Cost Management: Accounting and Control - Essay Example

Running Head: Cost and Management Accounting Name Institution Course Professor Date Topic 1 Abstract Budgeting is an important tool in an organization that helps in the management process. Budgets help in planning of future activities in physical and monetary terms and also serve a crucial role in controlling operations in a firm. Budgeting process plays many useful functions such as identification of bottlenecks, communicating management plans and expectations, and creation of benchmarks which is used in judging the actual performance. Budgeting is important as it gives formality to the process of planning and upon its establishment; it act as a benchmark where evaluation of actual results is done. Although budgeting plays a crucial role in planning and controlling organization’s activities, it may also create incentives for unethical behaviour. Organizations must recognized conflicting issues in the budgeting process especially its use as a planning and control tool. Therefore, they need to put mechanisms in place that ensures both individual employees and entire organization interests are served. Budgeting is important in planning and controlling organization’s activities. It is an important tool in the organization that helps in management process. Budgets help in planning of future activities in physical and monetary terms and also serve a crucial role in controlling operations in a firm. Budgeting process plays many useful functions such as identification of bottlenecks, communicating management plans and expectations, and creation of benchmarks which is used in judging the actual performance. Budgeting is important as it gives formality to the process of planning and upon its establishment; it act as a benchmark where evaluation of actual results is done (Hansen &Mowen, 2011). Although budgeting plays a crucial role in planning and controlling organization’s activities, it may also create incentives for unethical behaviour. This essay discusses how the use of budgets in planning and controlling activities in an organisation may create incentives for unethical behaviour. Moreover, it also discusses strategies that organisations can adopt in minimization of risk of their budgeting system leading to unethical behaviours. The behavioural dimension that underlies budgeting is ethics. Positive and negative behaviour can occur when budgets are used for planning and controlling activities. In most cases, budgets are used to judge both managers and employees actual performance (Hansen,Mowen, & Guan, 2009). Unethical behaviour can occur when promotions, bonuses and salary increases of managers are affected by their ability to achieve budgeted goals. Managers in this case have the highest incentive of engaging themselves in an unethical behaviour since they know that their benefits are at stake if they fail to achieve budgeted goals. Positive behaviour happen when individual managers’ goals are aligned with organizational goals (Sims, 2000). In this case, a manager has the urge of achieving these goals. Goal congruence is a term often used in referring to organizational and managerial goals alignment. However, goal congruence alone is not enough to drive managers in achieving these goals (Bowhill, 2008). In addition, managers must also exert their maximum effort in order for organizational objectives to be achieved. Budget is used as a tool for administration in the organization. Organizational plans are contained in the budgets and when they are finally drafted, implementation follows. Budgets can cause the reaction of subordinate managers to be negative when it is improperly administered (Hansen &Mowen, 2011). Manifestation of this negative behaviour can occur in numerous ways, but subversion of the goals of the organization is its overall effect. Individual behaviour that conflicts the goals of the organization is dysfunctional behaviour. This behaviour is unethical and it is brought about by poor administration of the budget. Dysfunctional actions that a manager may choose to undertake regarding budgets can have unethical dimension. An example is a manager who knowingly overestimates costs and underestimates sales in order to make achievement of budgeted targets easier to achieve is engaging himself or herself in an unethical behaviour. One of the responsibilities of a manager is to avoid any unethical behaviour while the organization’s responsibility is creation of budgetary incentives that encourages no unethical behaviour (Hansen et al., 2009). A good budgetary system is the one that ensures complete goal congruence is achieved and at the same creates drive in managers in achievement of organizational goals in a manner which is ethical. Although bottom-up budgeting, in which employees considerations and inputs are taken into consideration by the management throughout the organization is effective in engaging all those who are tasked with achieving budgeted goals, even this kind of budgeting has problems. Ethical issues do arise regularly in the process of budgeting. In most cases, this occurs when managers and employees are evaluated on the basis of comparison between budget and their actual results (Heisinger, 2008). To highlight how ethical dilemmas in an organization might occur, an example is a manager who helps top management in establishing master budget which is the planning phase. Furthermore, the manager is evaluated based on the budgeted profit on yearly basis (control phase). The manager will receive a bonus amount of $10,500 if he or she meet or exceed organizational budgeted profit. There exists inherent conflict between the two phases, that is, planning and control in this budgeting process. The manager is helping the organization plan in this case, but he or she also wants to ensure that the budgeted profit remains as low as it can so that he or she receive $10,500 bonus. Establishment of profit and sales budget that is lower than what is likely to be achieved creates problems for the whole organization. Production process may be inhibited by materials and labour shortage causing inefficiencies in the process of production. The