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Cost and Management Accounting Session 1 Chapter No 1- Management Accounting Fundamentals Chapter No 2- Materials Cost Control  Cost and Management Accounting Chapter No 1- Management Accounting Fundamentals Concept of Management and Cost accounting...

Cost and Management Accounting Session 1 Chapter No 1- Management Accounting Fundamentals Chapter No 2- Materials Cost Control  Cost and Management Accounting Chapter No 1- Management Accounting Fundamentals Concept of Management and Cost accounting – An introduction All businesses are concerned about revenues and costs o Managers at companies, small and large must understand how revenues and costs behave or risk losing control of the performance of their firms o Managers use cost accounting information to make decisions about research and development, budgeting, production planning, pricing and the products or services to offer customers. Sometimes these decisions involve trade-offs. Management accounting assists Managers in taking such decisions to optimize the revenues and minimize the costs Concept of Management and Cost accounting – An introduction Financial accounting: Financial Accounting focuses on reporting financial information to external parties such as: investors, government agencies, banks and suppliers based on Generally Accepted Accounting Principles(GAAP). Cost accounting: This is the process of measuring, analysing and reporting financial and non-financial information related to the costs of acquiring or using resources in an organization. Management accounting : Management Accounting is the process of measuring, analysing and reporting financial and non- financial information that helps managers make decisions to fulfil the goals of an organization. Managers use management accounting information to: o Develop, communicate and implement strategies o Coordinate product design, production and marketing decisions and evaluate a company’s performance Financial accounting and Management accounting – A comparison Financial Accounting Management Accounting It helps in finding out the results It helps in computing cost of of an accounting year in the production/ service in a Objectives form of P&L account and systematic manner to control prepares the Balance sheet cost It is concerned with reporting the It is an internal reporting results and position of business system for an organisation's to persons and authorities such own management for decision as Government, Creditors, making Reporting Investors and Others Data is not only historical but Data is historical in nature Data Analysis also futuristic in approach Classification is on the basis of Major emphasis is on cost Functions, activities, products, classification based on type of Process and on internal transactions - Salaries, repairs, planning and control and Cost Insurance, stores etc information needs of the Classification organisation Financial accounting and Management accounting – A comparison Financial Accounting Management Accounting Only those transactions are It uses both monetary as well recorded that can be expressed Accounting as quantitative information in monetary terms transactions It aims at presenting " true and It aims at computing " true and fair" view of the profit and loss fair" view of the cost of position and financial position of production/ services offered by Effective the organisation the firm purpose Financial accounts are subject Management accounts are to statutory audit to verify subject to cost audit that whether they disclose " true and verifies whether the cost fair" view of the profit and loss accounts disclose " true and position as well as financial fair" view of the cost of Statutory position of the organisation production of the company. requirements Comparison between cost accounting and management accounting Basis Cost Accounting Management Accounting It is mainly concerned with allocation, distribution and accounting aspects of It evaluates the impact and effectof Concerning Issue costing costs on operational decisions The costing data is the basis of It uses both the Financial accounting Data management accounting decisions and cost accounting data It has a narrow scope in Business It has a broader scope in analyzing Scope operations managerial decisions It is concerned with both, shortterm Term It is for short term planning and long term planning It assists only in Management It also helps in performance evaluation Functions functions of managers and workers Approach It is a historical approach It is a futuristic approach It can be installed without the It cannot be implemented without the Interdependence Management accounting system Cost accounting system Financial Accounting Functions on Well-Defined Concepts and Conventions 1. The concept of “separate entity” implies that the owner (person) is different from business. 2. The concept of “double entry system” explains that each and every transaction has two-fold effects. It simply means that in a transaction, two accounts are affected. 3. Another concept called “money measurement concept” means that only those transactions that can be expressed in monetary terms will be recorded in the books of accounts. 4. According to International Accounting Standards, an enterprise is normally viewed as “going concern” if it continues to remain in business for the foreseeable future. 