Budgetary Planning and Control in Apple plc - Case Study Example

Budgetary Planning and Control in Apple plc Introduction Strategic accounting is a prospective field of study that is capable of being further developed and enhancing the future involvement of managerial accounting in the financial systems adopted by organisations. However it has been observed that in spite of the exposure that has been received by this area, there is a serious lack of a complete conceptual framework that might act as a practical guideline. In the words of Coad (1996), “strategic management accounting is an emerging field whose boundaries are loose and, as yet, there is no unified view of what it is or how it might develop” (Drury, 2008, P. 570). It has been found that the literature pertaining to this field of study is incongruent as well as disjointed. As strategic decisions generally centre on long term goals of the organisation, they have external factor, such as product mix, etc. associated with them. In accordance with this fact, Cooper and Kaplan (1988) had opined that “strategic accounting techniques are designed to support the overall competitive strategy of the organisation, principally by the power of using information technology to develop more refined product and service costs” (Drury, 2008, P. 570). It has been observed that strategic accounting techniques comprise activity based costing (ABC), lifecycle costing, target costing, etc. In the context of Apple plc, it has been found that the company currently allocates common costs to the products using the absorption costing system and the directors and managers have negligible knowledge of the role as well as nature of management accounting. It was apparent that the existing performance evaluation system is causing serious dissatisfaction amongst the managers of the different divisions and in turn leading to growing rivalry and tension between divisional managers and is affecting the business operations of the company. This report will undertake an extensive literature review and will subsequently aim at evaluating the various techniques of strategic accounting in order to provide a feasible alternative to Apple plc. I. Strategic Accounting Figure 1: Stages in the Strategic management Accounting Process (Source: Smith, 2005, P. 17) Owing to the strategic element associated with it, strategic accounting comprises the stages that resemble those of strategic management. While undertaking the process of strategic accounting, managers are necessitated to identify the objectives as a prerequisite. Following this, a situation audit is performed to evaluate the organisation’s strengths and weaknesses with respect to the business environment wherein it operates. The findings of the audit are compared and organisational processes are benchmarked against industrial best practices and subsequently strategic alternatives are formulated. Once the best alternative is selected and implemented, it is evaluated to analyse its effectiveness as well as its implications on the accounting system. Figure 2: Diagrammatic Representation of a Cash Flow Statement (Source: Chorafas, 2007, P. 246) The cash flow statement acts as the fundamental tenet of strategic accounting. Any financial manager should have a clear knowledge about the elements that comprise the cash flow statement. This helps him understand the sources as well as the uses of funds and eases financial decision making. While most of the companies are found to emphasise on the net income, it has been observed that some of them consider operating income. They factor in the gains as well as losses while evaluating the assets and liabilities. Unutilised cash flow signifies the levels of fund that are available for investing in ancillary activities that might manifest the organisational objectives (Chorafas, 2007, P. 245). Strategic accounting plays a vital role in defining the strategic responsibilities of managers. Research findings have revealed that “managers with effective management accounting systems gather more information and are more aware of developments in the company’s environment” (Heidmann, 2008, P. 137). The importance of strategic accounting lies in the fact that it aligns the financial activities of a business organisation with its objectives. This fact is of utmost significance as the success of financial activities, apart from those of other primary activities, determines sustainable profitability of organisations. II. Activity Based Cost Management As the name suggests, in activity based cost management (ABCM) the central principle is to allocate costs to each activity that is required to be performed in order to manufacture the finished product. This process helps the management identify the activities wherein there is wastage of financial resources. The basic steps that comprise ABCM are formulation of strategy, planning, locating resources, defining the products as well as the cost drivers, selecting the department(s) and/or area(s) that have to be analysed, calculating activity times, calculating ABC costs, summarising the costs, and taking necessary action as per the action plan (Frost, 2005, P. 5). It has often been observed that activity based cost management is split into two distinct and yet interrelated components, viz. activity based costing (ABC), and activity based management (ABM). ABC is the financial process that is undertaken to design and develop transaction costs that have to be subsequently attached to the products and/or services provided by an organisation. Organisations are required to conduct thorough analyses of the business in order to find out the customer actions that drive costs. These factors are commonly known as the cost drivers. ABC also necessitates the management to perform cost studies in order to determine costs that are associated with these drivers. Frost (2005) had observed that “ABC costs are most often used for product and customer profitability reporting as part of ABM” (Frost, 2005, P. 5). In contrast, ABM helps in utilising the ABC costs and provides managers with “quantifiable guidance