dilemma that the manager faces in this circumstance is whether to set a low profit estimate in order to earn a bonus or estimate accurately so thatthe budget is a reflection of the true production and sales needs. Compensating and evaluating managers and other employees according to whether they achieve budgeted goals may create incentives for them to pad the organization budget, therefore making the targets relatively easier to achieve (Jackson, Sawyers, & Jenkins, 2009). For example, a manager who knows that bonus will be received if sales in his or her department exceed the estimates of the budget, he or she may have incentive to set the budget sales at a level which is unrealistically low.In addition, tying compensation to achievement of targeted budgets also provides incentive to managers to shift expenses and revenues from one accounting period to another (Jackson et al., 2009). This is to ensure that the budget is successfully met.For example, a manager who thinks that he or she is unlikely to meet a target in a cost budget, may defer some expenses like repairs and maintenance to the next accounting period. This behaviour is unethical as well as of no clear benefit to the organization as a whole. In organizations today and mostly United States, CEOS are rewarded after meeting the existing corporations value evident by their average remuneration which is roughly double as compared to their European and Japanese counterparts (Maslach & Leiter, 2008). The linking CEOS reward to organizational stock values is an example of an avenue where CEOS can exploit the organizations intrinsic value for personal gain. Strategies that can be adopted A budget is a technique used in translation of goals and strategies into operational terms when it used for planning in an organization (Hansen et al.,2009). It can also be used as a control tool whereby actual outcomes are compared with the planned objectives. This comparison helps in provision of feedback for both future budgets and operations. The budgeting process of a large firm is usually done by a budget controller whose responsibility is coordination and directing the entire budgeting process. In most companies, participatory budgeting system is used. The budget process starts with departmental mangers preparing their estimates. It is then submitted to the middle management and it then flows up to the top management. In each of the management level, estimates of the budget are prepared and subsequently submitted for scrutiny at next level of organization’s management. Unethical behaviour can occur at any of these levels and it is upon the management to guide the budgeting process using a strategic plan that focus its attention on the entire organization and also integrates individual budgets (Maslach & Leiter, 2008). Managers tend to focus more on important parts of the budget when budgeting process is clearly guided by strategic plans. They also make managers less worried about any irrelevant details which may create incentives for unethical behaviour. Moreover, in order for organizations to motivate both managers and employees in achievement of goals and objectives provided in the budgets, organizations should structure merit pay, bonuses or any other rewards in a manner which link these rewards to measurable goals stated in the budgets. Unethical behaviour in budgeting process can be reduced by taking more of positive steps by the organization such as giving assurance to managers that evaluation of their performance will be undertaken in a manner which is fair and equitable (Seidner, Zietlow, & Hankins, 2013). Furthermore, inclusion of other factors such as quality of goods and services that are provided, customer satisfaction surveys, and similar metrics in performance evaluation also reduced likelihood of unethical behaviour occurring in budgeting process. Appropriate promotion, compensation, decision making and target setting can help organizations in reducing unethical behaviours in their budgets (Amann, 2013). Organizations must recognized conflicting issues in the budgeting process especially its use as a planning and control tool. Therefore, they need to put mechanisms in place that ensures both individual employees and entire organization interests are served. For example, organizational employees can receive rewards not only for meeting objectives, but also for provision of accurate estimates. Incentive system such as the long-term stock option would perhaps be a strategy that organisations can employ in providing motivation to employees (Heisinger, 2008). This is to motivate them do what is good for the organization therefore increasing shareholder value. Organizations must beware of the fraudulent reporting that can occur in achievement of financial targets and at the same time promote honest employee contribution no matter which incentive system an organization implements. Organizations can also reduce incentives for unethical behaviour by punishing behaviours which are unethical with strong sanctions. They can also hold managers and other employees accountable for their actions (Phillips & Gully, 2012). References Amann, W. (2013). (Eds.). Integrity in organizations: Building the foundations for humanistic management. Hampshire: Palgrave MacMillan. Bowhill, B. (2008). Business planning and control: Integrating accounting, strategy, and people. Chichester, England: Wiley. Hansen, D. R., & Mowen, M. M. (2011). Cornerstones of cost accounting. Mason, OH: South-Western, Cengage Learning. Hansen, D. R., Mowen, M. M., & Guan, L. (2009). Cost management: Accounting and control. Mason, Ohio: South-Western. Heisinger, K. (2008). Introduction to managerial accounting. Boston, Mass: Houghton Mifflin. Jackson, S., Sawyers, R., & Jenkins, J. G. (2009). Managerial accounting: A focus on ethical decision making. Mason, OH: South-Western. Maslach, C., & Leiter, M. P. (2008). The Truth About Burnout: How Organizations Cause Personal Stress and What to Do About It. Hoboken: John Wiley & Sons. Phillips, J., & Gully, S. M. (2012). Organizational behavior: Tools for success. Mason, OH: South-Western Cengage Learning. Seidner, A. G., Zietlow, J., &Hankin, J. A. (2013). Financial