5. The “matching concept” has been defined by International Accounting Standards as, “an accounting practice whereby expenses are recognized in the income statement on the basis of a direct association between the costs incurred and the earnings of specific items of income. Cost Accounting Cost accounting is a technique to optimize cost of production/services by using different costing techniques and reaching a competitive stage in a given business scenario. 1. Cost can be described as the resources that have been sacrificed or must be sacrificed to achieve a goal. This is a sort of investment made to produce a product or service. As long as this product remains in the firm, it is treated as an investment or asset. 2. Costing is the systematic procedure of ascertaining the cost of a product or service. Costing broadly deals with the cost of production, selling and distribution. 3. Cost accounting is a system of accounts for determining the cost of products or services. It deals with preparing budgets; monitoring standard costs and actual costs; and costing of processes, activities or products. It also analyzes cost accounting information and data for various managerial decisions.  Cost Accounting - Functions The essential functions of cost accounting are as follows: 1. Ascertaining the cost of production on per unit basis. 2. Determining selling price. 3. Controlling and reducing cost. 4. Arriving at division-wise, activity-wise and unit-wise detail of cost. 5. Finding out inefficiencies and other weaknesses in the processes, making available relevant data for decision- making and estimating future costs.  Build consensus and commitment on scope and goals Select the right methodologies Determine how efficient and effective the organization is and set targets for change Steps to Deliver Cost Excellence Develop a plan to hit the targets Drive implementation of the changes Make the change sustainable Objectives of Management accounting: There are four broad objectives that Management accounting accomplishes in an organisation: 1. Planning: Preparing a Plan and ensuring its execution to achieve short and long terms goals. This is basically done through Budget preparations. 2. Allocation of resources: The resources in terms of raw materials, workforce and other requirements to facilitate production and services efficiently are allocated to various divisions/units duly assessing their requirements Objectives of Management accounting: 3. Direction and Motivation: Once the resources are allocated in a required manner, there is a need to direct and motivate people for optimum contribution. Since the efficiency is linked to incentives, the managers at different levels are engaged in providing required direction and motivate people to contribute in optimum manner. 4. Monitoring and Control : Proper monitoring at different intervals is very much essential to achieve goals and optimize the cost. The management reviews the targets in relation to the actual state and assesses the reasons for the gap to take corrective actions in the future Practical applications of Financial, Cost and Management Accounting Financial accounting: It presents the position of assets, liabilities, income and expenditure of a firm for comparative periods. It only reflects the information as available in Books of accounts. It represents past financial data and provides consolidated information only. Cost accounting: It helps in preparing product wise statement of cost, revenue and profit or loss by allocating various costs according to the existing policy of the firm. It also indicates which product is making profit and which ones are in loss. Management accounting: It analyses different cost elements by allocating them in a very scientific manner to arrive at correct contribution from different products. Based on an in-depth analysis of costs, revenue, capacity utilization and contribution, it also decides whether to buy a particular product from the market or produce on its own. It also suggests if various strategies can make a product profitable and if not, whether it will be wise to shut down a plant or product.  To Summarize : Financial Accounting is Reporting Cost accounting is Implementation Management accounting is decision making Management Accounting – Definition and Features According to the Chartered Institute of Management Accountants , the definition of Management Accounting is prescribed as “ The process of identification, measurement, accumulation, analysis, preparation, interpretation and communication of information used by Management to plan, evaluate and control within an entity and to assure an appropriate use of and accountability of its resources. Management accounting also comprises the preparation of financial reports for non-management groups such as shareholders, creditors, Regulatory agencies and tax authorities. 1. MA is a decision making process based on various financial and accounting information and data analysis. 