Management Accounting as a New Branch of Accounting - Essay Example

?Issues in Management Accounting Issues in Management Accounting Introduction Management accounting is a new branch of accounting that promotes the overall managerial performance of an organisation. Under this new accounting concept, business managers simply use accounting information to get a detailed view of the business and hence make sound business decisions. In other words, this concept assists managers to deal with their management and control functions effectively. According to UK’s Certified Institute of Management Accountants (CIMA), “management accounting is an integral part of management concerned with identifying, presenting, and interpreting information used for formulating strategy, planning and controlling activities, decision making, optimising the use of resources, disclosure to shareholders and other external to the entity, disclosure to employees, and safeguarding assets”1. As scholars indicate, an organisation’s management accounting discipline can have a great influence on its other functions. Mainly, management accounting discipline defines an organisation’s managerial ethics. Hence, the concept of management accounting discipline greatly relates to the firm’s corporate governance policies. This paper will particularly discuss the evolution of management accounting discipline and its relationship with other functions in organisations. The paper will give specific focus to the ethical aspects in management accounting, performance management, balanced scorecard, activity based costing and sustainability reporting. Evolution of management accounting discipline The history of management accounting can be dated back to 19th century when the process of industrial revolution compelled firms to maintain better managerial control over their business activities. During that time, most of the firms were run by a single owner or manager using their personal assets. As there had been no external stockholders or unsecured debt, organisations never used to prepare elaborated financial reports. Therefore, the concept of management accounting was widely known by its cost accounting functions in olden days. The idea of management accounting has undergone tremendous changes over the last century. As per the Malaysian Institute of Accountants’ (2005) study, the development of this concept can be explained using four recognisable time phases2. Phase 1 - Before 1950, the major function of the management accounting was to determine the costs and to control financial operations using financial tools such as budgeting and cost accounting. Phase 2 - By 1965, the scope of management accounting expanded and hence its focus has been shifted to provision of information for managerial activities such as planning and control. For this purpose, business managers used tools such as decision analysis and responsibility accounting. Phase 3 – By 1985, management accountants extensively used techniques like process analysis and cost management in order to reduce the wastage of resources in business processes and thereby improve profitability. Phase 4 – By 1995, the management accounting branch focused more on value creation through effective use of resources. For this purpose, management accountants sought help of technologies that can identify the contributing factors to shareholder value, customer value, and organisational innovation3. The emergence of the concept strategic management accounting in late 1980s notably changed the overall outlook of the management accounting4. By the end of the 20th century, increased pressures from capital markets, creditors, and governmental regulatory bodies forced organisations to pay specific attention to managerial control. In addition, increasing business needs persuaded business houses to raise additional funds from different capital suppliers5. In order to manage fund raising activities and to identify future fund needs, business managers had to obtain audited financial statements. Likewise, firms had to communicate its financial state of affairs with its shareholders so as to retain their interest in the business6. Therefore, top level managements focused more on establishing well developed corporate financial reporting practices. More precisely, there arouse a need for performing cost accounting and managerial control separately. In order to cop up with the emerging new business needs, public accountants gave specific focus to inventory costing, and those procedures had a noticeable effect on management accounting. Throughout the end of the last century, management accounts strived to ensure that financial accounting requirements were adequately met and financial reports were published on time. By the 21st century, product lines and scope of business expanded and hence operational complexity also significantly increased. Hence, it became necessary for all forward looking companies to prepare separate management-oriented reports to manage their business activities effectively. World Wars I&II brought notable changes in management accounting practices. The recent two decades witnessed several important innovations in management accounting practices as a result of the emergence of new economic forces. Currently, organisational managements give particular focus to management accounting discipline while framing their corporate governance policies, because this discipline may influence the ethical aspects of many key organisational activities. Ethical aspects in management accounting Relative to financial accounting, management accounting practices are more flexible because law allows higher degree of freedom for the presentation of management information. As a result, quality of management accounting information is likely to be affected by unprofessional practices of management accountants. Hence, professional organisations develop strategic guidelines with intent to assist management accountants to effectively deal with various ethical problems they may encounter. Setting professional ethical standards for management accountants is very important because such standards are necessary to promote trust in employee-employer relationship, to deal with ethical dilemmas effectively, and to ensure the quality of information supplied. It is strongly claims that management accountants have an ethical responsibility to improve their operations continuously as such an effort is essential to enhance a high standard of professional competence7. Evidently, the efficiency of management accountants has profound effect on many other key organisational functions8. Every organisation strives to improve the profitability and to increase its shareholder values through the use of efficient managerial techniques. Hence, the improvement of management accountants on a continuous basis would benefit the organisation to achieve its basis managerial goals. Recent advancements in management accounting play a vital role in influencing managerial personnel to improve their performance on a continuous basis. It is also argues that it is vital for management accountants to ensure the credibility of information supplied because most of the financial and managerial information are likely to affect the future of the