management accounting · inventory costing. in particular, job costing and process costing will be...

module: c370 m470 | product: 4565

Management Accounting

Management Accounting Centre for Financial and Management Studies

© SOAS University of London First published: 2014; Revised: 2017, 2019

All rights reserved. No part of this module material may be reprinted or reproduced or utilised in any form or by any electronic, mechanical, or other means, including photocopying and recording, or in information storage or retrieval systems, without written permission from the Centre for Financial and Management Studies, SOAS University of London.


Module Introduction and Overview

Contents

1 Introduction to the Module 2

2 The Module Authors 2

3 Study Materials 2

4 Module Overview 3

5 Learning Outcomes 5

6 Assessment 6

Specimen Examination 13


2 University of London

1 Introduction to the Module Welcome to the module Management Accounting. Accounting information is a

fundamental resource for enabling managers to make decisions. This module

emphasises a critical understanding of the accounting numbers, the underlying

assumptions behind those numbers, and the choice of accounting tools and tech-

niques that will best suit managers’ information needs. The aim of the module is to

equip line managers primarily in business (but also public-sector agencies) with the

ability to prepare budgets, develop business cases for capital investment, calculate

prices and exercise cost control.

2 The Module Authors Matthew Haigh PhD (Macquarie) has had careers in public-sector auditing, char-

tered accountancy and internal auditing. He has researched and lectured in eight

European countries and currently holds a Senior Lectureship in Accounting at the

University of London. He holds qualifications in chartered accountancy and certi-

fied information systems auditing. His roles in commercial and public-sector

organizations have focussed on the production, review and audit of management

and financial accounting information.

Dr Alexa Simm is an Accountancy Consultant specialising in accountancy educa-

tion. As a professionally qualified Chartered Public Financial Accountant, she has

extensive experience, having previously worked as a professional trainer for the

Chartered Institute of Public Finance and Accountancy and as a University Senior

Lecture. Having previously worked as an external auditor, her PhD was in man-

agement accounting making her well suited to authoring this module.

3 Study Materials This study guide is your main learning resource for the module as it directs your

study through the eight study units. Each unit includes recommended reading from

the nominated textbooks below and from the Module Reader.

Textbooks

Paul Collier (2015) Accounting for Managers: Interpreting Accounting Information for Decision-Making, Fifth Edition, Chichester UK: John Wiley & Sons Ltd.

Anthony A Atkinson, Robert S Kaplan, Ella M Matsumara, S Mark Young (2012)

Management Accounting: Information for Decision Making and Strategy Execution,

Sixth Edition, Harlow UK: Pearson Education.

Readings

You are provided with a range of academic journal articles, extracts from supple-

mentary texts, articles written by academics and taken from the financial press, and

a number of simulation lessons. This material comprises the Readings – an essential

part of this module.


Centre for Financial and Management Studies 3

4 Module Overview The module is structured around eight units. It is expected that studying each unit,

including the recommended readings and activities, will take between 15 and 20

hours per week. However, these timings may vary according to your familiarity

with the subject matter and your own study experience. You will receive feedback

through comments on your assignments and there is a specimen examination paper

to help you prepare for the final examination.

Unit 1 Management Accounting Context and Performance Measurement 1.1 Introduction to Management Accounting 1.2 Centralisation and Decentralisation 1.3 Divisional Performance and the Controllability Construct 1.4 Balanced Scorecard 1.5 Case Study 1.6 Feedback on Case Study 1.7 Summary

Unit 2 Pricing and Production-Volume Decisions 2.1 Pricing Strategy 2.2 Relevant Costs for Pricing Decisions 2.3 Finding the Break-Even Point – Cost-Volume-Profit Analysis 2.4 Achieving a Target Profit Using Break-Even Analysis 2.5 Using ‘Contribution’ to Make Decisions 2.6 Segmental Profitability Analysis for Closing-Continuation Decisions 2.7 Case Study 2.8 Feedback on Case Study 2.9 Summary and Practice Tasks