2. It ensures adequate resources for operational units 3. It involves perfect monitoring and control through responsibility management 4. It primarily focuses on achieving future strategies and goals of the organisation  Management Accounting Management Information Accountingand Information their Useand Their Use Cost Facilitates Monitoring and Measurement Decision Making Control Management Accounting Information & Use 1. Cost Measurement: It measures full cost including Direct and Indirect cost Direct Costs – Those costs that are identifiable or traceable and can be directly apportioned to the products or services. Indirect costs – These costs are not allocated directly to the product or services. The measurement of full costs serves different purposes and is used in different decisions 2.Monitoring and Control: Another important use of management accounting information is to monitor closely the cost aspect of a product or process and implement important effective control measures to optimize the cost while not compromising on quality. This is done through the process of budget and budgetary control. The targeted allocation of cost and actual is compared at different time intervals Management Accounting Information & Use 3. Facilitates Decision Making: It generates appropriate and required information for future decision making relative to various operations of a firm. The decisions may involve : Make or Buy Further processing Shutting down operations Increasing production capacity Determining selling process And other related decisions Management Accounting Tools and their Significance Component Uses Creating value for the customer through Proper planning Strategy Formulation and implementation of the strategies. The ultimate target is to reduce costs and improve efficiency The flow of goods, services and information enhances the performance of the firm. Tools such as Standard costing Efficient Supply chain and Target costing are effective for cost control and cost reduction and thus ensure enhanced customer satisfaction Techniques such as Marginal costing help generate information that is useful for taking managerial decisions Decision Making Science such as Make or buy, drop a product line, additional Working shift, Capital expenditure decisions etc Several tools such as Budgets and budgetary control, Analysis of Performance standard costing and marginal costing are used in measuring actual performance Fixing responsibility by creating different centers such as Responsibility Centres cost, profit, investment etc Decision making process in a Firm Decision-making Process Planning Manageme Business Goals Directing nt Decisions Controlling 27 Decision making process in a Firm Planning:- Planning represents different phases of the planning process in a firm which are: o Strategy o Positioning o Budgets Directing:- It is the process of directing the operations for effective use of resources. The three stages of directing are: o Costing o Production o Analysis Controlling:- The process of controlling can be defined as a process of monitoring and controlling measures to achieve the desired goals effectively. The tools of monitoring and control are: o Monitor through MIS/ reports etc o Score card Planning Phase Description Strategy Selecting the best alternates in terms of cost, quality, etc , to fix the optimum selling price and achieve goals Positioning Where to place the product in terms of geographical coverage (existing-new, domestic- international), how to organise and utilise resources at best cost to bring efficiency and cost-effectiveness Budgets Preparing short-term and medium-term budgets based on past data and information and keeping in mind the organisational goals Directing Stage Description Costing Use and develop the relevant costing technique to identify & allocate correct costing to a product Production Providing necessary resources keeping in view the cost of resources. Managers provide necessary directions to optimise cost and bring in efficiency. Analysis Analysing actual versus budgeted to ascertain gaps and to take corrective actions Controlling Tools Description Monitor Regular monitoring at intervals to ensure desired goals are achieved. Scorecard Strategic Management Accounting has developed the concept of Balanced Scorecard to effectively monitoring and control Some Innovative Management Accounting practices The management accounting policies and practices have changed significantly depending on how accounting and trade policies and practices have evolved across the globe. Some of the new innovations in the field of management accounting are: 1. Total Quality Management (TQM):- o Focuses on maintaining the quality of a product or service o It has significant impact on cost savings and bringing efficiency in a product or service 2. Just- in-Time:- o It is an approach developed in modern management accounting to control the inventory holding cost by minimising the level of inventory in hand  Video links https://www.bing.com/videos/search?q=videos+on+toyota+jit& Toyota vie JIT w=detail&mid=5805A9DC4E1F036526975805A9DC4E1F036 52697& FORM=VIRE TQ https://www.youtube.com/watch?v=uJ_dX7gL5 M hk Some Innovative Management Accounting practices contd…. 3.Value Chain:- Many business firms define their mission to become one of the prime brand in product or services line in which they operate. In this approach the following analyses have been undertaken: a. Internal Cost Analysis This is to asses different sources of profitability and the related cost aspects for the purpose of creating internal value in various processes. b. Internal Differentiation Analysis This is to further investigate and understand the sources of differentiation (including the cost) within internal value creating processes. c. Vertical Linkage Analysis This is to identify the relationships and relevant costs among external suppliers and customers so as to maximise the value delivered to customers and to optimise the cost. Value Chain Analysis contd…. Value Chain Analysis Explained : The value chain is the sequence of business functions by which a product is made progressively more useful to customers. Let us illustrate these functions with Sony Corporations’ Television division : 1. Research and Development ( R&D) : Generating and experimenting with ideas related to new products, services or processes. At Sony, this function includes research on alternative Televison signal transmission and on the picture quality of different shapes and thickness of television screens. 