The Significance of Management Accounting - Case Study Example

Management Accounting Name Institutional Affiliation Introduction Every organization has to plan its financial resources effectively if it is to achieve success and its objectives. It must produce accurate and timely financial reports as well as statistical information that would help the management to make sound decisions. In this case, every organization must produce management reports and accounts for managers to made day to day, short term decisions as well as long term decisions. This indicates the significance of management ac counting. Unlike financial accounting that produce annual reports meant for the shareholders, management accounting generates weekly, monthly and quarterly reports for the management. This makes management accounting to play a significance role in direction and success of a company. This report demonstrates how management acv counting is applied in organizations. Question a A cash budget is an estimation of how cash for a business or individual flows in and out for a specified period of time. It is important for the management to prepare a cash budget. While a number of small and medium businesses may be capable of surviving for a time exclusive of budgeting, huge business owners will recognize its significance. Cash budgets are frequently used to evaluate whether the business entity has enough cash to fulfill expected operations. The cash budget is in a position to protect a corporation from being unprepared for regular fluctuations in cash inflow and outflow or prepare a business to take advantage of unpredicted quantity discounts from the suppliers1. It is usually advantageous for companies to calculate cash budgets on quarterly, monthly or annual basis. By preparing the cash budget the total amount of profit a company will make in a year can be efficiently estimated. This makes the taxation process more accurate and brings down the possibility of paying for extra taxes.Preparation of the cash budget also allows the company to assess and plan for its capital requirements. It will also help the business to assess whether there are instances during its operations sequence when it might require short-term borrowing. The cash budget will also help the company evaluate any long-term borrowing needs in the future. In general terms we can say that a cash budget is a planning tool used by the management for decision making2. Unlike the projected and pro forma financial statements that can be prepared, the cash budget is termed as a management plan for the company`s viability which is its cash position. FREE AIR SKATE PTY LTD CASH BUDGET FOR THE THREE MONTHS ENDING APRIL 30TH ITEM February March April Expected cash receipts: Sales 268,000 252,000 440,000 Cash sales 107,200 100,800 176,000 Credit sales: 65% 193,080 189,186 158,160 20% 66,000 53,600 50,400 14% 46,200 37,520 35,280 Total cash collected 412,480 381,106 419,840 Estimated payments Purchases 200,115 159,530 134,000 Salaries 158,000 158,000 158,000 Purchase of store space 120,000 Council rates 27,650 Total cash payment 505,765 317,530 292,000 Cash surplus/deficit (93,285) 63,576 127,840 Question b Snowskate Surfskate Dirtskate Total Selling price 265 235 195 Variable cost 251 184 135 570 Contribution margin 14 51 60 125 Fixed costs (per month) 35000 35000 35000 105000 Target profit for the three months = $280,000 The total contribution margin = 125 Therefore; Let ‘y’ represent the number of units to be made produced 125y – 105,000 = 280,000 125y = 280,000 – 105,000 125y = 175,000 y = 175000/125 y = 1400 Hence, units to be produced to make the target profit of 280,000 are 1400 units Snowskate (14/125)*1400 = 157 Surfskate (51/125)*1400 = 571 Dirtskate (60/125)*1400 = 672 Question c The current contribution of Surfskate Surfskate Selling price 235 Variable cost 184 Contribution margin 51 Fixed costs 35000 If we decide to sell Surfskate at $195 Surfskate Selling price 195 Variable cost 184 Contribution margin 11 Fixed costs 35000 Selling this product at $195 will reduce the contribution margin significantly to $11 per unit. This contribution margin is not enough to cater for fixed costs and make profit for the company. In addition, the total cost of making Surfskate as indicated in the appendix is $196. This exceeds the selling price of $195. Hence, selling at this will make the company to make loss. As such, it is not economically viable to sell Surfskate at $195 to Surf boardroom. Question d From a non-financial point of view this order from Surf boardroom cannot be accepted under the current terms. Besides being economically not being viable for the company, the production of this product is taking too much time of the machine. As such, concentrating on producing Surfskate for Surf boardroom would take up much time that would otherwise be used to produce units to sell at the free market. Moreover, the production of this product is taking considerable machine space. As with time taken, the machine space would be used to produce products