2 -1 Basic Management Accounting Concepts CHAPTER 1.

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Basic Basic Management Management Accounting Accounting ConceptsConcepts

CHAPTER CHAPTER

11

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1. Discuss the need for management accounting information.

2. Differentiate between management accounting and financial accounting.

3. Provide a brief historical description of management accounting.

4. Identify the current focus of management accounting.

ObjectivesObjectivesObjectivesObjectives

ContinuedContinuedContinuedContinued

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5. Describe the role of management accountants in an organization.

6. Explain the importance of ethical behavior for managers and management accountants.

7. List three forms of certification available to management accountants.


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8. Describe the cost assignment process.9. Define tangible and intangible products and

explain why there are different product cost definitions.

10.Prepare income statements for manufacturing and service organizations.

11.Outline the differences between functional-based and activity-based management accounting systems.


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1. To provide information for costing out services, products, and other objects of interest to management.

2. To provide information for planning, controlling, evaluating, and continuous improvement.

3. To provide information for decision making.

The managerial accounting system has three broad objectives:

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OutputsOutputsProcessesProcessesInputsInputs

Economic Events

CollectingMeasuring

StoringAnalyzingReportingManaging

Special ReportsProduct Costs

Customer CostsBudgets

Performance ReportsPersonal Communication

UsersUsers

Management Accounting Information System

Management Accounting Information System

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The Management Process is defined by the following activities:

Planning

Controlling

Decision Making

Planning requires setting objectives and identifying methods to achieve those objectives.

Management ProcessManagement Process

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The Management Process is defined by the following activities: Controlling is

the managerial activity of monitoring a plan’s implementation and taking corrective action as needed.

Planning

Controlling

Decision Making


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Planning

Controlling

Decision Making

Control is usually achieved with the use of feedback.


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Feedback is information that can be used to

evaluate or correct the steps being taken to implement a plan.

Feedback is information that can be used to

evaluate or correct the steps being taken to implement a plan.


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Decision making is the process of choosing among competing alternatives.

Planning

Controlling

Decision Making


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Differentiate Between Management Accounting and

Financial Accounting

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Management AccountingManagement AccountingManagement AccountingManagement Accounting Financial AccountingFinancial AccountingFinancial AccountingFinancial Accounting

1. Internally focused 1. Externally focused

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Management accounting focuses on providing

information for internal users.

Targeted UsersTargeted Users

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ABC Company Annual Report

Financial accounting focuses

on provided information for external users.


on provided information for external users.

Targeted UsersTargeted Users

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2. No mandatory rules 2. Must follow externally imposed rules

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Restrictions on Inputs and ProcessesRestrictions on Inputs and ProcessesRestrictions on Inputs and ProcessesRestrictions on Inputs and Processes

Management accounting is not subject to the requirements of generally accepted accounting

principles.

Management accounting is not subject to the requirements of generally accepted accounting

principles.

Financial accounting reporting must follow the accounting procedures set

by the SEC and the FASB.

Financial accounting reporting must follow the accounting procedures set

by the SEC and the FASB.

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3. Financial and nonfinancial informa-tion; subjective information possible

3. Objective financial information

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Types of Information

The restrictions imposed on financial accounting tend to

produce objective and verifiable financial information.

The restrictions imposed on financial accounting tend to

produce objective and verifiable financial information.

For management accounting, the financial or nonfinancial

information may be much more subjective in nature.

For management accounting, the financial or nonfinancial

information may be much more subjective in nature.

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4. Emphasis on the future 4. Historical orientation

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TimeTime OrientationOrientationTimeTime OrientationOrientation

Management accounting strongly

emphasizes providing information about

future events.

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Financial accounting records and reports events that have already

happened.

TimeTime OrientationOrientationTimeTime OrientationOrientation

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4. Emphasis on the future 4. Historical orientation5. Internal evaluation and

decisions based on very detail information

5. Information about the firm as a whole

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Management accounting provides

measures and internal reports used the

evaluate performance of entities, product lines,

departments, and managers.

Degree of AggregationDegree of AggregationDegree of AggregationDegree of Aggregation

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on overall firm performance.