2. Design of products and Services : Detailed planning, engineering and testing of products and processes. Designing in Sony includes deciding on the number of component parts in a televison set and determining the effect alternative product designs will have on the set’s quality and manufacturing costs 3. Production: Procuring, transporting and storing (“inbound logistics”) and coordinating and assembling (“operations”) resources to produce a product or deliver a service. The production of a Sony television set includes the procurement and the assembly of the electronic parts, the cabinet and the packaging used for shipping. Some Innovative Management Accounting practices contd…. 4.Marketing ( including Sales) : Promoting and Selling products or services to customers or prospective customers. Sony markets its televisions at Trade shows, via advertisements in newspapers and magazines, on the internet and through its salesforce 5.Distribution : Processing orders and shipping products or services to customers (“outbound logistics”). Distribution for Sony includes shipping to retail outlets, catalogue vendors, direct sales via the internet and other channels through which customers purchase new televisions 6.Customer Service: Providing after sales service to customers. Sony provides customer service on its televisions In the form of customer-help, telephone lines , support on the internet and warranty repair work Value Chain Analysis contd…. Different companies create value for customers in different ways : 1. Gucci: It creates value for its customers by creating a prestigious brand. It does so by focusing on marketing, distribution and customer service to build its brand 2. Toyota: Focuses on Quality to create value for its customers 3. Ebay: Fast response times create quality of the online auction giant’s customers 4.Nestle: It continuously innovates to make new products which are healthier and tastier thereby striving to improve the quality of health of their customers  Financ e Marketin g Managemen t Accounting as Human resources Strategy and operations Quiz Time Q1. Which of the following are tools of management Accounting? a. Decision Making b. Standard Costing c. Budgetary Control d. All of theAbove Quiz Time Q1. Which of the following are tools of management Accounting? a. Decision Making b. Standard Costing c. Budgetary Control d. All of the Above  Quiz Time Q2. Planning, Resource allocation, Direction, Motivation and Monitoring and Control are the four broad objectives of: a. CostAccounting b. ManagementAccounting c. FinancialAccounting d. Costing system Quiz Time Q2. Planning, Resource allocation, Direction, Motivation and Monitoring and Control are the four broad objectives of: a. CostAccounting b. Management Accounting c. FinancialAccounting d. Costing system Quiz Time Q3. Cost accounting emerged on account of : a. Competitive markets b. Statutory requirement c. Wage rate Solution d. Limitations of financialAccounting Quiz Time Q3. Cost accounting emerged on account of : a. Competitive markets b. Statutory requirement c. Wage rate Solution d. Limitations of financialAccounting  Cost and Management Accounting Chapter No 2- Materials Cost Control Learning Objectives Importance of Materials in a firm Arrangements for proper upkeep of materials Functions of Stores Department Process of materials receipt and issue Material Control techniques Practical application of materials control measures and Methods Essential Features of Material Control Process 1. Coordination amongst departments: There has to be a perfect coordination and cooperation among the other major departments, such as production, procurement, warehouse, etc. 2. Organized: The material control process should be well organized with inbuilt supervision systems. It should be managed by a professional. 3. Standard schedules and formats: For an effective materials control process, there has to be proper schedules and formats of indent, placing orders and for maintaining other inventory records. There has to be a dual control system to maintain all records both in the soft form, as well as in the physical form. 4. Verification and Monitoring: An internal mechanism for verification and monitoring needs to be developed for bringing more efficiency. Essential Features of Material Control Process contd….. 5. Modern and new techniques should be adopted, like bin cards, to have timely monitoring and control over the inventory management. 6. Inventory level management: The minimum inventory level and reorder level must be maintained. 7. Controls: The inventory recording system should be online with an inbuilt control mechanism. 8. MIS: The firm should develop a sound management information system (MIS) for better reporting, evaluation and control on various aspects of inventory control. Essential Features of Material Control Process contd….. 