The Rise of Strategic Management Accounting - Essay Example

The Rise of Strategic Management Accounting The Rise of Strategic Management Accounting Introduction In 1981 Simmonds presented what has been described as a very strong case for the adoption of Strategic Management Accounting (SMA). Following from his work a number of researchers and academics (Bromwich (1990); Johnson & Kaplan (1987)) have continued his efforts to make the case for strategic management accounting. Shank (1989) also called for a change in the focus of management accounting, because he felt the information it was providing was not useful for managing manufacturing operations. Management accounting systems ideally provide information regarding all aspects of an organisation’s transactions; by covering all spectrums of the organisation they represent an important source of information for decision making (Hiromoto, 1988). As mentioned above, traditional management accounting has come under attack for failing to provide sufficient information for strategic decision making purposes (Johnson & Kaplan, 1987; Bromwich and Bhimani, 1989; Roslender and Hart, 2003). This failure lies in the inability of traditional management accounting to fulfil those information requirements that would contribute to both the competitiveness of the organisation vis-a-vis its competitors in the industry, and its long term performance. Langfield-Smith (2008) states that surveys of practice in the 1990’s suggested that the adoption of SMA was slow; others also go on to mention that it was ill—defined and it is unclear in terms of coverage (Coad, 1996; Carr and Tomkins, 1996; and Lord, 1996). Others have said that there are gaps in the understanding provided by SMA and this is attributed to various interpretations that have been put forward by writers advocating its use (Cinquini and Tenucci, 2007). This paper explains the difference between management accounting and financial accounting. It also seeks to determine whether SMA is currently being used extensively in organisations, and whether traditional management accounting tools continue, to hold their own in those organisations, by comparing the extent of the usage of both worldwide. The paper also examines current research in the area, paying specific attention to IFAC Merit Papers for 2009. Management Accounting versus Financial Accounting Management accounting is distinct from financial accounting in that it provides information to persons internal to the organisation to facilitate decision making, while financial accounting provides information for external stakeholders. Internal stakeholders are the management personnel of the organisation, based within various departments/sections/divisions working together to achieve organisational goals. External stakeholders include shareholders, advisors, potential investors, regulators, government authorities and creditors – including suppliers, banks and holders of debt instruments (Atkinson et al, 2003). This however does not imply by any means that financial accounting information is not used for internal purposes; it is in fact, crucial. The only difference is that it is not necessarily appropriate to apply it in the same format as it is for external purposes; although, it does derive from the same integrated accounting system. While financial accounting information conforms to standards and guidelines that have been instituted by standard setting bodies such as the International Accounting Standards Board (IASB), management accounting does not conform to any particular standard since it is used for internal purposes only. Management accounting deals with both financial and non-financial information. Traditional Management Accounting versus Strategic Management Accounting In his seminal work entitled “Strategic Management Accounting” (SMA) Simmonds (1981) defined SMA as “the provision and analysis of management accounting data about a business and its competitors, for use in developing and monitoring business strategy.” Bromwich (1990, p.28) defines it as: “The provision and analysis of financial information on the firm’s product markets and competitors’ costs and cost structures and the monitoring of the enterprise’s strategies and those of its competitors in these markets over a number of periods.” The key factor arising from both definitions is the focus on the importance of understanding the position of one’s competitors when developing an operating strategy. According to Smith (2000) in order to reflect and capitalise on the growing importance of entrepreneurial styles the public sector needs to adopt strategic management accounting. Smith (2000) focuses on how an accountant can be turned into a strategic accountant, whom he describes as a creator of value and “someone with an all-round strategic marketing, IT and interpersonal skills” instead of just being a measurer as in the case traditional management accounting. Strategic management accounting requires the accountant to be outward looking in order to gain information about competitors, as well as customer focused to ensure that the customer is satisfied at all times. With successful SMA in place, an organisation will gather information on the cost structure of competitors in order to determine whether it needs to add to its own value chain and/or its supplier chain (Michael Porter’s value chain diagram is available in the appendix). It will also seek to determine what attributes of a product the customer does not value in order to eliminate activities that create that particular attribute. Value creation and continuous improvement and innovation have wide ranging implications for the firm and its strategic position. A strategy is defined as a plan of action. According to Skaerbaek and Tryggestad (2010, p.121), accounting forms a very integral part of framing strategy. They argue that accounting as a device is not limited to implementation, but rather it becomes strategic in a role of re-formulating strategic ends and rationale. They view accounting as an important process in adapting to and adopting a strategy. Michael Porter (1985) stated that there are three fundamental ways in which firms can achieve sustainable competitive advantage, which is growth; these influence the choice of grand strategies. The three generic strategies are: cost leadership, differentiation and focus. Cost leadership requires a company to offer goods at lower prices than competitors, while differentiation implies making the product/service different from others. This could be based on their specific attributes. A number of SMA techniques such as Kaplan and Norton’s (1996a, 1996b) balanced scorecard have been used to both evaluate and implement strategy. According to Langfield-Smith (2008) a number of techniques are included under the umbrella of SMA. SMA is sometimes defined in terms of these techniques. A review of IFAC’s Merit Papers for 2009 did not seem to indicate that there were any articles relating to SMA. However, what was clear is that some techniques were in use that could be classified as SMA techniques. In one such paper, Ow (2009, p. 13) states that, in prioritising objectives “strategic themes (or value drivers) that align to the organisation’s