Management Accounting and Control Systems for Strategic Purposes: Assessing Performance Over the Entire Value Chain Chapter 9

Introduction Nathaniel Young has just been appointed controller of a large chemical company. The company’s management accounting control system is antiquated. Cost management reports are often not comparable.

Introduction Information generated by the system is focused solely on the actual manufacturing process itself. Nathaniel has decided to design a management accounting and control system. After reading this chapter, you will be able to...

Learning Objectives Discuss the concept of control. Identify the characteristics of well-designed management accounting and control systems (MACS). Describe the total-life-cycle costing approach to managing product costs over the value chain.

Learning Objectives Explain target costing. Explain Kaizen costing. Discuss environmental costing issues. Understand the process of benchmarking the best practices of other organizations.

Discuss the concept of control. Learning Objective 1 Discuss the concept of control.

Management Accounting and Control Systems What is a management accounting and control system? It is a system that generates and uses information to help decision makers assess whether an organization is achieving its objectives. A system is in control if it is on the path to achieving its strategic objectives.

Management Accounting and Control Systems The Cycle of Control Plan Execute Correct Monitor Evaluate

Management Accounting and Control Systems Planning consists of developing an organization’s objectives, choosing activities to accomplish the objectives, and selecting measures to determine how well the objectives were met. Execution is implementing the plan. Monitoring is the process of measuring the system’s current level of performance.

Management Accounting and Control Systems Evaluation occurs when feedback about the system’s current level of performance is compared to the planned level. Correcting consists of taking the appropriate actions to return the system to an in-control state.

Learning Objective 2 Identify the characteristics of well-designed management accounting and control systems (MACS).

Characteristics of Well-Designed MACS A well-designed management accounting and control system should include behavioral and technical considerations. What are some behavioral considerations? Embedding the organization’s ethical code of conduct into MACS design

Characteristics of Well-Designed MACS Using a mix of short- and long-term qualitative and quantitative performance measures Empowering employees to be involved in decision making and MACS design Developing an appropriate incentive system to reward performance

Characteristics of Well-Designed MACS What are some technical considerations? Relevance of the information generated Scope of the system

Characteristics of Well-Designed MACS The relevance of the information is measured by four characteristics: Accurate Consistent Timely Flexible

Characteristics of Well-Designed MACS The scope of the system must be comprehensive and include all activities across the entire value chain. research, development, and engineering manufacturing customers

Learning Objective 3 Describe the total-life-cycle costing approach to managing product costs over the value chain.

Total-Life-Cycle-Costing What is total-life-cycle costing? It is the process of managing all costs along the value chain. A TLCC system provides information for managers to understand and manage costs through a product’s design, development, manufacturing, marketing, distribution, maintenance, service, and disposal stages.

Total-Life-Cycle-Costing RD&E Cycle Manufacturing Cycle Post Service Cycle

Total-Life-Cycle-Costing What are the three stages of the research, development, and engineering cycle? Market research Product design Product development 80% to 85% of a product’s total life costs are committed by decisions made in the RD&E cycle.

Total-Life-Cycle-Costing What are committed costs? These are costs that a company knows it will have to incur at a future date. What are manufacturing cycle costs? These are the costs incurred in the production of the product. Usually at this stage there is not much room for engineering flexibility.

Total-Life-Cycle-Costing When does the post-sale service and disposal cycle begin? It begins when the first unit produced is in the hands of the customer.

Total-Life-Cycle-Costing What are the three stages of the service cycle? Rapid growth Transition Maturity

Total-Life-Cycle-Costing Traditional Stages of the Accounting Total life Cycle Focus Post-Sale $ Costs Research, Development, Manufacturing Service and and Engineering Cycle Disposal 100% 80% 60% 40% 20% 0% Cost Committed Costs Incurred

Explain target costing. Learning Objective 4 Explain target costing.

Target Costing What is target costing? It is a cost planning method used during the RD&E cycle that focuses on reducing costs for products that require discrete manufacturing processes and reasonably short product life cycle.

Target Costing RD&E Cycle Manufacturing Cycle Post Service Cycle

Comparing Traditional Cost Reduction to Target Costing Traditional Cost Target Reduction Costing Market Research to Determine Customer Requirements Customer Needs and Price Points Product Specifications

Comparing Traditional Cost Reduction to Target Costing Traditional Cost Target Reduction Costing Design Target Selling Price Target Product Volume Engineering Target Profit Supplier Pricing

Comparing Traditional Cost Reduction to Target Costing Traditional Cost Target Reduction Costing Estimated Cost Target Cost Desired Profit Margin Value Engineering Supplier Pricing Pressure

Comparing Traditional Cost Reduction to Target Costing Traditional Cost Target Reduction Costing Manufacturing Periodic Cost Reduction Continuous Cost Reduction

Comparing Traditional Cost Reduction to Target Costing Under traditional costing, the profit margin is the result of the difference between the expected selling price and the estimated production cost. Pt = St – Ct The cost-plus method is another traditional approach.