9.Cost efficiencies: The perfect inventory management system in a firm can help to save the maximum cost if a well-organized system and mechanism are established. This will reduce the cost at different levels. 10.Material Purchase policy: The material purchase policy should be more planned and systematic. There should be well-managed logistic systems to ensure that the material is received well in time and at the most effective cost. Functions of Material Control Department Functions of Material Control Department For having an effective control over the materials-related issues, a firm usually has a well-established material control department. The following are the it’s major functions: 1. Procurement of raw materials, keeping in the view time to procure the materials, reasonableness of prices, quality of materials used, and quantity of the materials 2. The raw materials are received and inspected to ensure the required quality as per pre-specifications. 3. Storage of raw materials and maintaining the records of material received in the store register. It also makes all the required arrangements to prevent loss of materials due to leakage, pilferage, theft, mis-handling, etc. Functions of Material Control Department contd…. 4. The raw materials are issued for the use of production on receiving indent from the production department 5. The department also ensures adequate inventory control through maintaining the proper records. 6.It is also responsible for timely supply of the required materials and ensuring that the production process does not stop for want of materials. 7.The overall responsibility of material’s price, quantity, inventory control and recording lies with the production department. Responsibilities of the Purchase Department Responsibilities of Purchase Department 1. Developing a mechanism for timely receipt of materials requirement indents from all the departments to facilitate timely supply. The department may prepare detailed guidelines and appropriate indent formats. 2. Once the indents for materials requirement are received, there should be proper mechanism of recording and follow-up of the indents with pre- determined time limits for control at different stages. This can be maintained by allocating appropriate codes and description for different items. 3. Empaneling the suppliers for requirements of different types of materials. This is done by inviting tenders and finalizing them based on price, quality, discounts, reputation, etc. This is done very judiciously as the suppliers are not frequently changed. 4. All the records of price, terms and conditions, discounts, etc., are recorded in the book for individual suppliers. The agreements and contracts are also properly filed. Responsibilities of Purchase Department contd…. 5. Preparing purchase-order formats, which is contractual agreement, should be prepared incorporating all terms and conditions as per the agreement. 6. The orders for the purchase of relevant materials should be placed in time to ensure that the materials are received on time. Once the orders are placed, they should be followed at different levels. 7. Receiving materials at the store physically and storing them after due inspection at appropriate places. 8. Returning back the defected pieces, if any, to the supplier and follow-up for replacement or reducing the bill amount. 9. Verifying the invoices and sending them to accounts department for payment to suppliers.  Material Inspection Report Goods received advice Material Control Technique Material Material transfer note Return Note  FIFO LIFO HIFO Average Cost Method Material Pricing Methods Weighted Average Weighted Cost Average Cost Method Periodic AverageAverage Periodic CostCost Method Method Standard Cost Standard Method Cost Method Market Market Price Price Material Pricing Methods 1.FIFO:- Under this method of pricing, the materials received in the store first are issued first and accordingly the pricing is done. In, other words, the materials received in the first batch, are first issued and only after all the items are issued from the first batch, the second batch is used. 2.LIFO:- Under this method of pricing, the materials received last are issued first. Therefore, materials issued carry the latest cost of material acquisition. 3.HIFO:- Under this method of costing, the materials having the highest price are issued first. Over here, it is not important when the materials were purchased. The concept behind this approach is that, in increasing and inflationary market, the cost of the material is immediately absorbed into the product cost to cover the risk of inflation. Since the material is issued at the highest prices, the product costs also increases. However, this may affect the product to gain competitive prices in the market. Material Pricing Methods 4. Average cost method : Materials are issued at the average process of the material purchased 5.Weighted average cost method: Here, both, the price as well as the quantities of materials purchased are considered. 6.Periodic average cost method: The average cost is calculated on the basis of the materials received in a particular time period rather than calculating the simple or weighted average cost every time the material is received. The average may be calculated for the entire period. 7.Standard Cost method: Under this method, the materials are priced at a pre-specified standard price determined for the issue of the materials. 