vision and strategy is developed.” Ow (2009) gave examples of the strategic themes which included growth in revenue, sustainable outcomes and efficiency. In order to achieve these outcomes the organisation eliminates all activities that do not support strategy implementation. This is referred to as value engineering; in that activities that do not add value are eliminated over a period through continuous improvement in product design resulting in lower costs to the consumer (Horngren, 2000). Ow (2009) indicated that tools like Kaplan and Norton’s (1996a) balanced scorecard would be used to implement objectives, performance measures and targets set at the uppermost level of the organisation. The balanced scorecard is based on four perspectives – financial, customer, processes and people (Walton, 1999; Kaplan and Norton, 1996a) and it can be used in various areas of an organisation to measure financial and other types of performance (see diagram in the appendix). There are increasingly new techniques that are being developed and one such is eco-control, which Henri and Journealt (2009) states will contribute not only to brand image but to the reputation and good name of the company, as well as yielding stronger environmental and financial performance. This he states will guarantee “important strategic advantage vis-a-vis the market.” Parmenter (2009) states that other means of reducing costs and therefore improving competitive advantage are to limit the time spent in the board room on board reporting (Parmenter, 2009). Parmenter (2009) emphasised the fact that efficient time management is important and so time should be spent by management on aiming to attain key performance indicators (KPI’s) while key results indicators (KRI’s) should “help the board focus on strategic rather than management issues.” Therefore time should not be wasted in the boardroom discussing KPI’s but rather KRI’s. These articles by Parmenter (2009); Henri and Journealt (2009); and Ow (2009) form part of IFAC’s merit based articles for 2009 and although they do not make mention of SMA, SMA is at the heart of each of the articles. They could be classified under the ‘umbrella technique’ and described as “Integrated Performance Measures” which includes both financial and non-financial measures. What this indicates is that SMA in its totality, as defined by Simmonds (1981), may not be evident in organisations but that the techniques are employed in whatever way management sees fit and in keeping with the objective of gaining competitive advantage. Other techniques in use in organisations include: activity based cost management (ABCM); attribute costing; benchmarking; competitive position monitoring; competitor cost assessment; competitor performance appraisal based on published financial statements; customer accounting; integrated performance measurement (of which the balanced scorecard is a part); life cycle costing; quality costing; strategic costing; strategic pricing; target costing; and value chain costing. In Ow’s (2009) paper mention was made of value drivers; these are value creation activities. An organisation that is practicing SMA seeks to add value in order to maintain existing customers and win others. According to Marie et al (2010) with what appeared to be the increasingly widespread use of activity based costing (ABC), just-in-time (JIT), the balanced scorecard and target costing some researchers have predicted the death of standard costing and variance analysis on the grounds that it performs no real function in an intensely competitive environment, which requires more sophisticated costing systems. In research carried out in Dubai, Marie et al (2010) discovered that companies are finding standard costing and variance analysis very attractive. This is so regardless of their size, sector and geographic location and, according to Marie et al (2010): this appears to be a result of its simplicity, affordability and ability to accommodate high levels of technology. They also indicate that another explanation, which is considered plausible is that companies are using more than one costing method to build “more powerful integrated information systems” according to different criteria and categories. While that may be so studies by Collier and Gregory (1995) suggest that SMA is widely used in the UK hotel sector. There are other studies such as Cinquini and Tenucci (2007) which reveal that SMA techniques appear to be extensively used in large to medium sized Italian manufacturing companies. Cinquini and Tenucci (2007) also found that attribute costing; customer costing; strategic pricing; and competitive position monitoring represent the most widely used SMA techniques. However, they were surprised to find that that the adoption of SMA techniques did not appear to be driven by strategy. Additionally, Noordin et al’s (2009) study of the Electrical and Electronic companies in Malaysia reveals that SMA was used extensively. Conclusion According to Tillmann and Goddard (2008, p. 80) “The survival of companies in today’s highly competitive global markets may depend partly on a management accounting functions that allow for the successful assessment of strategic situations,” for which SMA can provide such a function. Globalisation has brought with it increased challenges and so it was thought to be increasingly important to develop not only a strategic and long term focus but also to place organisations in a competitive position to enable global expansion. Bromwich (1990) emphasised the importance of this when he stressed the need to take management accounting up from the factory floor so as to assist in meeting the global challenges in product markets and thus allow management accountants to focus on the organisation’s value added vis-a-vis its competitors. Customers’ desires for products are based on the characteristics or attributes that the products have or provide as Lancaster (1979) indicates. It is therefore important that management accountants ascribe values to these attributes and monitor them over time to determine if they are still relevant to customers’ needs. Based on numerous studies carried out in Europe, the Middle East and Asia, results indicate that SMA techniques are being employed in organisations worldwide. However, there is also evidence which suggests that traditional management accounting methods such as standard costing are widely used in countries like Dubai. There are also suggestions that organisations are using both, applying them to achieve what they believe to be the “best of both worlds”. References Atkinson, A. A., Kaplan, R. S. & Young, S. M. (2003). Management Accounting. 4th ed. New Jersey: Pearson Prentice Hall Bromwich, M. (1990). The case for strategic management accounting: the role of accounting information for strategy in competitive markets. Accounting, Organisations and Society: 15(1/2), p. 27-46 Bromwich, M. & Bhimani, A. (1989). 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Management Accounting Research: Vol.19 p. 80–02 Walton, J. (1999), Strategic Human Resource Development, Pearson Prentice Hall, UK. Appendix Michael Porters Value Chain Image retrieved from google.com/images. Kaplan and Norton’s Balanced Scorecard Read More