the different members of the organization.