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INTRODUCTION TO MANAGEMENT ACCOUNTING

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Cost Accounting

Cost accounting is concerned with the ascertainment of cost of manufacturing a product or giving a service and the way in which costs can be controlled.

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Management Accounting

Management accounting is concerned with the provision of information to people within the organization to help them make better decisions and improve the efficiency and effectiveness of existing operations.

It is concerned with identifying, presenting and interpreting information to assist management in the formulation of policies and in the planning and control of operations of the business.

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Financial Accounting

Financial accounting is concerned with the provision of information to external parties outside the organization.

It is concerned with the classification and recording of financial transactions in monetary terms in accordance with the established concepts, principles, accounting standards and legal requirements and presents the effect of the transactions on the performance and financial position of the business.

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Differences Between Management Accounting And Financial Accounting

Financial Accounting Management Accounting

1. Users Provides information to the external users such as shareholders, creditors, customers, tax authority, bankers, etc.

Provides information to the internal users such as managers for management purposes.

2. Legal requirement

To produce a report in accordance with the companies acts and the relevant accounting standards is a statutory requirement.

To produce a report is optional and in a form suitable to a particular situation and needs.

3. Time dimension

Reports on past events (use historical data).

Reports on future events based on past and current data to assist in planning, and control of operations

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Differences Between Management Accounting And Financial Accounting – cont.

Financial Accounting Management Accounting

4. Analysis and segments

Reports on activities of the company as a whole and data is analyzed in monetary terms.

Focuses on small segments of the company such as products and departments and uses both monetary and non-monetary terms (such as standard hours, volume, etc).

5. Precision Information must be reasonably accurate for external parties..

Estimates and approximations are more useful than accuracy for speedy decision making process.

6. Report Reports are published annually or half yearly.

Reports are prepared daily, weekly, monthly or quarterly depending on needs.

Similarities Between Management Similarities Between Management Accounting And Financial AccountingAccounting And Financial Accounting

Functions – both involve in 3 types of functions Functions – both involve in 3 types of functions which are decision making, recordkeeping and which are decision making, recordkeeping and performance evaluation.performance evaluation.

Information – founded on the principle of Information – founded on the principle of stewardship which means the firm must responsible stewardship which means the firm must responsible and accountable for its financial and operating and accountable for its financial and operating performance.performance.

Common collection system – the same system is used Common collection system – the same system is used to collect data and developed the information within to collect data and developed the information within the same general accounting system.the same general accounting system.

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Similarities between Management Accounting and Financial Accounting

1 Decision making

While specific decisions differ, both financial and managerial accounting information are used to make decisions. Involves selecting the best course of action from a given set of alternatives.

2 Recording Concerns with classifying, quantifying and gathering of information related to business transactions. The same system is used to gather the data for both managerial and financial accounting information.

3 Performance evaluation

Measures performance and find any differences between actual and planned performance for further improvements.

4 Accounting aspects

Organizes procedures and guidelines that can be used accordingly.

5 Stewardship functions

Takes the responsibility to properly record and report performances.

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The Role of Management Accountant Planning

Helps to formulate future plans by providing information to assists in deciding what products to sell, in what market, etc.

Setting goals and developing methods in achieving them. Control

Aid control process by providing performance reports which compare actual outcome with planned outcome for each responsibility centers.

Determining whether goals are being met, and if they are not, what can be done (to modify or to achieve existing goals).

Draw manager’s attention to those specific activities that Draw manager’s attention to those specific activities that do not conform to plan.do not conform to plan.

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The Role of Management Accountant – cont.

Organizing Represents the design and implementation of the

accounting system for better defining and consolidating the relations between centers to assure effective performance.

Motivating Budget and performance reports produced have an

important influence on the motivation of personnel of the organization.

Communication Aid communication function. Installing and maintaining an

effective communication and reporting system. (Eg. Who are responsible for carrying out plans/budgets, what expected of them during the budget period).

To ensure coordination between managers of different department.

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Role of Accountants in Management Process

Financial Accountant: Preparation of information about an organization’s past

operations.