8.Market price method: Materials are priced at the cost currently existing in the market place as of the date of issue of the materials Material Pricing Methods There is no standard rule as to which of the methods should be used for pricing of materials A firm may use any pricing method suitable to it. However, some of the considerations may be : Method of production process Nature of materials used by a firm Frequency of purchases Economic Order Quantity Accounting practices acceptable in valuation of inventory etc Economic Order Quantity This is a technique to determine how much should be the quantity to hold which is economic in terms of cost. This helps the purchase department to assess the quantity to be purchased at any one time. This in essence is a measurement of how much quantity is to be ordered at any one point of time. Inventory Control Techniques Perpetual Inventory System ABC System of Inventory Control Inventory Just-in-Time Control Inventory Techniques Approach VED Analysis of Inventory Control FSND Analysis Inventory Control Techniques 1. Perpetual Inventory System:- The continuous stock taking system is known as the Perpetual Inventory System. According to the definition of CIMA, The Perpetual Inventory System is “the recording, as they occur, of receipts, issues and the resulting balances of an individual items of stock in either quantity or quantity and value”. 2. ABC System of Inventory Control:- Under this system, The items of inventory are categorized according to the value of usage of material inputs. Broadly, the materials are classified into three categories as A, B and C according to their values. Items under category A constitute the most important class of inventories in the overall proportion in the total value of inventory. The A items constitute between 5-10% of the total items but value maybe almost 80% of the total value of inventory. Category B items constitute an intermediate position, i.e. 20-25% of total items and 15% of total value. The philosophy behind this system is that the items having highest value should be controlled more carefully as they involve higher cost of holding. On the other hand, items having medium and small values in terms of costs, despite large in quantity can be controlled periodically Inventory Control Techniques contd…. 3.Just-In-Time Inventory Approach:- Just in time inventory (JIT) approach of inventory management was developed by Japanese firms with the concept of no inventory holding and therefore avoiding completely the inventory holding costs. This is the more recent trend in inventory management. This principle focuses on total elimination of the intermediate stages like score-keeping, maintenance, etc. The materials ordered and purchased from supplier should directly reach the assembly line exactly when they are required for the production process. There is no need of storing the materials and then carrying them to the assembly unit. 4.VED analysis of Inventory control:- The analysis known as vital, essential and desirable (VED) is based on the degree of criticality of the raw materials in a firm. According to this approach the materials are divided into three categories in the descending order depending on their criticality. ‘V’: is an indication of vital items and their stock analysis requires prime focus. ‘E’: signifies the essential items required by a firm in the production process. ‘D’ : relates to desirable items. Inventory Control Techniques contd…. 5. FSND analysis:-The holding period of materials which is known as age of the inventory is also an important element based on which the materials can be controlled. This analysis categories the material based on their movement F : Category F denotes fast moving items and those stocks which are consumed in a short span of time N: These are normal moving items of the stock and are generally utilized over relatively longer period from 6 months to 1 year. S : Is an indication of slow moving items. The stock holding period in such cases is more than 1 year. The holding is reviewed periodically and in case they are not required , they can be eliminated D : D is dead stock. This means that there will not be any further demand for such items. Therefore, the firm identifies such items and eliminates from the stores or makes alternate arrangements  Key Words Material Control : Toexercise effective control on Material movement Material Requisition slip : A slip devised for giving orders by the departments to issue materials BIN card : Maintaining quantitative record of materials FIFO: Material priced on the basis of receipts in the stores first to be issued LIFO: The materials received in the last are issued first and priced accordingly ABC: Categorization of materials inputs based on their importance JIT : An inventory management system where inventory are received directly in the assembly just in time. Bill of Materials : A schedule of details of materials received and issued EOQ : Optimum level of quantity to be ordered at a time VED : Categorization of material inputs as vital, essential and desirable LET US SUM UP Raw Material Costs and management process : Raw material inputs are the most significant in a manufacturing unit as they form approximately 60% of the total cost of production It is very important to have an adequate control on the cost of material acquisition Efficient Materials issue process is a fundamental requirement to ensure timely availability of materials by the concerned departments Appropriate pricing policy for issuance of materials from Stores to Production department