Degree of AggregationDegree of AggregationDegree of AggregationDegree of Aggregation

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4. Emphasis on the future 4. Historical orientation5. Internal evaluation and

decisions based on very detail information

5. Information about the firm as a whole

6. Broad, multidisciplinary 6. More self-contained

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Management accounting is much broader than financial accounting.

Management accounting is much broader than financial accounting.

It includes aspects of managerial economics, industrial engineering,

and management science.

It includes aspects of managerial economics, industrial engineering,

and management science.

BreadthBreadthBreadthBreadth

2 -28 Historical Description ofManagement Accounting

1880 - 1925 Most of the product-costing and internal accounting procedures used in this century were developed

1925 Emphasis of inventory costing for external reporting

1950s/60s Effort to improve the managerial usefulness of traditional cost systems

1980s/90s Significant efforts have been made to radically change the nature and practice of management accounting

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Current Focus of Management AccountingCurrent Focus of Management Accounting

Activity-Based ManagementActivity-Based ManagementActivity-Based ManagementActivity-Based Management

Activity-based management is a system wide, integrated approach that focuses

management’s attention on activities with the objective of improving customer value and

the resulting profit.

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Customer OrientationCustomer OrientationCustomer OrientationCustomer Orientation

Customer value is the difference between what the customer receives (customer

satisfaction) and what the customer gives up (customer sacrifice).

What is received is called the total product.

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Strategic PositioningStrategic PositioningStrategic PositioningStrategic Positioning

Strategic cost management is the use of cost data to develop and identify superior strategies that

will produce a sustainable competitive advantage.

Strategies:1) Cost leadership

2) Superior products through differentiation

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Value-Chain FrameworkValue-Chain FrameworkValue-Chain FrameworkValue-Chain Framework

The internal value chain is the set of activities required to design, develop, produce, market,

and deliver products and services to customers.

The industrial value chain is the linked set of value-creating activities from basic raw

materials to the disposal to the final products by end-use customers.

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SupermarketsSupermarkets

Value Chain: Apple Industry

Planting and Planting and CultivatingCultivating

HarvestingHarvesting

Distribution of Distribution of ApplesApples

Applesauce Applesauce ProductionProduction

Applesauce Applesauce DistributionDistribution

Firm B

Firm C

Firm A

Product Disposal

End-Use Customer

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Managing the value chain means that a management accountant

must understand many functions of the business, from

manufacturing to marketing.

Managing the value chain means that a management accountant

must understand many functions of the business, from

manufacturing to marketing.

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The philosophy of total quality management is to

manufacture perfect products.

The philosophy of total quality management is to

manufacture perfect products.

This emphasis on quality has created a demand for management accounting systems that provide

financial and nonfinancial information about quality.

This emphasis on quality has created a demand for management accounting systems that provide

financial and nonfinancial information about quality.

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The role of The role of management management

accountants in an accountants in an organization is organization is one of support.one of support.

The role of The role of management management

accountants in an accountants in an organization is organization is one of support.one of support.

2 -37 Partial Organization Chart, Manufacturing Company

PresidentPresident

Production Production Vice PresidentVice President

Line Function

Financial Financial Vice PresidentVice President

Staff Function

Production Production SupervisorSupervisor

Machining Machining ForemanForeman

Assembly Assembly ForemanForeman

ControllerController TreasurerTreasurer

Internal Internal AuditAudit CostCost FinancialFinancial SystemsSystems

TaTaxx

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Ethical BehaviorEthical

Behavior

Michael Josephson’s* Ten Ethical Values:Honesty

Integrity

Promise keeping

Fidelity

Fairness

Caring for others

Respect for others

Responsible citizenship

Pursuit of excellence

Accountability

*Michael Josephson, “Teaching Ethical Decision Making and Principled Reasoning”

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CMA: One of the main purposes of the CMA was to establish management accounting as a recognized, professional discipline, separate from the profession of public accounting.

CPA: The responsibility of a CPA is to provide assurance concerning the reliability of financial statements.

CIA: The focus of the CIA is to recognize competency in internal auditing rather than external auditing as with the CPA.

Professional CertificationsProfessional Certifications

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The CMAThe CMA

Four areas emphasized on the exam:1) Economics, finance, and management

2) Financial accounting and reporting

3) Management report, analysis, and behavioral issues

4) Decision analysis and information systems

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Exactly what is meant by “cost”?

Exactly what is meant by “cost”?