Managerial Accountant: Provide information and recommend various courses of

alternatives/actions to assist decision making. Managers use to information to make decisions. Information needed by the managers differ from the

external users. Information used for planning, control and forecasting. Involves past, present and future information and not only

on monetary items but also on –non-monetary information.

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Role of Accountants in Management Process – cont.

Conclusion: Managerial accountant provides information

for the decision makers inside the organization.

Financial Accountant provides information for decision makers outside the organization

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Primary Functions of Cost/management Accounting System

Inventory valuation for internal and external profit measurement: Allocate costs between products sold and fully and partly

completed products that are unsold. Provide relevant information to help managers make better

decision: Profitability analysis. Product pricing. Make or buy. Product mix and discontinuation.

Provide information for planning, control and performance measurement: Long-term and short-term planning (budgeting). Periodic performance reports for feedback control. Performance reports also widely used to evaluate managerial

performance.

CHARACTERISTICS OF USEFUL INFORMATION

Relevance Relevance is a key factor because of the flexible nature of

managerial accounting information that can take any form management chooses.

In a complex financial world, an endless stream of information is available to management so that we need to determine which information should be considered and which should be ignored. This choice is made on the basis of relevance.

Accuracy Even though managerial accounting is based on estimates

and projections, information must be as accurate as possible if it is to be of value. Sound judgement and experience should underlie any development of subjective data.

CHARACTERISTIC S OF USEFUL INFORMATION – cont.

Timeliness Timeliness is crucial because management operates in

an increasingly dynamic and competitive business environment. The concept of timeliness simply means that information should be as current as possible because old information will not be representative of present or future conditions.

Timeliness also means that information must be available quickly when needed to enable management to take appropriate action and make relevant decisions.

Outdated information will have lost its value.

CHARACTERISTIC S OF USEFUL INFORMATION – cont.

Understandability. Information presented must focus on the users of such

information and hence should be clearly understood. Typical users of accounting information will not be trained accountants, so any preoccupation with technical jargon will adversely affect the use of the information.

The presentation of the report must accordingly to what is required by the users.

Reliable■ Information made available to managers are reliable in that

they are free from error or biasness and accurately represents the events of the organization.

Complete■ Information that does not omit important aspects of the

underlying events that is measures.

CHARACTERISTIC S OF USEFUL INFORMATION – cont.

Cost Effectiveness Managerial accounting information must be cost

effective.■ The value of information must exceed its cost.The value of information must exceed its cost. This means that it must pass a cost-benefit test in each

application. For example, vast quantities of information can be developed with the computer today. However the process of gathering information costs money and its value must exceed its cost.

The ultimate measure of the benefits of the The ultimate measure of the benefits of the information is the quality of the decision making based information is the quality of the decision making based on it.on it.

Accountants should aim to provide information to the right people in the right quantity at the right time.

Better quality decisions might be made by postponing a decision until more information or information of greater accuracy is available (but must not overload information).

Decision, however, must often be made promptly if they are to have maximum influence on future events.

Management accounting information should be produced only if it is considered that the benefits from the use of information exceed the cost of collecting it (relevant information).

The Decision Making ModelIdentify objectives

Search for alternative courses of action planning

Gather data about alternatives process

Select alternative courses of action

Implement the decision control

Compare actual and planned outcome process

Respond to divergences from plan

The Decision-Making Process Identify objectives – specify the goals or objectives of the organization so that

it can provide a direction or some guiding aim to enable the managers to assess the desirability of one course of action over another.

Search for alternative courses of action – search for a range of possible courses of action or strategies that might enable the objectives to be achieved.

Gather data about alternatives– assess the potential growth rate of the activities, the ability to establish adequate market share, the cash flows for each alternative activity, etc.

Select appropriate alternative courses of action – select alternative that best satisfies the objectives of an organization and those showing the greatest benefits after consideration of other qualitative factors.

Implement the decisions – the alternative courses of action selected should be implemented as part of the budgeting process.

