Cost Accounting: A Managerial Emphasis - Example

Management Accounting and Control School Introduction As the business world is now on a very fast increasing trend regards competition, it is hence important for the managers to form clear, logically and internally consistent strategies for their businesses and to have models and tools which provide valuable information supporting strategic decision-making, control and planning. What does management accounting and control means? What the use of this field is in today’s businesses and what are the functions of persons related to this field? A thorough study of this report will enable you to have the understanding of all the above mention questions and a lot more. The decision making techniques, factors considered for making those decisions and all other allied matters shall be discussed in this report. Management accounting and control Management accounting, also called managerial accounting, deals with the accounting information’s provisions and its use for managers within their entities, to offer them with the base for making informed decisions of business that will let them to be equipped better in their control and management functions (Horngren, Foster, Datar,  Rajan &  Ittner, 2008). The person dealing in management accounting is known as Management Accountant. A management accountant has a double reporting relationship as consistent with other characters in the corporations in the present days. (Control & OpenCourseWare, 2014) Due to the role played by them as strategic partners and the providers of operational and financial information based decision, the management accountants are accountable for the management of their business team. At the same time management accountants have the duty to report responsibilities and relationships to the finance organization of the corporation.  (Kihn, 2010) In comparison to information related to financial accounting that related to management accounting is: model established with a degree of concept to upkeep decision making generally, in place of case based (Holtzman, 2013); mainly forward-looking, in place of historical; used by management and usually confidential, instead of reported publicly (Atkinson,  Kaplan,  Matsumura &  Young, 2011); intended and designed for use by managers inside the organization and not intended for use by the creditors, shareholders, and public regulators; Calculated for the needs of managers, frequently using management information systems, in place of referring to general financial accounting standards (Garrison, Noreen & Brewer, 2011). Part A: Standard Costing and Variance Analysis Standard Costing Standard costing is a vital topic in the vast field of cost accounting. Standard costs are generally associated with the costs of manufacturing overhead, direct material, and direct labor of a manufacturing company (Berger, 2013). Many manufacturers assign projected/expected or standard cost rather than assigning actual costs of manufacturing overhead, direct material, and direct labor to a produce. It clarifies that the cost of sales and inventories of a manufacturer will start with amounts replicating the standard costs of a product, not its actual costs (Horngren,  Datar &  Rajan, 2011). As the manufacturers still pay the real/actual costs therefore differences between the standard costs and the actual costs are almost always there. These differences are named as variances. Standard costing and the variances related to it is a valuable tool of management. Arousal of variance makes the management be aware of the fact that manufacturing costs have got some difference from the expected /planned/standard costs. The variance is negative/unfavorable in case the actual costs are more than standard costs. An unfavorable variance conveys the management a message that if every other thing remains the same/constant, the actual profit of the company will be less than the planned one. On the other hand, the variance is positive/favorable in case the actual costs are fewer than standard costs. A favorable variance conveys the management a message that if every other thing remains the same/constant, the actual profit of the company will probably exceed the planned profit. The management’s response to the variances and difference from the planned amounts will depend upon how quick a variance is reported by the accounting system. Variance Analysis A variance, in accounting, is the distinction between a planned or expected amount and the actual amount. For instance, there can be seen a variance for items contained in an expense report of a department. Variance analysis tries to find and explain the causes for the difference among an actual amount and the budgeted amount. Variance analysis is associated generally with the product costs of a manufacturer. In detail, variance analysis identifies the reasons for the differences among a manufacturers 1) actual costs of inputs that are used for the actual production, and 2) the standard costs of inputs that were expected to have occurred for the actual production. Variance analysis can be very helpful for organizations to lead to the recognition of such types of tasks that regularly overrun their budget at the same time as other tasks may be realized to be regularly coming in under their budget (Atrill & McLaney, 2012). Variance analysis is indeed very important for the progress of organizations; however there are some problems also associated with the variance analysis. Among the major problems with this approach, one is that this approach requires a lot of time from the management. (Pickett, 1998) Decision in respect of the given statement The given statement is a question asking about whether Variance Analysis and Standard Costing are suitable to any size and type of organization. In my opinion, the given statement is agreeable and true in its meaning. The reason for the agreement with the statement is that every organization needs to reduce its prices to compete in the relevant market. For setting low prices an organization must reduce its cost constraints so that it is achievable for the business to have sufficient profits despite of low prices set. Almost all the organization would prefer to set up some standards relating to the costs of its manufacture. These costs would then be compared with the actual incurred costs and the variances be derived to study the differences among the standard costs and the actual costs. This