on the management of the company’s resources” (Frost, 2005, P. 5), and shows them how to improve the cost efficiency. According to certain theorists, ABCM is neither a tool nor a solution; rather they believe that “it brings visibility of the symptoms of problems from which effective solutions can be inferred” (Cokins, 2004, P. 9). III. Budgetary Planning and Control Budgets being financial plans act as reference scales against which financial performance can be compared. They help managers in the vital process of financial control. Owing to the fact that the responsibility of budgeting is entrusted upon responsible managers, the term responsibility accounting has coined for it. Budgeting is useful for organisations whose outputs are varied. This aspect of strategic accounting has been discussed in this report as its characteristics are coherent with those of Apple plc. Budgets generally connect financial accountability and the organisational structure and depending upon differential purposes, they may be fixed or flexible. The process of budgeting may be defined as “any formalised system of forecasting, planning, monitoring and controlling the use of resources” (Abraham, Glynn, Murphy & Wilkinson, 2008, P. 170). Figure 3: Framework of Financial Planning and Control (Source: Smith, 2005, P. 4) Budgeting is important because organisational spending as well as commitments should mandatorily be alert to the constant changes that take place in the highly volatile global market. According to Emmanuel et al. budgetary planning and control has certain major functions that are in the forms of a method of authorisation, a method of estimating and planning, a means of coordination and communication, a motivational tool, a basis of performance appraisal and control, a tool to facilitate managerial decision making (Abraham et al., 2008, P. 170). Budgets help managers achieve their goals, discharge their duties, and make them reasonably responsible for their decisions as well as performances. As had been outlined by Drury (2004), the budgetary process comprises six major stages. Firstly the financial managers should identify the objectives of budgeting, and then they should search for different options. It is important to gather relevant information about the various options in order to select the strategic alternative that is best suited for achieving the corporate goals. Once the strategic choice is finalised, it has to be implemented. In the next step the management should compare actual outcomes against those that had been planned and take necessary measures to bridge the gap (Abraham et al., 2008, P. 171-172). IV. Financial Performance Measurement Figure 4: Components of Financial Performance Measurement (Source: Smith, 2005, P. 16) It is immensely important for organisations to undertake financial performance measurements in order to comprehend their current financial position and at the same time forecast future profitability. It has been observed that “for any organisation the choice of an optimum set of non-financial indicators (NFIs) is inextricably linked to its goals” (Smith, 2005, P. 4), and it is necessary that these indicators provide measures that are in coherence with the corporate goals. From Figure 4 it can be understood that each value-adding activity of an organisation has a set of non-value-adding activities – in the form of cost drivers, and a set of non-financial performance indicators (NFIs) that are inherently associated with them. While organisations aim at enhancing their cost efficiencies, they should also identify the cost drivers and NFIs and check for the costs associated with them. The lower the costs involved with these two components the higher is the cost efficiency of the value-adding activities. The main reasons for employing financial performance measures are that they provide common denominators to organisations that have an assorted product range, and they “often give a clear, summarised view of the total effect of the multitude of changes and improvements being implemented within a plant or a company” (Maskell, 1991, P. 247). V. Financial Performance Measurement: The Balanced Scorecard Figure 5: Framework of the Balanced Scorecard (Source: Kaplan & Norton, 1996, P. 9) The balanced scorecard (BSC) is based on four organisational aspects, viz. financial, internal business processes, learning and growth, and customer, and “complements financial measures of past performance with measures of the drivers of future performance” (Kaplan & Norton, 1996, P. 8). Owing to the wider scope of the BSC, the management can evaluate how the different business units can generate value for the current as well as future customers. Moreover it also gives an idea as to how the internal capacities along with the investment to develop the organisational resources viz. employees, systems and operations, may be enhanced in order to better the future performance. Kaplan and Norton (1996) have opined that “while retaining, via the financial perspective, an interest in short-term performance, the balanced scorecard clearly reveals the value drivers for superior long-term financial and competitive performance” (Kaplan & Norton, 1996, P. 8). The BSC can be directly linked to the corporate strategies because it conveys the organisational vision to all its members and thereby creates an environment of shared understanding. Simultaneously, it also represents “a holistic model of the strategy that allows all employees to see how they contribute to organisational success” (Kaplan & Norton, 1996, P. 148). Finally, it also draws organisational attention to change by helping the management identify the correct objectives as well as the correct measures. Thus, the BSC enhances the chances of successful implementation of strategies and reduces the probabilities of financial wastage in terms of both initiatives as well as investments. VI. Divisionalisaton and the Transfer Pricing Problem Figure 6: Divisional Structure of Apple plc As Apple plc is observed to have a divisional structure comprising three separate divisions each of which is