organisation. Therefore, management accountants have the ethical obligation not to communicate such confidential information to anyone outside the business9. However, they have the responsibility to disclose business information if competent legal authorities demand to do so. Management accountants have also an ethical obligation to inform their followers regarding the confidentiality of information. They should make certain that their followers properly comply with the organisation’s information confidentiality discipline. Recent developments in management accounting significantly promote confidentiality of managerial information. Incorruptibility is another ethical perspective in management accounting. Incorruptibility must be a vital quality of managerial accountants otherwise they cannot preserve organisational interests or contribute to stakeholder interests. They should compulsorily avoid conflicts of interests once a healthy organisational environment is inevitable to enhance business growth. In addition, management accounts must refuse presents or other benefits that are likely to affect their current or future decisions and operations. Finally, objectivity is a major ethical aspect in management accounting. The management accountants’ objectivity is related to their ethical obligation to communicate the confidential managerial information properly and objectively even if this information is not intended for those who requested it. Reports indicate that sometimes balance sheets are manipulated by management accountants in order to make financial results more appealing to current or potential shareholders. However, this practice is against the professional code of managerial ethics because shareholders have an ethical right to get a true and fair view of the state of affairs of the company. Nowadays, the management accounting discipline persuades top managerial personnel to act ethical to the company shareholders. In sum, competence, confidentiality, credibility, and objectivity are the major ethical aspects in management accounting discipline. Ethical aspects in performance measurement Performance measurement can be simply defined as the process of reporting information relating to the performance of an employee, group, or organisations. Performance appraisers have to give specific focus to many ethical aspects while conducting performance measurement as this process directly affects an individual’s carrier development. The performance measurement system must be capable of providing reliable and valid information to the top level management. Since a number of crucial management decisions are taken on the basis of score ratings given by performance appraisers, unreliable or invalid information are likely to affect the organisation’s operational efficiency adversely. In addition, the appraiser must be competent enough to handle the firm’s performance evaluation system effectively. It is clear that performance evaluation is an important and often a difficult task to perform. Therefore, performance appraisers should be properly trained in order to get a clear idea about the rating system, appraisal documentation, and conducting appraisal interviews. Furthermore, such training facilities may enable appraisers to be familiar with common rating errors, and this knowledge in turn would improve rate performance. While conducting performance measurements, appraiser should not give any unfair advantage to any employee or group10. Likewise, appraiser must never discriminate employees or groups based on sex, religion, ethnicity, or politics during the course of performance evaluation11. Such practices would negatively impact the job morale of other employees. Through the measurement process, appraisers must provide the top level management with key information in job related activities or areas. In other words, the information obtained through performance measurement process must be really helpful for the management to take various crucial decisions like employee promotion and termination. Process standardisation is a major ethical aspect in performance measurement. Hence, appraisal forms, procedures, and rating techniques have to be standardised so as to satisfy interests of all employee groups without any disparity. The most important thing is that managers must clearly communicate their performance expectations to employees before the commencement of performance evaluation process. This information would assist employees to be knowledgeable about the performance standards and thereby improve their performance efficiency in future. Since most of the employees are eager to know about their performance efficacy and improve their performance on a continuous basis, an open communication between managers and employees is essential to promote the ethical standards of the performance measurement process. Finally, employees should obtain easy and better access to their performance measurement results. This system is necessary for employees to get proper feedback on their performance so that they may perform better in the future. By allowing employees to access their performance appraisal results, the organisation can provide them with the opportunity to challenge the results through former channels if they disagree with the measurements the appraisers made. In total, the development of a better management accounting discipline over the years significantly improved the performance measurement standards. Ethical aspects in balanced scorecard The balanced scorecard is a modern strategic performance management method used by managers to control and monitor their staff’s activities and consequences likely to arise from those activities. This strategic tool emphasises the significance of employee learning and growth and source of innovation that would achieve target breaking performance12. However, better employee education only would not contribute to improved employee performance. To illustrate, Enron’s managers were highly educated and experienced professionals. However, they used their education to perform fraudulent activities in a clever way. Hence, education only is not enough to promote ethical standards in a balanced scorecard approach. According to the management accounting discipline, a company has to follow sound business ethical practices to build trust in the organisational environment. Evidently, good will, transparency, and ethical behaviour are some of the major important ethical aspects in a balanced scorecard approach. Recent developments in management accounting discipline suggest that the concept of ethical business culture has to be added to the balance scorecard’s learning and growth perspective as this concept enhances customer and investor trust, which is one of the essential elements influencing business success. A balanced scorecard is often used to identify the links between leading inputs and lagging outcomes and; hence, unethical practices in balanced scorecard reporting would greatly threaten the business’ operational efficiency. As managerial decisions notably affect the efficacy of balanced scorecard approach, management accountants must give specific focus to professional ethical standards while performing a balanced scorecard reporting. Under this approach, managers have to give