management for nonprofit organizations: Policies and practices. Hoboken, N.J: Wiley. Sims, R. R. (2002). Managing organizational behavior. Westport CT: Greenwood Press. Topic 2 Abstract Advances in technological innovation, automation, global competition, and computerized systems have led to drastic changes in the manufacturing environment. As a result, levels of direct labour that are used in many manufacturing firms have greatly decreased. Furthermore, the total overhead costs that result from depreciation of expensive machinery and equipment, maintenance, repairs and utilities have significantly decreased. Many manufacturers have undertaken major fundamental changes in their business philosophies and operations. These changes in the manufacturing environment have in turn affected the type of costs that a firm incurs and, to some extent, the manner in which costs are recorded in the firms’ product costing system. There has been tremendous change in the manufacturing sector in the recent years. Advances in technological innovation, automation, global competition, and computerized systems have led to drastic changes in the manufacturing environment. As a result, levels of direct labour that are used in many manufacturing firms have greatly decreased. Furthermore, the total overhead costs that result from depreciation of expensive machinery and equipment, maintenance, repairs and utilities have significantly decreased. Many manufacturers have undertaken major fundamental changes in their business philosophies and operations. These changes in the manufacturing environment have in turn affected the type of costs that a firm incurs and, to some extent, the manner in which costs are recorded in the firms’ product costing system (Huntzinger, 2006). In this essay, difficulties that are associated with allocation of overheads in the contemporary environment are discussed. In addition, identification of strategies that can be adopted by firms in helping them to make their overhead allocations more accurate and reliable are also discussed. Companies are expected to provide to their decision makers cost estimates that are as accurate as possible in order for improved management decisions to be achieved. The most accurate estimates of a product cost are achieved when costs can be traced directly to the product that is produced. In a manufacturing environment, direct labour and material costs are easier to be traced directly to the product by use of payroll time sheets or requisition forms. Overhead costs are indirect costs that cannot be traced easily to the individual products. Instead, firms are using estimates in assigning overhead costs to products (Weygandt, Kimmel, &Kieso, 2010). Competition is greatly increasing in the manufacturing environment hence firms need to come up with more accurate methods of estimating products costs. These will help in both setting of prices and identification of products which are most profitable. In most cases, managers do not question the necessity of allocating costs in their organizations, but they have issues with basis and manner in which costs allocation are done (Macintosh & Hopper, 2005). In every manufacturing firm, consumption of raw materials, overhead and labour expenses to the processed goods are required in order for determination of the final firms manufacturing costs. In the traditional manufacturing environment, overheads costs such as insurance, maintenance, utilities and building depreciation were costs that were incurred in provision of safe and clean environment for workers (Gilbertson & Lehman, 2011). As a result, allocation of these overheads costs on the basis of direct labour that were incurred in the manufacture of a product was a natural phenomenon done by accountants. Manufacturing environment has since become more mechanized and automated and jobs that were done before by human labour have been replaced by machines. This has presented difficulties in allocation of overheads costs. Correlation of overhead and direct labour has also decreased. It is therefore inappropriate to use the predetermined plant-wide overhead rates on the basis of direct labour when no correlation exist between overhead and direct labour (Weygandt et al., 2010). There are significant product cost distortions that companies experience when they use overhead rates that are based on direct labour in instances where no correlation exist between them. Companies in the manufacturing environment are finding hard to allocate overhead costs because direct labour costs are decreasing significantly due to automation. Overhead costs are incurred in all organizations through costs of financing operations, marketing activities and administration activities. Marketing, administration and financing fixed costs are related only to the period in which they are incurred and hence are called period costs (Scott, 2012). Marketing activities in a manufacturing firm may incur certain costs that vary with sales. These costs may include sales representative commission. All these costs must be transferred to the financial statements which is a relatively easier work than allocation of overheads. Some manufacturing firms use absorption costing technique in allocations of their costs. Absorption costing recognises fixed overheads, material, variable and labour overheads (Khan & Jain, 2000). It uses overhead and total direct costs that are associated with the product manufacturing as the firm’s cost base. Absorption costing technique has its weaknesses when it is used in calculation of selling prices by a manufacturing firm. Overheads can either be under-allocated or over-allocated to products (Scott, 2012). Overhead can be under-allocated to products that are consuming more activities which results in these products to be underpriced. On the other hand, overhead is over-allocated to products that consumes low levels of activity hence overprices these products. As a result of all these misallocations, some products in the firm are subsidized by other products rather than generate profit individually. Cost management has been characterised by many implications particularly