Compare actual and planned outcomes – prepare performance reports comparing the actual outcomes (actual costs and revenues) and planned outcomes (budgeted costs and revenues) at regular intervals.

Respond to divergences from plan – take corrective action so that actual outcomes conform to planned outcomes, or the plans may require modifications if the comparison indicate that they are no longer attainable.

Changing Competitive Environment Prior to the 1980s :

organizations operated in a protected competitive environment barriers of communication and geographical distance, protected

markets limit the ability of overseas companies to compete in domestic markets

little incentive for firms to maximize efficiency and minimize costs as cost increases could be passed on to customers

During the 1980s: Manufacturing organization began to encounter severe competition

from overseas competitors that offered high-quality products at low prices

By establishing global networks for acquiring materials and distributing goods, competitors were able to gain access to domestic markets throughout the world

Privatization, intensive competition and an expanding product range created the need for organizations to focus on cost management and develop management accounting information systems that enabled them to understand their cost base and determine the sources of profitability for their products, customers and markets.

The Impact Of Changing Environment Of Management Accounting Systems

During the past decade the use of information technology (IT) to support businesses activities has increased with the development of electronic business communication technologies (e-business, e-commerce or internet commerce) These developments are having a big impact on business:

Consumers are becoming more discerning when purchasing products or services because they are able to derive more information from the internet.

Cost saving from streamlining business processes and generating extra revenues from adept the use of on-line facilities.

Customer Satisfaction And New Management

Approaches To compete in today’s competitive environment companies

need to become more ‘customer driven’ and make customer satisfaction the top priority.

To provide customer satisfaction organizations must concentrate on key success factors that directly affect it. The key success factors are cost efficiency, quality, time and innovation.

Organizations are also adopting new management approaches in their quest to achieve customer satisfaction. The new approaches are continuous improvement, employee empowerment and total value-chain analysis.

Key Success Factors

Cost efficiency – keeping costs low and being cost efficient provides an organization with a strong competitive advantage.

Quality – customers are demanding high quality products. Companies are focusing on total quality management (TQM) where all business functions are involved in a process of continuous quality improvement. It focuses on delivering products or services of consistently high quality in a timely fashion.

Time – organizations seek to increase customer satisfaction by providing a speedier response to customer requests, ensure on-time delivery and reduce the time taken to develop and bring new products to market.

Innovation – companies must develop a steady stream of innovative products and services and to adapt to changing customer requirements.

NATURE AND PURPOSE OF INTERNAL MANAGEMENT REPORTING

Internal Management Reporting is a financial data or other information accumulated to be communicated to another within the business entity.

The information assists others in the managerial decision making process.

Examples – expenses report, capital budgeting analysis, other reports designed to guide management rather than inform outsiders.

GOALS OF INTERNAL MANAGEMENT REPORTING

Implementing solid internal management reporting is one of the most important steps a company can take to effectively accomplish the following major goals: Manage the business day to day – creates tools that

managers can use to make good decision based on relevant and accurate information, presented in a timely fashion.

Align the incentives of employees with the organization as a whole. Give employees goals that are integrated with management reporting, so that their progress is measurable, actionable and rewarded.

Create and manage a solid controls environment. Help managers become comfortable with the multitude of signoffs that they must complete throughout the year.

IMPORTANCE OF INFORMATION

TECHNOLOGY The use of information technology to support business

activities has increased with the development of electronic business communication technologies (e-business, e-commerce, internet commerce).

Consumer are becoming more selective when purchasing products and services because they are able to derive more information from the internet on the comparative value of different product offered.

E-commerce has provided the potential to develop new ways of doing things that have enable considerable cost savings to be made from reorganizing business processes and generating extra revenues from the competent use of on-line facilities. (ticketless airline bookings and internet banking)

The ability to use e-commerce more proficiently than competitors provides the potential for companies to establish a competitive advantage.

Examples: Ticketless travel, where passengers receive e-mail

confirming their booking, cuts the cost of issuing, distributing and processing tickets.

Intensive use of IT in administration and management, aiming to run a paperless office.