for selling to the free market. Selling in free market is advantageous as it has bigger contribution margin. Another factor is the number of employees used to produce this product. Producing one unit of Surfskate requires labour at various processes. In this case, there is increased labour cost for production3. Although this is the same amount of labour that would be used to produce the same product for selling to other customers, the labour costs would be compensated through higher selling price. FreeAir can decide to increase the selling price of the product. This would give the company an opportunity to increase the contribution margin. In addition, this would provide an opportunity for the company to produce at large scale for both the Surf boardroom and for other customers. This would be able to make enough contribution margins to cater for the fixed costs and make good profit to the company. Another option that is available to the company if it wants to accept this offer is to discontinue the production of the less profitable product. In this case, Snowskate is the less productive product4. As such, the company can decide to discontinue its production and instead increase the production of Surfskate. One big advantage of this is that it would not increase the fixed costs5. The fixed costs would remain the same; the cost of labour would not change as much because the same employees would be used to produce Surfskate. These are two viable options that the company can take if it wants to accept the offer. Importantly, the offer is profitable if it can be continued beyond the three months period. If surf board room can agree to continue the purchase of Surfskate beyond three months, it would benefit the company through economies of scale. I would recommend the company to accept the offer but for a longer period of time6. Otherwise, it can discontinue the production of Snowskate, which is making loss, and increase Surfskate production. Question e The Snowskate line should be discontinued. It indicates that the company made loss on sale of this product in last year. It is better to discontinue the production of a product that is making loss.The total cost of discontinuing production of Snowskate is ($65,000 + $324,000 - $45,000) = $344,000. This also includes the cost of purchasing a new machine for production of Surfskate. In addition, the cost also includes the cost of remodelling the show room space to allow for expansion of the Surfskate line. The most important thing is that the purchase of a new machine is a long term project for the company. It would increase the capacity of the company to produce more units of Surfskate at much lower costs. The new machine would be efficient and willenhanceemployee’s effectiveness in producing quality products7. This is surpasses the continuedproduction of loss making line. Another reason why production of Snowskate should be discontinued is that the company would incur huge costs in replacing machine that produces Snowskate in one years’ time. This is because the current machine has only one year remaining useful life. The machine would have no residue value as well. Eventually, the company will incur huge costs in replacing the machine in either way. Consequently, instead of purchasing machine for producing product that sell poorly, it is better to incur costs in purchasing machine that would increase the production of profitable product8. Essentially, the production of Snowskate should be discontinued. Conclusion This report provides a case study analysis to demonstrate how management accounting is applied in organisations. Management accounting plays a very important role not only in determining the financial needs of organisations but also in making future decisions of the organisations. The report illustrates, in various areas of management accounting such as cash budgeting, capital budgeting and borrowing, how an organisation can achieve success by planning its financial resources effectively. References Bond, S., & Xing, J, corporate taxation and capital accumulation: Oxford University, Centre for Business Taxation, WP, 10, 15. 2010. Drury Colin “Management and cost accounting.” 2008. Zimmerman Jerrold L. and Massood,Yahya-Zadeh. "Accounting for decision making and control" Issues in Accounting Education 26, no. 1: 258-259.2011 Cadez, Simon, and Chris Guilding: An exploratory investigation of an integrated contingency model of strategic management accounting.” Accounting, Organizations and Society 33, no. 7: 836-863. 2008 Abdel-Kader,Magdyand Robert Luther "The impact of firm characteristics on management accounting practices: A UK-based empirical analysis." The British Accounting Review 40, no. 1 2-27. 2008 Malmi,Teemu, and Markus Granlund. "In search of management accounting theory" European Accounting Review 18, no. 3: 597-620. 2009 Alcouffe, SimonNicolas Berland and Yves Levant "Actor-networks and the diffusion of management accounting innovations: A comparative study."Management Accounting Research 19, no. 1: 1-17.2008 Read More