Management Accounting PDF

PART 1 Introduction to management accounting (i~...

PART 1 Introduction to management accounting (i~ ~7 Management accounting information In Chapter 1 we described how organisations are managed and we considered the information needs of managers. From this we can identify common components of management accounting systems. L02.1 Components of a management accounting system Management accounting systems are tailored to an organisation's needs but they often include the following: costing system (or cost costing system (or cost accounting system) that estimates the cost of goods or services. as well as accounting system) a system that estimates the the cost oforganisational units, such as departments cost of goods and services, budgeting system that is used to prepare a detailed plan showing the financial consequences of the as well as the cost of organisation's operating activities for a specific future period. The system estimates planned revenues organisational units, such as departments and costs performance measurement system that measures performance by comparing actual results with budgeting system a system some target used to prepare a detailed cost management system that focuses on improving the organisation's cost effectiveness through plan, summarising the financial consequences of understanding and managing the real causes of costs. an organisation's operating activities for a specific future Management accountants also provide information from a variety of other sources to help managers with period non-routine planning and decision making. performance measurement system a system that Traditional versus modern approaches to management accounting measures performance by comparing actual results We learned in Chapter I that major new approaches in management accounting have developed since the with some target 1980s. in response to dramatic changes in the business environment. Costing, budgeting and performance measurement systems are common to both traditional and these more modern management accounting cost management systems. although there are substantial differences between the old and the new. Cost management systems system a system that focuses on improving cost tend to be identified with modern systems. effectiveness through understanding and Costing systems managing the real causes of costs Traditional costing systems estimate the costs of organisational units. such as departments. and of products (i.e. goods or services). In analysing costs they assume that production volume is the only factor that can cause costs to change. Copyright © 2021. McGraw-Hill Education (Australia) Pty Limited. All rights reserved. Modern costing systems are much more detailed. They estimate the cost of the individual activities performed in the organisation and use this information to cost goods and services. customers. organisational units or other items. Modern costing recognises that production volume can cause costs to change, but so can a range of other factors. These systems are called activity-based costing systems. Budgeting systems Traditional budgeting systems estimate planned revenues and costs for organisational units such as departments. Department budgets are aggregated to obtain a budget for the overall organisation. Modern approaches to budgeting. called activity-based budgeting. are much more detailed and. as the name would suggest, are built around activities. Performance measurement systems Traditional performance measurement systems provide measures of financial performance. They focus largely on controlling costs. by reporting differences between budgeted and actual costs. They monitor performance within the organisation. Modern performance measurement systems provide measures of performance across a whole range critical success factors of critical success factors, such as quality, delivery, innovation and sustainability, as well as financial factors that derive from the performance. These factors derive from the business· competitive strategy and are critical to its survival. competitive strategy, and are critical to the survival of In addition to reporting on internal performance. modern performance management systems look at what the business is happening outside the organisation; for example. by monitoring the performance of competitors and Langfield-Smith, K., Smith, D., Andon, P., Hilton, R., & Thorne, H. (2021). Management accounting : Information for creating and managing value. McGraw-Hill Education (Australia) Pty Limited. Created from curtin on 2024-07-24 07:13:10.  CHAPTER 2 Management accounting: cost terms and concepts the satisfaction of customers and, perhaps, of other key stakeholders. Modern approaches to performance measurement include strategically focused performance measurement systems, such as the balanced scorecard, benchmarking and activity-based performance measures. They focus on managing sources of customer value and shareholder wealth. Cost management systems Traditional performance measurement systems provide information to help managers control costs, by focusing on differences between actual costs and planned (i.e. budgeted) costs. Modern approaches are far more proactive in providing information to manage resources. Systems are developed not only to control costs but to reduce them. Wasteful activities are identified and eliminated, and costs are analysed to identify their real root causes. The causes rather than the costs are managed. Modern approaches to cost management include activity-based management, customer profitability analysis, supplier cost analysis, business process re-engineering, life cycle management and target costing. Exhibit 2. 