Unit 3 Production Decisions, the Value Chain and Production Capacity 3.1 The Value Chain 3.2 Production Capacity 3.3 Theory of Constraints, Relevant Cost, Opportunity Cost 3.4 The Outsourcing Decision 3.5 Costing Orders 3.6 The Product-Mix Decision 3.7 Environmental Costs 3.8 Case Study 3.9 Feedback on Case Study 3.10 Summary and Practice Tasks

Unit 4 Volume-Based Cost Systems 4.1 The Problem of Allocating Production Costs 4.2 Variable Costing and Absorption Costing 4.3 Process Costing 4.4 Job Costing 4.5 Case Study 4.6 Feedback on Case Study 4.7 Summary



Unit 5 Activity-Based Cost Systems I 5.1 Costing Environment 5.2 Types of Activities – Facility-Level, Customer-Level, Product-Level, Batch-Level, Unit-

Level 5.3 Steps in Designing an Activity-Based Cost System 5.4 Worked Example and Questions 5.5 Summary

Unit 6 Activity-Based Cost Systems II 6.1 Activity-Based Costing in Service Companies 6.2 Organisation-Level Factors Affecting Activity-Based Costing Systems 6.3 Case Studies 6.4 Feedback on Case Studies 6.5 Summary and Practice Tasks

Unit 7 Capital Investment Decisions 7.1 Introduction to Capital Investment Decisions 7.2 Accounting Rate of Return 7.3 Payback 7.4 Discounted Cash Flow Techniques 7.5 Taxes and Price Inflation 7.6 Case Study 7.7 Summary

Unit 8 Budgeting 8.1 Budgeting - An Introduction 8.2 Cash Budgets 8.3 Budgetary Control 8.4 Is Budgeting Necessary? 8.5 Summary

This module introduces some of the core techniques used in management account-

ing as well as exploring what management accounting actually involves.

Unit 1 sets the scene for the module by defining and explaining key terms used in

management accounting. The unit looks at what management accounting actually

is, what it involves and how it differs to financial accounting. You will then consid-

er how an organisation may be structured before exploring how the performance of

individual elements of an organisation may be assessed. Performance measurement

incorporating both financial and non-financial elements is then discussed, with the

balanced scorecard explored as one such method. Finally the unit considers the

development and use of the balanced scorecard through a case study.

Unit 2 considers the use of accounting information to support product-pricing

decisions. The unit begins by introducing pricing strategies, then moves on to the

analysis of costs that are relevant for pricing decisions. The unit covers decisions

involving the relationship between product price and the levels of production

volume, breakeven analysis, target rate of return and segmental profitability. A case

study considers segmental profitability for an example company to close the unit.

Unit 3 investigates the production decision from two perspectives – the value chain,

and full and spare production capacity. You will learn how the value chain concept



allows managers to distinguish different types of costs and obtain information

relevant for outsourcing, purchasing and product-mix decisions. The types of

decisions faced by firms experiencing fully utilised capacity and spare capacity are

identified and contrasted. In the process, you will learn about opportunity costs and

the theory of constraints, and how to apply these concepts in production decisions.

You will also consider environmental costs and their impact on production costs.

Unit 4 aims to illustrate how managers can allocate relevant costs of production to

products and services. The unit begins by distinguishing between various types of

product costs, and introduces the concept of a cost driver. The unit then illustrates

how to use production-volume cost systems where appropriate – for example,

inventory costing. In particular, job costing and process costing will be analysed.

After learning about the basic volume-based production costing system in Unit 4,

you turn in Units 5 and 6 to examine a more complex, more accurate but more

costly production costing system known as activity-based costing.

Unit 5 introduces systems of activity-based costing (ABC), which are increasingly

used by organisations because they are generally believed to report more accurate

costs, which may lead to improved decisions on labour usage, product mix, pricing,

order acceptance, and customer relationships.

Unit 6 continues the study of ABC and gives you more insight in the use of the

model including some of its organisational implications. The unit ends with two

case studies looking at the use of ABC in real-life situations.

Unit 7 looks at the topic of strategic investment decision-making, by comparing and

evaluating several methods that managers can use to prepare and evaluate capital

expenditure proposals and projects. This unit examines three groups of planning

and evaluation tools: the accounting rate of return, payback and discounted cash

flow techniques. You will learn how to apply these techniques in a range of relevant

questions, as well as to discuss their respective uses, advantages and criticisms.