by the changing products and markets. Overhead costs have increased as a result of growing investments in the manufacturing environment in enabling diversification of products (Bhimani& Bromwich, 2010). Rise in overhead costs has further provided more difficulties in allocation of these costs in contemporary manufacturing environment. Investments in automated processes have significantly reduced the necessity of direct labour. In the traditional manufacturing environment, accounting costs allocation systems were developed using direct labour as the major allocation base. It was appropriate as there lower overhead costs that existed. Costs are regarded as distorted in the contemporary environment when traditional costs allocations are applied because these methods were devised for different purposes. In a modern manufacturing environment, product life cycles are shorter as product innovation rates are growing tremendously (Stenzel, 2007). Therefore, double urgent need for provision of timely cost information that is devoid of any costs distortions are to be applied. Decisions concerning resource allocations are to be made fast-at times in real time- otherwise market opportunities are lost at great expense. Moreover, the higher percentage of costs that are committed at the beginning of the production process in a product life cycle means that little room is left for further cost containment after production (Bhimani& Bromwich, 2010). Managers thus have the onus of ensuring that costs are managed effectively from the start of product production process. Manufacturing firms’ financial statements are required to comply with the General Accepted Accounting Principles (GAAP) which means that each item that is produced must be allocated a fraction of the manufacturing overhead (Jiambalvo, 2009). However, in order to achieve this, overhead are to be allocated by costing management managers in a manner which is precise and logical. Allocation of overhead costs in a contemporary environment are characterised by some difficulties hence finding the “real” cost of manufacturing a single product is challenging. Due to the difficulties discussed above that modern manufacturing firms encounter in overheads costs allocations, new approaches have been developed that firms can adopt in making their overhead allocations more accurate and reliable. Strategies that firms can adopt Many modern manufacturing companies are using highly automated manufacturing systems. Computers are being used in controlling equipment including robots have generally increased accuracy and flexibility of the firms production process (Jiambalvo, 2009). Computer controlled systems may have the ability of helping firms deal with the global competition challenge, but it also have significant impact on the organization’s product costs composition. Overhead costs have rise necessitating accountants in the firm to come up with new methods of allocating overhead. Activity-based and value streaming costing methods are becoming popular as strategies used by firms in making allocation of their overhead more accurate. Activity-based costing allocates overhead on the basis of significant level of firms activities (Gilbertson & Lehman, 2011). In this method, accountants are required to identify significant activities that are inherent in the company’s manufacturing process. In the traditional cost allocation methods, overhead costs were only allocated using a single activity cost pool such as direct labour but activity-based costing uses multiple activity cost pools (Khan & Jain, 2000). The next step is that activity cost pools are assigned to products by way of cost drivers. This method has given manufacturing firms more accurate cost of product computations. This is because contemporary manufacturing environment has complex manufacturing process that needs multiple allocation bases. Activity-based costing uses multiple allocation bases hence more reliable and accurate product costs will be achieved. Costing in a firm is done to enable allocation of costs to products which enables business to determine the products selling prices so that the organization can generate profit (Jiao & Tseng, 1999). Modern manufacturing approaches need more sophisticated methods of cost allocations. Value stream costing method is one such technique. Value stream costing is a process by which firms’ assigns actual expenses to value streams as opposed to products (Stenzel, 2007). The process of value stream begins with value stream mapping which generates the required information on resource allocation and material flow which is then applied to value stream costing. Actual value stream costs are then calculated and no distinction is made between direct and indirect labour in this method. Value stream costing eliminates overhead cost allocations that the firm in most cases has difficulties in allocating hence it is a simpler approach to manufacturing firms (Stenzel, 2007). References Bhimani, A., & Bromwich, M. (2010). Management accounting: Retrospect and prospect. Amsterdam: CIMA/Elsevier. Gilbertson, C. B., & Lehman, M.W. (2011). Century 21 Accounting: Advanced, 2012 Copyright Update. South-Western Pub. Huntzinger, J. (2006). Lean cost management: Accounting for lean by establishing flow. Ft. Lauderdale, FL: J. Ross Pub. Jiambalvo, J. (2009). Managerial accounting. Hoboken, N.J: Wiley. Jiao, J., & Tseng, M. M. (1999). A pragmatic approach to product costing based on standard time estimation. International Journal of Operations & Production Management, 19(7), 738-755. Khan, M. Y., & Jain, P. K. (2000). Cost accounting. New Delhi: Tata McGraw-Hill Pub. Co. Ltd. Macintosh, N. B., & Hopper, T. (2005). Accounting, the social and the political: Classics, contemporary and beyond. Amsterdam: Elsevier. Scott, P. (2012). Accounting for business: An integrated print and online solution. Oxford: Oxford University Press. Stenzel, J. (2007). (Eds.). Lean accounting: Best practices for sustainable integration. Hoboken, N.J: John Wiley & Sons. Weygandt, J. J., Kieso, D. E., & Kimmel, P. D. (2010). Managerial accounting: Tools for business decision making. Hoboken, NJ: Wiley. Read More