will further help the management to identify the reasons for the difference in both these and the management will then ensure that both the costs are going consistent with each other so that the budgeted or expected profits may be achieved. Part B: Decision making by a Strategic Management Accountant (SMA) Strategic management accounting (SMA) is the combination of strategic business goals with information related to management accounting in order to provide a model that helps assist the management to make business decisions. Contrasting to the management accounting (which emphases on in-house accounting metrics), the SMA strategy assesses external information relating to the trends in prices, costs, cash flow and market share, and their influences on resources, for the determination of appropriate tactical response. The person having the skills to perform the strategic management accounting is known as Strategic Management Accountant. A strategic management accountant requires to have enhanced intelligence and complete knowledge about the suppliers, competitors and technologies. He makes important decisions regarding the production processes and operations of a company. Some of these decisions include: 1. The shutdown decision There may be certain cases where the business must have to consider whether an activity can be carried on r needs to be closed. Some analysis is made to determine if there reasons to believe that an activity is not profitable and needs to be closed (Bragg, S. M. 2012). Whenever such indications are observed, the management stops on that activity. This decision is known as the shutdown decision. In case of decision heading towards shut down or closure, the following points are considered: 1. Current profit condition has to be kept, so by studying the proposal of outsourcing or shut down, if the current income is lowered, then the shutdown decision will not be permitted unless the factory or product has touched the end of its life cycle (Boyd, 2013). 2. In case the proposal is outsourcing, the differential cost concept can be applied i.e. savings in costs must be more than or equivalent to out-sourcing charges payment. Here, the cash inflow (savings in costs) is calculated from the relevant cost concept i.e. closing down will enable us to save the discretionary fixed costs or shut down costs, and the variable cost of production.  Shutdown decisions, in practice, may involve taking into consideration the capital expenditures and revenues. For instance, shutting down a division may result in saving its yearly operating costs, or the fixed assets remaining idle due to closure may be used in other plans which are more advantageous or could also sell them off. The financial aspect of closure always needs to be properly analyzed before making a decision. An example to quote may be: The closure of a department may result in savings of $50,000 but if the redundancy payments are up to $70,000 then this decision is leading to a net loss and is hence not a wise decision. Also note that, considering the only financial aspects while making business decisions is not enough. Non-financial aspects must also be given equal prominence. In the modern world, businesses concentrate more on non-financial side compared to the financial side. 2. Pricing Attaching an accurate and fair price tag to your goods and services can be very handful balancing act. It is nowadays very common that many business proprietors have a constant struggle regarding setting their pricing policies (Cashin,  Polimeni &  Handy, 1994). Some use unsuitable approaches, for example, trying to always be the lowest-priced performer in the market, while the others fail to alter their method to capitalize on market changes. It is a renowned fact that the success of your goods and services directly relies upon an organization’s ability to sell them. This in turn is reliant on the pricing strategy of that organization. If the prices are kept too low, there will be no or low profits and conversely, if they are kept too high, the organization doing so will surly loose customers. There are many simple, yet conclusive measures that can be taken by businesses to accurately price the goods or services. By working out creative decisions and a deep awareness of consumer motivations, the chances of owning the market can be increased greatly. The following is some guidance about the pricing maze that will help businesses to have accurate pricing. Pricing Models For some businesses, beat-the-competition pricing approach will work good, there are many other difficulties involved in formulating a pricing strategy (Inc. BarCharts, 2011). Totaling to the market value of goods or service, the prices, to a degree, will be affected by external aspects that are out of the control of the entity. For example, if an entity launches a new product in the market, there will be some start-up costs that the entity will want to recover. These costs will include manufacturing, research, staff, equipment, machinery and packaging (Lanen, Anderson & Maher, 2010). It is an important noting that the pricing models are the same for services. While an entity may not have the massive start-up costs with service companies, still it will most likely be essential to put out some amount up front. Self-assessment Whether you are the owner of a product or service business, the following self-assessment is advisable to assure that your pricing model has been given the proper equation by you. Ask yourself below mentioned questions in this respect: 1. What is my per-unit cost?  2. Have I figured my start-up costs accurately? What are they, if it is so? 3. In determining my per-unit cost, have I included in all amount spent, including supplies, labor and packaging? 4. Do I prefer to make some profit in the very first year, or will I be satisfied to just break even? 5. What number of units can I produce or services can I deliver in one year? 6. If I wish to make a profit in the very first year, what is an achievable profit goal? Is that number added into my pricing equation? 