Unit 8 focuses on the management accounting area of budgeting. The unit explores

what budgeting actually is, what budgeting involves and the different types of

budgeting. The unit then looks at how to prepare a profit and cash budget, as well

as highlighting the differences between them. Following the preparation of budg-

ets, the unit then goes on to consider the use of the budgets in achieving budgetary

control, through the calculation and interpretation of variances. Finally the unit

considers alternative views on budgeting, as to whether budgeting is actually

necessary and different approaches such as Beyond Budgeting.

5 Learning Outcomes When you have completed your study of this module, you will be able to:

• discuss and apply performance measurement measures, including the balanced scorecard

• explain the ways in which divisional performance might be measured

• identify and apply relevant costs in marketing, pricing and product mix decisions

• apply and discuss job-costing, throughput-costing and process-costing techniques



• make decisions that take account of quality management and environmental costs

• apportion overhead costs to products and services using a range of methods, including absorption costing

• apply appropriate capital investment appraisal methods

• discuss, construct and interpret budgets.

6 Assessment Your performance on each module is assessed through two written assignments and

one examination. The assignments are written after Unit 4 and Unit 8 of the module

session. Please see the VLE for submission deadlines. The examination is taken at a

local examination centre in September/October.

Preparing for assignments and exams

There is good advice on preparing for assignments and exams and writing them in

Chapter 8 of Studying at a Distance by Christine Talbot. We recommend that you

follow this advice.

The examinations you will sit are designed to evaluate your knowledge and skills in

the subjects you have studied: they are not designed to trick you. If you have

studied the module thoroughly, you will pass the exam.

Understanding assessment questions

Examination and assignment questions are set to test your knowledge and skills.

Sometimes a question will contain more than one part, each part testing a different

aspect of your skills and knowledge. You need to spot the key words to know what

is being asked of you. Here we categorise the types of things that are asked for in

assignments and exams, and the words used. All the examples are from the Centre

for Financial and Management Studies examination papers and assignment questions.

Definitions

Some questions mainly require you to show that you have learned some concepts, by setting out their precise meanings. Such questions are likely to be preliminary and be supplemented by more analytical questions. Generally, ‘Pass marks’ are awarded if the answer only contains definitions. They will contain words such as:

Describe Contrast

Define Write notes on

Examine Outline Distinguish between What is meant by

Compare List

Reasoning

Other questions are designed to test your reasoning, by explaining cause and effect. Convincing explanations generally carry additional marks to basic definitions. They will include words such as:

Interpret Explain What conditions influence



What are the consequences of What are the implications of

Judgement

Others ask you to make a judgement, perhaps of a policy or of a course of action. They will include words like:

Evaluate Critically examine Assess Do you agree that To what extent does

Calculation

Sometimes, you are asked to make a calculation, using a specified technique, where the question begins:

Use indifference curve analysis to Using any economic model you know Calculate the standard deviation Test whether

It is most likely that questions that ask you to make a calculation will also ask for an application of the result, or an interpretation.

Advice

Other questions ask you to provide advice in a particular situation. This applies to law questions and to policy papers where advice is asked in relation to a policy problem. Your advice should be based on relevant law, principles and evidence of what actions are likely to be effective. The questions may begin:

Advise Provide advice on Explain how you would advise

Critique

In many cases the question will include the word ‘critically’. This means that you are expected to look at the question from at least two points of view, offering a critique of each view and your judgement. You are expected to be critical of what you have read.

The questions may begin:

Critically analyse Critically consider Critically assess Critically discuss the argument that

Examine by argument

Questions that begin with ‘discuss’ are similar – they ask you to examine by argument, to debate and give reasons for and against a variety of options, for example

Discuss the advantages and disadvantages of Discuss this statement Discuss the view that Discuss the arguments and debates concerning



The grading scheme: Assignments The assignment questions contain fairly detailed guidance about what is required.

All assignments are marked using marking guidelines. When you receive your

grade it is accompanied by comments on your paper, including advice about how

you might improve, and any clarifications about matters you may not have under-

stood. These comments are designed to help you master the subject and to improve

your skills as you progress through your programme.

