Management Accounting

Management Accounting

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MANAGEMENT ACCOUNTING SYSTEM DESIGN

TYPES OF ACCOUNTING INFORMATION

1. FINANCIAL ACCOUNTING INFORMATION

• prepared in accordance with generally accepted accounting principles (GAAP) and reported to shareholders and other interested outside parties.
• it is built around the single basic equation Assets=Liabilities+Owners’ Equity.

2. MANAGEMENT ACCOUNTING INFORMATION

• has three principal purposes, each of which requires a different cost construct.

THREE PURPOSES OF MANAGEMENT ACCOUNTING:

1. MEASUREMENT

• Cost is a measurement, in monetary terms, of the amount of resources used for some purpose, called a cost object.
• The system collects the full cost of cost objects. The full cost of a cost object is the sum of its direct costs and a fair share of applicable indirect costs.
• The most pervasive cost objects in the company are the goods and services it produces and sells, and companies operate cost accounting systems to collect these product costs.

Uses of full cost principle:

• To measure the full cost of any activity (example, the organization’s training programs) not just product costs
• Used in financial reporting to measure inventories and the related cost of sales
• Used in management accounting to arrive at normal prices and regulated rates and to analyze the economic performance of business segments and the profitability of the products these segments produce and sell

2. CONTROL
• the management accounting system is structured to collect costs by responsibility centers, which are organization units headed by managers who are held accountable for the units’ performance. This part of the system is used for control.
• For this purpose the system has data on planned inputs and outputs and also on actual inputs and outputs. In the management control process, managers compare these planned and actual amounts, identify the source of the significant variances, investigate their causes, and take appropriate actions.

3. AID IN THE SOLUTION OF ALTERNATIVE CHOICE PROBLEMS

• Data used for this purpose are not found directly in the management accounting system because the relevant data vary with the nature of the specific alternative choice problem being analyzed.

• In finding the preferable alternative in an alternative choice problem, the analyst considers costs that are different under one set of conditions than they would be under another. These amounts are differential costs.

EIGHT WAYS OF CATEGORIZING COSTS:

1. Accounting Treatment – When a cost is incurred, it is treated either as a reduction in retained earnings where a cost has been expensed or as an asset where cost has been capitalized.

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 Period costs
• Costs that are expensed as they are incurred. Period costs are associated with a certain accounting period
 Product costs
• The cost of work in process and finished goods inventories that are capitalized. The product costs are expensed when the product is sold.

2. Traceability to a Cost Object
 Direct costs
• items of costs that are specifically traced to, or caused by, a single cost object
 Indirect costs
• element of costs that are associated with, or caused by, two or more cost objects jointly but that are not directly traced to each of them individually
 Full costs
• the sum of the direct costs and indirect costs of a cost object. It means all the resources used for a cost object
3. Cost element
 materials cost
• quantities of materials that can be specifically identified with a cost object priced at the unit price of direct materials. Materials-related costs are inward freight, inspection costs, moving costs, purchasing department costs, interest, space charges for holding materials in inventory
 labor cost
• labor quantities that can be specifically identified with a cost object priced at a unit price of direct labor. Other labor-related cost are paid holiday and vacation time, pension contributions and other fringe benefits, employee welfare programs
 overhead cost
• all production costs other than direct costs. One element of overhead is indirect labor: the earnings of employees who do not work directly on a single product but whose efforts are related to the overall process of production. Examples include supervisors, janitors, materials handlers, stockroom personnel, inspectors

4. Behavior with Respect to Volume
 variable cost
• an item of cost whose total amount varies proportionately with volume. If volume increases, the total amount of variable cost increases
 non-variable or fixed cost
• a cost item whose total does not vary at all with volume. Because the amount of a fixed cost is constant in total, the amount of fixed cost per unit of activity decreases as volume increases (and conversely, fixed cost per unit increases as volume decreases)
 semi-variable cost
• costs that include a combination of variable cost and fixed cost items. The total amount of semi-variable costs vary in the same direction as, but less than proportionately with, changes in volume

 step-up function costs
• incurred when resources are used in discrete chunks such as when one supervisor is added for every additional 10 non-supervisory employees. Increase in cost as capacity is added to an activity

5. Time Perspective
 Historical or actual costs
• cost data for economic events that have already transpired. All assets are initially recorded at their cost. Costs incurred at the time a transaction took place
 Standard costs or budgets
• Estimated future costs. Measure of how much an item cost should be

6. Degree of Managerial Influence
 Controllable cost
• if a responsibility center manager can significantly influence the amount of an item cost. All controllable costs are direct cost but not all direct costs are controllable costs
 Non-controllable cost
• if a responsibility center manager cannot influence the amount of an item cost
This cost concept refers to a specific manager. Responsibility center costs not controllable by the center’s manager presumable are controllable by someone in the organization.

7. Ability to Budget “Right” Amounts
 Engineered Cost
• if the right or proper amount to spend for some activity can be predetermined. Direct material cost in a production setting is the clearest example. Given the specifications for the product , engineers can determine within reasonably close limits the physical quantities of materials that should be used for each unit of product.
 Discretionary Cost
• (sometimes called programmed or managed cost) - Items of cost whose amount can be varied at the discretion of the manager of the responsibility center. The amount of a discretionary cost can be whatever management wants it to be, within wide limits
 Committed Cost
• The inevitable consequence of some past decision can be budgeted with certainty (example, rent that was established in a five-year lease signed last year. Another type of committed cost is a sunk cost (example, depreciation).

8. Changeability with Respect to Specified Conditions
 Differential Costs
• costs that are different under one set of conditions than they would be under another set (or incremental costs or avoidable costs)
• The notion of differential costs is meaningful only for a specified problem. That is, two or more alternative situations (one of which may be the status quo) must be specified in order for differential costs to be calculated.
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