Comparing Traditional Cost Reduction to Target Costing Under the cost-plus method the selling price is the sum of the expected product cost and the expected profit margin. Scp = Ccp + Pcp

Comparing Traditional Cost Reduction to Target Costing Under target costing, the target profit margin results from a long-run profit analysis often based on return on sales. The target cost is the difference between the target selling price and the target profit margin. Ctc = Stc – Ptc

Concerns About Target Costing What are some potential problems in implementing target costing? Conflict can arise between parties involved in the process. Employees may experience burnout due to pressure. Development time may increase.

Explain Kaizen costing. Learning Objective 5 Explain Kaizen costing.

Kaizen What is Kaizen? It is a Japanese term for making improvements to a process through small, incremental amounts rather than through large innovations.

Kaizen Costing What is Kaizen Costing? It is a planning method used during the manufacturing cycle with an emphasis on reducing variable costs in one period below the costs in a base period. The target-reduction rate is the ratio of the target reduction amount to the cost base.

Kaizen Costing Manufacturing Cycle RD&E Cycle Post Service Cycle

Comparing Traditional Cost Reduction to Kaizen Costing Standard Costing 1. Cost-control system concept 2. Assumes stability in current manufacturing process 3. Goal is to meet cost performance standards Kaizen Costing 1. Cost-reduction system concept 2. Assumes continuous improvements in manufacturing 3. Goal is to achieve cost reduction standards

Comparing Traditional Cost Reduction to Kaizen Costing Standard Costing Techniques 1. Standards are set annually or semi- annually 2. Variance analysis involves comparing actual to standard costs 3. Investigation occurs when standards are not met Kaizen Costing Techniques 1. Cost reduction targets are set and applied monthly 2. Variance analysis involves target Kaizen costs versus actual cost reduction amounts 3. Investigation occurs when target reductions are not attained

Comparing Traditional Cost Reduction to Kaizen Costing Who has the best knowledge to reduce costs? Standard Costing Managers and engineers develop standards Kaizen Costing Workers are closest to the process and thus know best

Concerns About Kaizen Costing What is a concern about Kaizen Costing? The system places enormous pressure on employees to reduce every conceivable cost. What is a cost-sustaining period? It is a period that allows employees to learn new procedures before Kaizen targets are imposed.

Discuss environmental costing issues. Learning Objective 6 Discuss environmental costing issues.

Environmental Costing Perhaps the best way to control and reduce environmental costs is to use activity-based costing. Environmental costs fall into two categories: Explicit Implicit

Environmental Costing What are some examples of explicit costs? direct costs to modify technology and processes costs of cleanup and disposal costs of permits to operate a facility fines levied by government agencies litigation fees

Environmental Costing What are some examples of implicit costs? administration and legal counsel employee education and awareness loss of goodwill if environmental disasters occur

Learning Objective 7 Understand the process of benchmarking the best practices of other organizations.

Benchmarking What is benchmarking? It is an organization’s search for implementation of the best way of doing something as practiced by another organization. The benchmarking process consists of five stages.

The Benchmarking Process Stage 1 Internal Study and Preliminarily Competitive Analyses Factors to Consider Preliminary internal and external competitive analysis Determine key areas for study Determine scope and significance of the study

The Benchmarking Process Stage 2 Developing Long-Term Commitment to the Benchmarking Project and Coalescing the Benchmarking Teams Factors to Consider Develop Long-Term Commitment to the Benchmarking Project: Gain senior management support Develop a clear set of objectives Empower employees to make change

The Benchmarking Process Stage 2 (cont’d.) Developing Long-Term Commitment to the Benchmarking Project and Coalescing the Benchmarking Teams Factors to Consider Coalescing the Benchmarking Team: Use an experienced coordinator Train employees

The Benchmarking Process Stage 3 Identify Benchmarking Partners Factors to Consider Size of partners Number of partners Relative position of the partners within and across industries Degree of trust among partners

The Benchmarking Process Stage 4 Information Gathering and Sharing Methods Factors to Consider Type of benchmarking information: Product Functional (process) Strategic (includes management accounting methods)

The Benchmarking Process Stage 4 (cont’d.) Information Gathering and Sharing Methods Factors to Consider Method of Information Collection: Unilateral Cooperative: Database Indirect/third party Group

The Benchmarking Process Stage 4 (cont’d.) Information Gathering and Sharing Methods Factors to Consider Determine performance measures Determine the benchmarking performance gap in relation to performance measures

The Benchmarking Process Stage 5 Taking Action to Meet or Exceed the Benchmark Factors to Consider Comparisons of performance measures are made

Conclusion Nathaniel Young wanted to change his antiquated MACS to one that would generate relevant information over the entire value chain in his organization.

Conclusion Organizations interested in a new management accounting method usually choose one of these ways: Bringing in an outside consultant Developing the system internally Benchmarking

End of Chapter 9