Postgraduate assignment marking criteria

The marking criteria for your programme draws upon these minimum core criteria,

which are applicable to the assessment of all assignments:

• understanding of the subject

• utilisation of proper academic [or other] style (e.g. citation of references, or use of proper legal style for court reports, etc.)

• relevance of material selected and of the arguments proposed

• planning and organisation

• logical coherence

• critical evaluation

• comprehensiveness of research

• evidence of synthesis

• innovation/creativity/originality.

The language used must be of a sufficient standard to permit assessment of these.

The guidelines below reflect the standards of work expected at postgraduate level.

All assessed work is marked by your Tutor or a member of academic staff, and a

sample is then moderated by another member of academic staff. Any assignment

may be made available to the external examiner(s).

80+ (Distinction). A mark of 80+ will fulfil the following criteria: • very significant ability to plan, organise and execute independently a research

project or coursework assignment

• very significant ability to evaluate literature and theory critically and make informed judgements

• very high levels of creativity, originality and independence of thought

• very significant ability to evaluate critically existing methodologies and suggest new approaches to current research or professional practice

• very significant ability to analyse data critically

• outstanding levels of accuracy, technical competence, organisation, expression.

70–79 (Distinction). A mark in the range 70–79 will fulfil the following criteria: • significant ability to plan, organise and execute independently a research

project or coursework assignment

• clear evidence of wide and relevant reading, referencing and an engagement with the conceptual issues

• capacity to develop a sophisticated and intelligent argument

• rigorous use and a sophisticated understanding of relevant source materials, balancing appropriately between factual detail and key theoretical issues.



Materials are evaluated directly and their assumptions and arguments challenged and/or appraised

• correct referencing • significant ability to analyse data critically • original thinking and a willingness to take risks.

60–69 (Merit). A mark in the 60–69 range will fulfil the following criteria: • ability to plan, organise and execute independently a research project or

coursework assignment • strong evidence of critical insight and thinking • a detailed understanding of the major factual and/or theoretical issues and

directly engages with the relevant literature on the topic • clear evidence of planning and appropriate choice of sources and

methodology with correct referencing • ability to analyse data critically • capacity to develop a focussed and clear argument and articulate clearly and

convincingly a sustained train of logical thought.

50–59 (Pass). A mark in the range 50–59 will fulfil the following criteria: • ability to plan, organise and execute a research project or coursework

assignment • a reasonable understanding of the major factual and/or theoretical issues

involved • evidence of some knowledge of the literature with correct referencing • ability to analyse data • examples of a clear train of thought or argument • the text is introduced and concludes appropriately.

40–49 (Fail). A Fail will be awarded in cases in which there is: • limited ability to plan, organise and execute a research project or coursework

assignment • some awareness and understanding of the literature and of factual or

theoretical issues, but with little development • limited ability to analyse data • incomplete referencing • limited ability to present a clear and coherent argument.

20–39 (Fail). A Fail will be awarded in cases in which there is: • very limited ability to plan, organise and execute a research project or

coursework assignment • failure to develop a coherent argument that relates to the research project or

assignment • no engagement with the relevant literature or demonstrable knowledge of the

key issues • incomplete referencing • clear conceptual or factual errors or misunderstandings • only fragmentary evidence of critical thought or data analysis.



0–19 (Fail). A Fail will be awarded in cases in which there is: • no demonstrable ability to plan, organise and execute a research project or

coursework assignment

• little or no knowledge or understanding related to the research project or assignment

• little or no knowledge of the relevant literature

• major errors in referencing

• no evidence of critical thought or data analysis

• incoherent argument.

The grading scheme: Examinations The written examinations are ‘unseen’ (you will only see the paper in the exam

centre) and written by hand, over a three-hour period. We advise that you practise

writing exams in these conditions as part of your examination preparation, as it is

not something you would normally do.

You are not allowed to take in books or notes to the exam room. This means that

you need to revise thoroughly in preparation for each exam. This is especially

important if you have completed the module in the early part of the year, or in a

previous year.