responsible for a particular product group, it may be reflected that the organisation has certain advantages and disadvantages that are inherent to this particular structure. In a divisional organisation the process of decision making is improved due to enhanced knowledge sharing and motivation within the departments. Simultaneously, as the top managements need not involve in operational decision making, they can concentrate more on the formulation of strategies. However, divisional managers are more than often found to misuse their position in order to seek autonomy. Moreover they tend to grow complacent and hence risk-averse (Bowhill, 2008, P. 239). This is a potential threat to any organisation as it slowly erodes its competitive advantage. Divisional structures also create rifts among the various divisional supervisors and promote unhealthy competition within the organisation, and hence disturb the harmony. Another serious problem with the divisional structure arises when the divisions are required to provide products and/or services to each other. Since each division is accountable for return on investment (ROI) or profits, “a transfer pricing mechanism needs to be in place in order that a price can be established for the goods and services that are transferred” (Bowhill, 2008, P. 240). Decisions pertaining to internal and external purchase, and transfer prices for sales within the organisational divisions are not important when the sales volumes are low. However, when these volumes are high, they have major impacts on the profitability of the selling as well as the buying division, and it is observed under such circumstances, that “although the transfer price will not affect overall income of the company (since costs and revenues of buying and selling divisions exactly cancel out), the price can lead divisional managers to make decisions that may not be in the best interests of the company and overall company profit may suffer” (Bowhill, 2008, P. 240). With reference to Apple plc, it may be inferred that if left unnoticed, the problem associated with the process of transfer pricing will further affect its divisional productivity as well as managerial motivation. Recommendations On the basis of the extensive literature review and its correlation with the situation prevailing at Apple plc, the following set of recommendations may be proposed to the latter: 1. Owing to the fact that traditional accounting techniques has certain inherent limitations, the company should switch to modern accounting techniques by following an emergent approach to strategic management. 2. The management should pay heed to the fact that the directors as well as managers have little understanding of the role as well as the nature of management accounting and consequently, should arrange for management development programmes (MDPs) in order to infuse necessary awareness among them. 3. The management should promote the use of strategic accounting techniques, especially the ABCM process to enhance cost efficiency as well as profitability across the departments. Simultaneously, the BSC should also be employed as a holistic tool for aligning the financial processes with other business activities and the corporate goals. 4. Interdependence among the departments should be minimised in terms of products and/or services in order to reduce the problems pertaining to transfer pricing. As each of the three departments is considered to be a profit centre, the management should ensure that their profitability is incrementally enhanced. This will in turn motivate the divisional managers and optimise their job satisfaction as well as performance. Conclusion Through the course of this research, it was observed that strategic accounting techniques have numerous benefits over the traditional techniques. As the problem prevailing at Apple plc revolves around the facts that the directors and managers lack relevant knowledge about strategic accounting, and the divisional managers are dissatisfied with existing performance evaluation system, the company should undertake measures to create awareness among its employees about the management accounting techniques that comprise the ABCM, the BSC, etc. Simultaneously, it should reduce wastage of financial resources and enhance the profitability of each of the three divisions. References 1. Abraham, A., Glynn, J., Murphy, M. & Wilkinson, B. 2008. Accounting for Managers. 4th ed. Cengage Learning EMEA. 2. Bowhill, B. 2008. Business Planning and Control: Integrating Accounting, Strategy, and People. John Wiley and Sons. 3. Chorafas, N. D. 2007. Strategic Business Planning For Accountants: Methods, Tools and Case Studies. Elsevier. 4. Cokins, G. 2004. Activity-Based Cost Management: Making it Work. Tata McGraw-Hill. 5. Drury, C. 2008. Management and Cost Accounting. 7th ed. Cengage Learning EMEA. 6. Frost, W. 2005. ABCs of Activity Based Management: Crushing Competition through Performance Improvement. iUniverse. 7. Heidmann, M. 2008. The Role of Management Accounting Systems in Strategic Sensemaking. DUV. 8. Kaplan, S. R. & Norton, P. D. 1996. The Balanced Scorecard: Translating Strategy into Action. Harvard Business Press. 9. Maskell, H. B. 1991. Performance Measurement for World Class Manufacturing: A Model for American Companies. Productivity Press. 10. Smith, M. 2005. Performance Measurement & Management: A Strategic Approach to Management Accounting. SAGE. Bibliography 1. Bragg, M. S. 2009. Controllership: The Work of the Managerial Accountant. 8th ed. John Wiley and Sons. 2. Chapman, S. C., Hopwood, G. A. & Shields, D. M. 2007. Handbook of Management Accounting Research. Vol. 2. Elsevier. 3. Emmanuel, R. C. & Merchant, A. K. 1990. Accounting for Management Control. 2nd ed. Cengage Learning EMEA. 4. Hansen, R. D., Mowen, M. M. & Guan, L. 2007. Cost Management: Accounting & Control. 6th ed. Cengage Learning. 5. Hoque, Z. 2006. Methodological Issues in Accounting Research: Theories, Methods and Issues. Spiramus Press Ltd. 6. Lynch, M. R. 1984. Accounting for Management: Planning and Control. 3rd ed. Tata McGraw-Hill. Read More