1summarises the differences between traditional and modern management accounting systems. You need to have a knOVJledge of traditional management accounting systems, as they are still used in many organisations. You also need a knowledge of the modern approaches, which are becoming more common. especially within organisations that are responding to the pressures of the current business environment. These new approaches, as well as traditional costing, budgeting and performance measurement systems, are described in more detail in later chapters. EXHIBIT 2.1 Traditional versus modern management accounting systems Components of management accounting systems Traditional systems Modern systems Costing systems Focus on the costs of Focus on the costs of activities, departments and products products, customers and Assume production volume is suppliers the only factor that can cause Recognise that a range of factors costs to vary can cause costs to vary Budgeting systems Built around departments Built around departments and Copyright © 2021. McGraw-Hill Education (Australia) Pty Limited. All rights reserved. activities Performance measurement Monitor financial performance Monitor performance across a systems Control what's going on inside range of critical success factors, the organisation such as quality, delivery and sustainability, not just financial performance Also look at what's happening outside the organisation; for example, at customers. competitors and broader stakeholders Support the management of both customer value and shareholder wealth Cost management No separate system Proactive approaches to Costs mainly controlled through managing resources and the financial performance reducing costs, rather than just measurement system controlling them Analyse real causes of costs and eliminate wasteful activities Note that 'ptoduc1s' includes both goods and services. Langfield-Smith, K., Smith, D., Andon, P., Hilton, R., & Thorne, H. (2021). Management accounting : Information for creating and managing value. McGraw-Hill Education (Australia) Pty Limited. Created from curtin on 2024-07-24 07:13:10.  38 PART 1 Introduction to management accounting Emphasis on costs An examination of the components of both traditional and modern management accounting systems reveals that costs are an important source of information for managers. The systems include information about product costs, the costs of departments and activities, as well as both budgeted costs and actual costs. LO 2.2 Modern management accounting systems also provide information about the causes of costs. Let’s consider why management accountants pay so much attention to costs. Historic focus on production costs Historically, management accountants have given most consideration to manufacturing businesses, in particular to their production costs. One reason for this is the need to value inventory (at cost) and determine cost of goods sold for external reporting. Another reason is that many traditional management accounting techniques evolved in manufacturing businesses by the mid-1920s. At that time, focusing on manufacturing costs made sense, as manufacturing dominated business activity in developed countries, and non-manufacturing costs in most businesses were relatively insignificant. In the current business environment, non-manufacturing costs are much more significant. For example, at a company like Microsoft, production costs can be relatively low, while research and development, marketing and customer service costs can be relatively high. In addition, many developed countries have experienced strong services sector growth. Consequently, management accountants have become more interested in costs incurred across an organisation. Ready availability of cost data We learned in Chapter 1 that management accounting was once called cost accounting. The new name recognises that managers need a broad range of information for managing resources to create customer value and shareholder wealth. However, accounting systems are a prime source of data for management accountants. When costs are incurred as a result of external transactions, they are recorded in the accounting system. For example, when raw materials are purchased by a manufacturer, the costs of the raw material are recorded in the general ledger as inventory. The additional costs of converting the raw material into products are also recorded. Thus the accounting system provides a wealth of basic data about costs. Importance of cost information Costs have a vital role to play in helping managers to manage resources efficiently and effectively to create Copyright © 2021. McGraw-Hill Education (Australia) Pty Limited. All rights reserved. customer value and shareholder wealth. For example, in planning the routes and flight schedules of Qantas, managers must consider aircraft fuel costs, salaries of flight crews and airport landing fees. To manage the costs of producing personal computers, Toshiba’s accountants must carefully measure and keep track of the costs of research and development, production and customer service. All organisations