Details of the general definitions of what is expected in order to obtain a particular

grade are shown below. These guidelines take account of the fact that examination

conditions are less conducive to polished work than the conditions in which you

write your assignments. Note that as the criteria of each grade rises, it accumulates

the elements of the grade below. Assignments awarded better marks will therefore

have become comprehensive in both their depth of core skills and advanced skills.

Postgraduate unseen written examinations marking criteria

80+ (Distinction). A mark of 80+ will fulfil the following criteria: • very significant ability to evaluate literature and theory critically and make

informed judgements

• very high levels of creativity, originality and independence of thought

• outstanding levels of accuracy, technical competence, organisation, expression

• outstanding ability of synthesis under exam pressure.

70–79 (Distinction). A mark in the 70–79 range will fulfil the following criteria: • clear evidence of wide and relevant reading and an engagement with the

conceptual issues

• develops a sophisticated and intelligent argument

• rigorous use and a sophisticated understanding of relevant source materials, balancing appropriately between factual detail and key theoretical issues

• direct evaluation of materials and their assumptions and arguments challenged and/or appraised;

• original thinking and a willingness to take risks

• significant ability of synthesis under exam pressure.

60–69 (Merit). A mark in the 60–69 range will fulfil the following criteria: • strong evidence of critical insight and critical thinking



• a detailed understanding of the major factual and/or theoretical issues and directly engages with the relevant literature on the topic

• develops a focussed and clear argument and articulates clearly and convincingly a sustained train of logical thought

• clear evidence of planning and appropriate choice of sources and methodology, and ability of synthesis under exam pressure.

50–59 (Pass). A mark in the 50–59 range will fulfil the following criteria: • a reasonable understanding of the major factual and/or theoretical issues

involved

• evidence of planning and selection from appropriate sources

• some demonstrable knowledge of the literature

• the text shows, in places, examples of a clear train of thought or argument

• the text is introduced and concludes appropriately.

40–49 (Fail). A Fail will be awarded in cases in which: • there is some awareness and understanding of the factual or theoretical issues,

but with little development

• misunderstandings are evident

• there is some evidence of planning, although irrelevant/unrelated material or arguments are included.

20–39 (Fail). A Fail will be awarded in cases which: • fail to answer the question or to develop an argument that relates to the

question set

• do not engage with the relevant literature or demonstrate a knowledge of the key issues

• contain clear conceptual or factual errors or misunderstandings.

0–19 (Fail). A Fail will be awarded in cases which: • show no knowledge or understanding related to the question set

• show no evidence of critical thought or analysis

• contain short answers and incoherent argument. [2015–16: Learning & Teaching Quality Committee]

Specimen exam papers CeFiMS does not provide past papers or model answers to papers. Modules are

continuously updated, and past papers will not be a reliable guide to current and

future examinations. The specimen exam paper is designed to be relevant and to

reflect the exam that will be set on this module.

Your final examination will have the same structure and style and the range of

question will be comparable to those in the Specimen Exam. The number of ques-

tions will be the same, but the wording and the requirements of each question will

be different.

Good luck on your final examination.



Further information Online you will find documentation and information on each year’s examination

registration and administration process. If you still have questions, both academics

and administrators are available to answer queries.

The Regulations are also available at www.cefims.ac.uk/regulations/, setting out

the rules by which exams are governed.

DO NOT REMOVE THE QUESTION PAPER FROM THE EXAMINATION HALL.

UNIVERSITY OF LONDON

CENTRE FOR FINANCIAL AND MANAGEMENT STUDIES

MSc Examination for External Students

91DFM C370

INTERNATIONAL BUSINESS ADMINISTRATION


Specimen Examination This is a specimen examination paper designed to show you the type of examination you will have at the end of this module. The number of questions and the structure of the examination will be the same, but the wording and requirements of each question will be different. The examination must be completed in THREE hours. Answer Question 1, plus ONE question from Section A and ONE question from Section B. You must answer THREE questions in total. The examiners give equal weight to each question; therefore, you are advised to distribute your time approximately equally between three questions.

PLEASE TURN OVER



Answer THREE questions. You must answer Question 1, plus ONE question from Section A and ONE question from Section B.