3. Product mix and limiting factor analysis   An organization may have just one limiting factor but several scarce resources might also be there, with more than one putting an effective bound on the level of activity that the organization can achieve (Berry, 2005). Some examples of limiting factors are production constraints and sales demand. – Labor. The limit may either be in terms of particular skills or total quantity. – Materials. The material available may be insufficient to produce units sufficient enough to fulfill sales demand. – Manufacturing capacity. The machine capacity may not be sufficient to produce the units required to meet sales demand. In limiting factor analysis, it is assumed that the management will make a service mix decision or product mix decision based on the choice that will maximize the profit and that profit gets maximized with contribution maximization. In simple words, ideas related to marginal costing are applied.  – Contribution is maximized when an entity earns the biggest possible per unit contribution of limiting factor. – Therefore, the limiting factor decision involves determining of the contribution that is earned for a unit of limiting factor by individually different product.  – The profit-maximizing decision will be made as to produce the top- ranked product or products to the sales demand limit in case the sales demand is limited. It is generally assumed, in limiting factor decisions, that whatever service or product mix is selected, fixed costs are the same, so that the only remaining relevant costs are variable costs.  • Where there is a single limiting factor, the skill for creating the contribution-maximizing service mix or product mix is to rank the services or products in the order of contribution-earning capability per unit of limiting factor.  4. Make or buy decisions It is the act of selecting between manufacturing merchandise in-house or buying it from an external seller. There are two very important factors in a make or buy decision, which are availability of production capacity and cost. (Horngren,  Sundem, Schatzberg & Burgstahler, 2013). An organization may decide to buy the product rather than manufacturing it, provided that it is inexpensive to buy than to make or if it does not have adequate production capacity to manufacture it in-house. With the phenomenal increase in global outsourcing for the past few decades, the make-or-buy choice is one that the managers have to cope with very frequently.  Managers frequently consider whether to produce or buy product parts or sub-assemblies or either the company should function its own upkeep activities such as accounting, systems, information and legal services. These are named make-or-buy decisions.  These decisions may be contingent greatly on qualitative factors for example maintaining fair, long-term business affairs with sellers or controlling the timeliness and quality of goods and services.  Nonetheless, the decision may rely partly on the quantitative extent of the variance in future costs among the alternatives.  Understanding relevant variable and fixed cost behavior is vital.  Identifying and using suitable cost drivers to forecast variable costs is also critical since unsuitable cost drivers will result in inaccurate cost predictions.  In make-or-buy judgments the productive capacity company should always be kept in mind.  If there is any idle capacity, then some fixed costs will remain constant in the future due to the make-or-buy decision.  On the other hand, if an entity is currently using the capacity fully, the make-or-buy judgment may affect upcoming fixed costs because creation of the part or component will need more capacity and fixed costs related to capacity.  Relevant costs relating to the make-or-buy decision are the costs that will undergo a change in the future due to the decision. Relevant costs comprise of all the additional costs of manufacturing or all the costs avoided by purchasing.  The make-or-buy decisions, generally, compare the costs of substitute uses of the productive capacity. Qualitative factors in decision making There are certain qualitative factors in decision making. They are as follows: (1) Effect on schedules, employee morale and other internal elements; (2) commitments to and relationships with suppliers; (3) effect on the present and new coming customers; (4) long-term future impact on profitability; (5) Level of Cooperation with Government, Utility and Educational Officials; (6) Climate; and (7) Probability of Long-term Operative Costs. In some decision-making circumstances, qualitative features are more significant than immediate financial advantage from a decision. List of References Atkinson A. A.,  Kaplan R. S.,  Matsumura E. M. &  Young S. M. (2011) Management Accounting: Information for Decision-Making and Strategy Execution. Prentice Hall; 6 edn. Atrill P., McLaney E. (2012) Management Accounting for Decision Makers with MyAccountingLab access card. Pearson Education Canada; 7 edn. Berger A. (2013) Standard Costing, Variance Analysis and Decision-Making GRIN Verlag Berry L. E. (2005) Management Accounting Demystified. McGraw-Hill; 1 edn. Boyd K. (2013). Cost Accounting for Dummies. For Dummies; 1 edn. Bragg S. M. (2012) Cost Accounting Fundamentals: Essential Concepts and Examples Accounting Tools; 3rd edn. Cashin J.,  Polimeni R. &  Handy S. (1994) Schaums Outline of Cost Accounting. McGraw-Hill; 3 edn. Control, M., & OpenCourseWare, M. (2014). Management Accounting and Control. MIT OpenCourseWare. Retrieved 1 August 2014, from http://ocw.mit.edu/courses/sloan-school-of-management/15-963-management-accounting-and-control-spring-2007/ Garrison R., Noreen E. & Brewer P. (2011) Managerial Accounting. McGraw-Hill/Irwin; 14th edn. Holtzman M. P. (2013) Managerial Accounting For Dummies. For Dummies; 1 edn. Horngren C. T.,  Datar S. M.,  Rajan M. V. (2011) Cost Accounting: A Managerial Emphasis. Prentice Hall; 14th edn. Horngren C. T.,  Sundem G. L., Schatzberg J. O. & Burgstahler D. (2013) Introduction to Management Accounting. Prentice Hall; 16 edn. Horngren C. T., Foster G., Datar S. M.,  Rajan M. &  Ittner C. M. (2008) Cost Accounting: A Managerial Emphasis, Prentice Hall; 13th edn. Inc. BarCharts (2011) Cost Accounting (Quick Study: Business) Pamphlet. QuickStudy; Lam Crds edn. Kihn, L. (2010). Performance outcomes in empirical management accounting research: Recent developments and implications for future research. International Journal Of Productivity And Performance Management, 59(5), 468-492. doi:10.1108/17410401011052896 Lanen W., Anderson S. & Maher M. (2010) Fundamentals of Cost Accounting. McGraw-Hill/Irwin; 3 edn. Pickett, K. (1998). Diary of a control freak: the manager’s guide to internal control. Managerial Auditing Journal, 13(4/5), 210-332. doi:10.1108/02686909810216291 Read More