incur costs, and managers need information to understand and manage them. Many short-term and long-term decisions require an understanding of costs. The role of non-financial information Traditional management accounting systems focus primarily on financial information, particularly costs. However, throughout the business, non-financial and qualitative information is also needed to help make decisions and to manage the various sources of customer value and shareholder wealth. If you are managing a hospital, costs and revenues are important for decision making, but non-financial information on the number of beds occupied, patient waiting lists, the number of patients admitted for various medical and surgical procedures and the quality of patient care is also important. If the strategy of your business is focused on improving customer service, you may need regular non-financial information on the numbers of customer complaints, deliveries to customers on time and defective products returned by customers, as well as the results of customer satisfaction surveys. Modern management accounting places a much greater emphasis on non-financial information.2 2. See, for example, the performance measurement systems described in Chapter 14 and the information used for supply chain management and for cost management described in Chapters 15 and 16. Langfield-Smith, K., Smith, D., Andon, P., Hilton, R., & Thorne, H. (2021). Management accounting : Information for creating and managing value. McGraw-Hill Education (Australia) Pty Limited. Created from curtin on 2024-07-24 07:15:16.  CHAPTER 2 Management accounting: cost terms and concepts Cost classifications: different classifications for different purposes (i~ fdf7 Given the emphasis on costs, an important first step in management accounting is to understand the different ways that costs can be classified, analysed and reported. L02.3 Before management accountants can classify costs, they need to consider how managers will use the information. Different cost concepts and classifications are used for different purposes. For example, some cost concepts are relevant to cost management, as managers need to understand and manage the level of resources used to create customer value and shareholder wealth. Some are relevant to product costing as managers need to determine product profitability and make informed decisions about which products to produce. Some are relevant to planning, as managers need to predict the costs of future operations, while some are relevant to reporting the results of current activities. The same cost can be classified in a number of ways, depending on the intended use of the cost information. For example, to determine the profitability of producing cheese at a Mainland cheese factory, it is useful to classify costs by whether or not they relate to the production of cheese. However, to assess the performance of the production manager we need to be able to classify the same costs according to whether or not they can be managed, or controlled, by the manager. Understanding the different cost concepts and classifications enables the management accountant to provide relevant cost information to the managers who need it. The Real Life below, about Insurance Australia Group Limited (JAG), illustrates the importance of understanding and managing costs. We introduce now some common ways in which costs can be classified. Exhibit 2.2 summarises these cost classifications, the basis of classification and the way these various classifications are used by EXHIBIT 2.2 Common cost classifications in management accounting Basis of classification Cost classifications U sed to: Behaviour Variable Plan (budget) costs (see Chapter 3) - Unit level Control costs - Engineered Make decisions Fixed - Committed - Discretionary Copyright © 2021. McGraw-Hill Education (Australia) Pty Limited. All rights reserved. Traceability Direct Estimate the cost of goods and services Indirect Estimate the cost of organisational units, such as departments or activities Controllability Controllable Measure managers' performance (see Chapter 12) Uncontrollable Control costs Value chain Upstream: Analyse cost structures and identify strategies - Research and development Measure performance - Design Control/manage costs - Supply Manufacturing/production Downstream: - Marketing - Distribution - Customer service Man ufactu ring/ Direct material Estimate the cost of products product costs Direct labour Estimate the cost of goods sold for the income Manufacturing overhead statement, and inventory for the balance sheet Timing of the Product Prepare income statement and balance sheet expense Period Langfield-Smith, K., Smith, D., Andon, P., Hilton, R., & Thorne, H. (2021). Management accounting : Information for creating and managing value. McGraw-Hill Education (Australia) Pty Limited. Created from curtin on 2024-07-24 07:16:47.  