1. All students must answer THIS question. The Firs Company sells fir trees, with 30% of customers paying in

cash at the time of purchase and the remaining 70% taking advantage of credit offered. Of the credit customers, 80% pay in the month following purchase with the remaining 20% paying two months after purchase. The following sales revenue is estimated in the forthcom-ing months:

September October November December January February March April

£ £ £ £ £ £ £ £

580,000 620,000 780,000 930,000 520,000 490,000 570,000 580,000

Purchases by the Firs Company are 80% of sales revenue (not cash received) each month. The Firs Company is offered one month’s credit so pays in the month after purchase.

Other costs for the Firs Company comprise:

• Salaries/ wages are £132,000 each month, paid in the month they are incurred.

• Electricity/ gas charges total £8,000 per year and are paid in four equal quarterly amounts in January, April, July and October.

• Running costs of £4,000, paid in the month they are incurred. The Firs Company is planning to buy a new delivery van at a cost of

£25,000 in February and to pay for it outright in the month of pur-chase. This will replace the existing delivery van which will be sold for scrap of £2,500 in the same month.

At the end of October, the Firs Company had a cash balance of £22,536.

Construct a cash budget for the Firs Company for the six-month period from November to April and discuss any issues arising from the cash budget prepared.

Section A

Answer ONE question from this section. 2. A company manufactures wooden tables of a standard size and plans

to make 50 tables each month. Each table is budgeted to use 8 kg wood at a cost of £6 per kg and 24 hours of direct labour at a cost of £12 per hour.

For August 2016, the company actually made 55 tables using 550 kg of wood costing £3,190 and 1,430 hours of direct labour costing £16,445. There was no opening or closing inventory of wood.

Specimen Examination


a) Explain variance analysis and how it may be used. (30% of the marks)

b) Calculate the following variances and explain what the calcu-

lated variances show.

• Materials price variance

• Materials quantity variance

• Direct labour rate variance

• Direct labour efficiency variance (70% of the marks) 3. A company that makes and sells garden machinery has a new

Managing Director, who is concerned that the LMX lawnmower is not a profitable product. The Managing Director has requested that each product (including the LMX lawnmower) should be making a profit of at least £10,000 each year.

The annual fixed costs associated with producing the LMX lawnmowers are £350,000. Each LMX lawnmower is currently sold for £80 with variable costs of £32 per lawnmower. Last year the company sold 7,400 LMX lawnmowers. a) Calculate the breakeven point, current margin of safety and

percentage increase in number of LMX lawnmower sales re-quired for the company to achieve the Managing Director’s requested profit. (60% of the marks)

b) Critically discuss the use of contribution to make decisions.

(40% of the marks) 4. A new machine at a manufacturing company has been purchased to

increase production. The machine has been purchased in year 0 for £180,000 and will be sold for £12,000 in 5 years’ time at the end of its useful economic life.

Revenue based on production by the new machine is estimated to be £30,000 in year 1. Volume is expected to remain constant, but selling price (and therefore revenue) is expected to increase by 5% per year. Running costs are estimated to be £4,000 in year 1. Inflation for run-ning costs is estimated at 2% per year.

The company evaluates capital investments using a nominal cost of capital of 5%. Ignore taxation.

Calculate the net present value (NPV) of the new machine. Explain your findings, and your treatment of inflation.

PLEASE TURN OVER



Section B

Answer ONE question from this section. 5. Critically compare the use of job costing and process costing. 6. Critically discuss the use of alternative responsibility centres. 7. Provide advice to the Board of a chemical company on the relevance

of environmental costs to a production decision. 8. Critically discuss the use of activity-based costing systems.

[END OF EXAMINATION]


Unit 1 Management Accounting Context and Performance Measurement

Contents

1.1 Introduction to Management Accounting 3

1.2 Centralisation and Decentralisation 4

1.3 Divisional Performance and the Controllability Construct 6

1.4 Balanced Scorecard 9

1.5 Case Study 11

1.6 Summary 13

References 14



Unit Overview Unit 1 sets the scene for the module by defining and explaining key terms

used in management accounting. The unit first looks at what management

accounting actually is, what it involves, and how it differs from financial

accounting. We then consider how an organisation may be structured, and

then explore how the performance of individual elements of an organisation

can be assessed. The unit then considers how performance measurement

should incorporate both financial and non-financial elements, and explores

how the balanced scorecard achieves this. Finally the unit examines how a

company can develop and use the balanced scorecard through a case study.