particular attention to financial outcomes like return on capital employed. According to Gardiner (n. d.), it is commonly observed that managers often fail to link programs like employee empowerment, cycle time reduction, and total quality management to outcomes that are likely to influence future financial performance13. In those organisations, improvement programs are conducted inappropriately and this situation does not promote business profitability or increase shareholder values14. The author argues that “the inevitable result is that such organisations eventually become disillusioned about the lack of tangible payoffs from their change programs”15. Hence, management accountants have the ethical obligation to link all scorecard activities to specific financial objectives. Ethical aspects in activity based costing Activity based costing (ABC) can be simply referred to a special costing approach that clearly identifies and defines activities in an organisation and allocates costs of each activity among all products and services based on actual consumption by each activity. The ABC is a valuable accounting tool as it provides an organisation with more clear view of the product and process costs. The management accounting discipline addresses a range of ethical perspectives in activity based costing approach. For instance, it seems that organisations sometimes choose an improper cost driver to allocate costs in way realistic cost calculations are intentionally distorted16. Through this practice, the organisation tries to take some unfair advantages over fund allocation process and the firm’s shareholders. In addition, some managers use the activity based costing approach to justify no longer purchasing from a particular supplier or selling to particular customer. The management accounting discipline directs managers to avoid such unethical practices in activity based costing because those practices would reduce the scope of this costing approach17. In addition, this costing method is sometimes misused to justify non-allocation of corporate funds to environmental or social welfare18. Even though this practice may be beneficial for the organisation to improve its profitability in the short run, it would adversely affect the firm’s business sustainability in the long term because corporate social responsibility is of great importance in the modern business landscape. Furthermore, the top level management has an ethical obligation to ensure the welfare of the society and environment in which the firm operates. Management experts point out that some management accountants employ distorted activity based costing allocations for the purpose of transferring “costs from fixed price contracts to cost plus contracts”19. Undoubtedly, this type of business practices is unethical and they affect the culture of the organisational environment. The most common unethical practice associated with activity based costing is that managers omit non value added items and times while developing value chart so as to improve cycle efficiency. Evidently, this act would negatively affect the firm’ value chain efficiency and hence hurt business interests of the firm’ shareholders. Finally, many management accountants use costing tool to justify employee termination; this practice may demotivate remaining employees. The management accounting discipline includes many policies to eliminate such unethical practices related to activity based costing. Ethical aspects in sustainability reporting Sustainability reporting is a basic organisational report that provides stakeholders with extensive information about the firm’s economic, environmental, and social performance20. However, a sustainability report particularly focuses on how effectively an organisation’s activities promote environmental sustainability. It is a non-financial reporting and a recent trend developed over the last two decades. Today, many companies are producing a sustainability report to convince their stakeholders about the feasibility of the organisation21. Since sustainability report is particularly intended to influence shareholders, investors, and governmental bodies; organisations are likely to perform unethical activities in sustainability reporting. As modern people are more concerned about environmental safety, managers often try to deceitfully make their sustainability report appealing to its stakeholders. For this, management accountants underreport environment related data like level of greenhouse gas emissions and use of non-renewable energies. Similarly, they may try to make the firm’s waste management practices more attractable to stakeholders by concealing waste dumping activities. As reports indicate, firms seldom report their environment pollution data as they fear that such reports may negatively influence the firm’s growth efforts. As discussed earlier, every business organisation has an ethical obligation to serve its environment and society well because they are the prime factors supporting any business. Hence every business house has to develop improved mechanisms to reduce the rate of environmental pollution or resource usage and thereby promote the long term environmental sustainability. Undoubtedly, unethical sustainability reporting may encourage mangers to continue their bad environmental practices and this situation would worsen environmental issues. Environment pollution would raise many potential challenges to business houses as well as the society in the long run22. Therefore, the issue of environmental pollution ultimately affects all business firms regardless of their nature and size23. Hence, the recent advancements in management accounting discipline require management accountants to promote ethical sustainability reporting. This discipline has developed some well improved standards for effectively performing sustainability reporting and thereby promoting the idea of ‘eco-friendly business’. To be more specific, the area of management accounting has an important role to play in developing and promoting ethical standards in corporate sustainability reporting. Conclusion From the above discussion, it is clear that the evolution of management accounting discipline has a history of long years. Even though earlier, the branch of management accounting was known by its cost accounting functions, currently this field pays particular attention to both cost accounting and managerial control aspects. It is identified that management accounting discipline has a direct influence on many other key organisational functions. This discipline emphasises managers’ professional code of ethics so as to enable them to effectively deal with different ethical dilemmas. In addition, this discipline contributes to the fairness of performance measurement process and balanced scorecard approach; and this condition in turn assists a company to improve its employee morale and organisational culture. The management accounting discipline also addresses numerous unethical practices in activity based management and activity based costing. Finally, the fast development of this accounting area over the last few decades has contributed to fair and professional corporate sustainability reporting practices. 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