PART 1 Introduction to management accounting REAL LIFE Insurance: the importance of monitoring and managing costs Insurance Australia Group Limited (IAG) is an international general insurance group, with operations in Australia, New Zealand and Asia. Because the company's operating costs are reflected in the price of its premiums, it is important to both its customers and its shareholders that costs are managed efficiently. The company is able to do this in a variety of ways, including keeping administrative costs down, investing in technology and identifying ways to streamline its operations. In addition to a focus on cost reduction, addressing climate change is also a key consideration for IAG. The organisation seeks to identify ways to minimise its environmental impact as stated in the IAG 2019 Annual Review: Climate change is one of the world's most pressing issues. We have a long-standing record of addressing the opportunities and risks associated with climate change and have taken practical steps to minimise our own environmental impact. Our objectives and progress are outlined in our Climate Action Plan and Scorecard. In the 2019 financial year, we reduced our greenhouse gas emissions to 26 457 tonnes CO 2 e through a combination of reducing emissions from electricity and transport related activity including vehicles and travel, and the sale of IAG's Asia- based business. We are on track to achieve our 2020 financial year science-based emission reduction target. Source: Insurance Australia Group Limited (IAG) 2019, Annual Review and Safer Communities Report 2019. costs the resources given management accountants. This gives you an overview of the many different cost concepts used in this up to achieve a particular book. In this chapter, we focus on traceability, the value chain and manufacturing cost classifications. In objective Chapter 3 we describe cost behaviour in detail, and controllability is considered in Chapter 12. asset a measure of the cost of future benefits What are costs? Costs are resources given up to achieve a particular objective. In accounting, they are usually measured in expense a cost used up in the generation of revenue monetary terms-which, in Australia, means in dollars. Although you may have studied accounting before, cost may be a new term. In financial accounting the focus is on assets and expenses, but not on costs. level of activity the level Generally, costs are incurred to obtain future benefits. If the benefits extend beyond the current accounting of work performed in the period, the costs are recorded as assets. As the benefits are used, the costs are no longer regarded as assets, Copyright © 2021. McGraw-Hill Education (Australia) Pty Limited. All rights reserved. organisation but are expensed. Where benefits from a cost are confined to the current period, the cost is recorded as an cost driver any activity or expense rather than an asset. An expense is the cost that is used up in the generation ofrevenue.3 factor that causes costs to For example, Penfolds Wines would regard all the costs of manufacturing its wine as an asset, inventory. be incurred When the wine is sold, the cost of producing the wine is classified as cost of goods sold expense. This variable cost a cost that expense is deducted from the sales revenue of that wine to produce a profit (or loss). 4 In comparison, the changes, in total, in direct salary of the winery's sales manager does not generate any benefits that extend into the future and is treated proportion to a change in the level of activity as an expense as it is incurred. Classifying costs according to their behaviour Management accountants can help managers to understand the way costs behave as the level ofactivity in the business changes. The level of activity refers to the level of work performed in the organisation. The activity L02.4 causes the cost and, for this reason, the level of activity is often referred to as the level of cost driver. Activity can be expressed in many different ways, including units produced, kilometres driven, pages printed and hours worked. Understanding cost behaviour is useful for planning and managing costs, particularly product costs. Two common cost behaviour classifications are variable and fixed costs. A variable cost changes 3. Statement of Accounting Concepts 4 (SAC 4), part of the conceptual framework developed by the Australian Accounting Standards Board, provides further detail on the definition and recognition of assets and expenses for financial reporting purposes. 4. This recognition of expenses with a direct association to revenues is often referred to as matching of expenses and revenues. Langfield-Smith, K., Smith, D., Andon, P., Hilton, R., & Thorne, H. (2021). Management accounting : Information for creating and managing value. McGraw-Hill Education (Australia) Pty Limited. Created from curtin on 2024-07-24 07:17:51.  CHAPTER 2 Management accounting: cost terms and concepts in total, in direct proportion to a change in the level of activity or cost driver. An example is the electricity used to manufacture a product, which may increase in proportion to the number of units of the product manufactured. A fixed cost remains unchanged in total despite changes in the level of activity. For example, fixed cost a cost that the cost of rent of a manufacturing plant will remain the same no matter what the level of production. These remains unchanged in total despite changes in the level cost behaviour classifications, and the assumptions behind them, are explained in greater detail in Chapter 3. of activity Direct and indirect costs One of the important functions of management accounting is to measure the costs of cost objects. A cost object is simply an item for which management wants a separate measure ofcosts. Most management accounting systems include some form of costing system to measure the costs of specific cost objects.