Cost is the cash or cash-equivalent value sacrificed for goods and services

that is expected to bring a current or future benefit to the organization.

Cost is the cash or cash-equivalent value sacrificed for goods and services

that is expected to bring a current or future benefit to the organization.

I see… It’s a dollar measure of the

resources used to achieve a given

benefit.

I see… It’s a dollar measure of the

resources used to achieve a given

benefit.

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A cost objectcost object is any item such as products, customers, departments, projects, activities, and so on, for which costs are measured and assigned.

ExampleExample: A bicycle is a cost object when you are determining the cost to produce a bicycle.

An activityactivity is a basic unit of work performed within an organization.

Example:Example: Setting up equipment, moving materials, maintaining equipment, designing products, etc.

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Traceability Traceability is the ability to assign a cost to a cost object in an economically feasible way by means of a cause-and-effect relationship.Direct costsDirect costs are those costs that can be easily and accurately traced to a cost object.

Example:Example: If a hospital is the cost object,the cost of heating andcooling the hospital is a direct cost.

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Indirect costsIndirect costs are those costs that cannot be easily and accurately traced to a cost object.

Example:Example: The salary of a plant manager, where departments within the plant are defined as the cost objects.

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Tracing Tracing is the actual assignment of costs to a cost object using an observable measure of the resources consumed by the cost object. Tracing costs to cost objects can occur in the following two ways:

Direct tracingDirect tracing is the process of identifying and assigning costs that are exclusively and physically associated with a cost object to that cost object.

Driver tracingDriver tracing is the use of drivers to assign costs to cost objects. DriversDrivers are observable causal factors that measure a cost object’s resource consumption.

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Cost Assignment MethodsCost Assignment Methods

Cost of ResourcesCost of Resources

DirectDirectTracingTracing

DriverDriverTracingTracing

AllocationAllocation

PhysicalPhysicalObservationObservation

CausalCausalRelationshipRelationship

AssumedAssumedRelationshipRelationship

Cost ObjectsCost Objects

2 -47 Interface of Services withManagement Accounting

1. Intangibility

2. Perishability

3. Inseparability

4. Heterogeneity

Services cannot be stored.No patent protection.Cannot display or

communicate services.Price difficult to set.

Services cannot be stored.No patent protection.Cannot display or

communicate services.Price difficult to set.

Derived PropertiesDerived PropertiesDerived PropertiesDerived Properties

Services benefits expire quickly.

Services may be repeated often for one customer.

Services benefits expire quickly.

Services may be repeated often for one customer.

Customer directly involved with production of service.

Centralized mass production of services difficult.

Customer directly involved with production of service.

Centralized mass production of services difficult.

Wide variation in service products possible.

Wide variation in service products possible.

2 -48 Interface of Services withManagement Accounting

No inventories.Strong ethical code.Price difficult to set.Demand for more accurate

cost assignments.

No inventories.Strong ethical code.Price difficult to set.Demand for more accurate

cost assignments.

Impact on Management Impact on Management AccountingAccounting

Impact on Management Impact on Management AccountingAccounting

No inventories.Need for standards and

consistent high quality.

No inventories.Need for standards and

consistent high quality.

Costs often accounted for by customer type.

Demand for measure-ment and control of quality to maintain consistency.

Costs often accounted for by customer type.

Demand for measure-ment and control of quality to maintain consistency.

Productivity and quality measurement and control must be ongoing.

Total quality manage-ment critical.

Productivity and quality measurement and control must be ongoing.

Total quality manage-ment critical.

1. Intangibility

2. Perishability

3. Inseparability

4. Heterogeneity

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Product cost is a cost assignment that supports a well-specified managerial

object. Thus, what product cost means depends on the managerial

objective being served.

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DesignDesign

ProduceProduce

MarketMarket

DistributeDistribute

ServiceService DevelopDevelop

2 -51 Product Costing Definitions

Pricing DecisionsProduct-Mix DecisionsStrategic Profitability

Analysis

Strategic Design DecisionsTactical Profitability

Analysis

External FinancialReporting

Research andResearch andDevelopmentDevelopment

ProductionProduction

MarketingMarketing

Customer Customer ServiceService

Value-Chain Product Costs


MarketingMarketing

Customer Customer ServiceService

Operating Product Costs

Traditional Product Costs


Man

ager

ial o

bjec

tive

s se

rved

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Direct materials are those materials that are directly traceable to the goods or services being produced.

Steel in an automobile

Wood in furniture

Alcohol in cologne

Denim in jeans

Braces for correcting teeth

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Direct labor is the labor that is directly traceable to the goods or services being produced.

Workers on an assembly line at Chrysler

A chef in a restaurant

A surgical nurse attending an open heart operation

Airline pilot

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Overhead are all other production costs.

Depreciation on building and equipment

Maintenance

Supplies

Supervision

Power

Property taxes

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Noninventoriable (period) costs are expensed in the period in

which they are incurred.

Noninventoriable (period) costs are expensed in the period in

which they are incurred.

Salaries and commissions of sales personnel (marketing)

Advertising (marketing) Legal fees (administrative) Printing the annual report

(administrative)

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Prime Cost :Direct Materials Costs + Direct Labor

Costs

Conversion Cost:Direct Labor Costs + Overhead Costs

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External Financial

Statements

2 -58 Manufacturing OrganizationManufacturing OrganizationIncome StatementIncome Statement

For the Year Ended December 31, 2006For the Year Ended December 31, 2006

Sales $2,800,000

Less cost of goods sold:

Beginning finished goods inventory $ 500,000

Add: Cost of goods manufactured 1,200,000

Cost of goods available for sale $1,700,000

Less: Ending finished goods inventory 300,000 1,400,000

Gross margin $1,400,000

Less operating expenses:

Selling expenses $ 600,000

Administrative expenses 300,000 900,000

Income before taxes $ 500,000

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Direct materials:Beginning inventory $200,000Add: Purchases 450,000Materials available $650,000Less: Ending inventory 50,000Direct materials used $ 600,000

Direct labor 350,000Manufacturing overhead:

Indirect labor $122,500Depreciation 177,500Rent 50,000Utilities 37,500Property taxes 12,500Maintenance 50,000 450,000

Total manufacturing costs added $1,400,000

Statement of Cost of Goods ManufacturedStatement of Cost of Goods ManufacturedFor the Year Ended December 31, ,2006For the Year Ended December 31, ,2006

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continued on next slidecontinued on next slidecontinued on next slidecontinued on next slide

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Total manufacturing costs added $1,400,000Add: Beginning work in process 200,000Total manufacturing costs $1,600,000Less: Ending work in process 400,000Cost of goods manufactured $1,200,000

Work in process consists of all partially completed units found in

production at a given point in time.

2 -61 Service OrganizationService OrganizationIncome StatementIncome Statement

For the Year Ended December 31, 2006For the Year Ended December 31, 2006Sales

$300,000Less expenses:Cost of services sold:

Beginning work in process $ 5,000Service costs added:

Direct materials $ 40,000Direct labor 80,000Overhead 100,000 220,000

Total $225,000Less: Ending work in process 10,000

215,000Gross margin

$ 85,000Less operating expenses: Selling expenses $ 8,000 Administrative expenses 22,000

30,000Income before income taxes

$ 55,000

2-232-23

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Functional-Based Management ModelFunctional-Based

Management Model

Efficiency Efficiency AnalysisAnalysis

Performance Performance AnalysisAnalysis

Operational View

ResourcesResources

FunctionsFunctions

ProductsProducts

Cost View

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Activity-Based Management Model

Activity-Based Management Model

ResourcesResources

ActivitiesActivities

Products and Products and CustomersCustomers

Cost View

Driver Driver AnalysisAnalysis

Performance Performance AnalysisAnalysis

Process View

Why? What? How Well?

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1. Unit-based drivers

2. Allocation-intensive

3. Narrow and rigid product costing

4. Focus on managing cost

5. Sparse activity information

6. Maximization of individual unit performance

7. Use of financial measures of performance

1. Unit- and nonunit-based drivers

2. Tracing intensive

3. Broad, flexible product costing

4. Focus on managing activities

5. Detailed activity information

6. Systematic performance maximization

7. Use of both financial and nonfinancial measures of performance

Functional-Based Activity-BasedFunctional-Based Activity-Based

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The EndThe EndThe EndThe End

Chapter TwoChapter Two

2 -1 Basic Management Accounting Concepts CHAPTER 1.

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