Learning Objectives When you have completed your study of this unit, including the recommend-

ed readings and activities, you will be able to

• discuss the key qualities that management accounting information should possess

• compare and contrast financial accounting and management accounting

• distinguish between centralisation, decentralisation and divisionalisation

• distinguish between and explain responsibility centres, cost centres, profit centres, and investment centres

• discuss the controllability principle, and divisional performance measures of absolute profit, return on investment (ROI), and residual income (RI)

• calculate the ROI and RI

• explain and apply the balanced scorecard.

• critically discuss the assumptions underlying the balanced scorecard

Reading for Unit 1

Textbooks Paul Collier (2015) Accounting for Managers: Interpreting Accounting Information for Decision Making, extracts from Chapters 1, 4 and 15.

Anthony Atkinson, Robert Kaplan, Ella Matsumara and Mark Young (2012)

Management Accounting: Information for Decision Making and Strategy Execution, sections from Chapters 2 and 11.

Module Reader Hanne Nørreklit (2000) ‘The balance on the balanced scorecard – a critical

analysis of some of its assumptions’.



1.1 Introduction to Management Accounting In this module you will study management accounting in a variety of indus-

tries, contexts and countries. Before this, though, it is essential that you

understand what management accounting actually is, and what the manage-

ment accounting function means to an organisation.

The requirement for firms to produce and publish financial reports, regulated

by governmental agencies, is known as financial accounting. It is the account-

ing information that is produced for use internally by managers within an

organisation that is referred to as management accounting, and this is the

focus of this module.

The following reading provides a definition of management accounting, and

compares the characteristics of management accounting and financial ac-

counting.

Reading

Please turn to your textbook by Atkinson et al. and read pages 26 to 28, ending with the section ‘IN PRACTICE: Definition of Management Accounting’.

Make notes as you work through this reading, and be sure you understand the definition of management accounting and the attributes of both management accounting and financial accounting.

From the reading above, you should now have an understanding of manage-

ment accounting information, as well as what management accounting

actually is. The key difference between management accounting and financial

accounting is one of focus.

• Management accounting is focused on internal uses, such as producing information for use in cost budgets, labour hiring plans, and sales forecasts.

• Financial accounting is focused on external uses, such as producing information that meets the demands of tax authorities, and the information required by stock exchanges, lenders and shareholders on the assets and liabilities of a business.

The following reading considers these two accounting strands further.

Reading

Please turn to your Collier textbook, Chapter 1, and read the following three sections: ‘The role of financial accounting’, ‘The role of management accounting’, and ‘The relationship between financial accounting and management accounting’ (pages 7–10 and 12–14).

As you study these sections, make notes of the key differences between financial accounting and management accounting, paying attention to their objectives, organisa-tional functions and the actual information items produced.

From the above readings you should now have a good understanding of the

elements of financial accounting and management accounting, and of the

Anthony Atkinson, Robert Kaplan, Ella Matsumara and Mark Young (2012) Management Accounting, Chapter 2 ‘The Balanced Scorecard and Strategy Map’, sections cited.

Paul Collier (2015) Accounting for Managers, Chapter 1 ‘Introduction to Accounting’, sections cited.



similarities and differences between them. The following table provides a

useful summary. However, you may find it helpful to annotate this table

further and add some additional notes from your understanding of the earlier

readings.

Table 1.1 Management and Financial Accounting

As mentioned earlier, this module is concerned with management accounting.

However, it is useful to keep in mind the focus of management accounting,

and how it differs from financial accounting. One of the uses of management

accounting within an organisation is performance measurement – you should

recall this from the management accounting definition in the reading earlier

in this section. In the rest of this unit we are going to consider performance

measurement. Before we can do this, it is important for us to gain an under-

standing of organisational structure.

1.2 Centralisation and Decentralisation The way organisations are structured can affect organisational performance.

The degree of control over operations and operational reporting that is given

to managers may also create motivational and potential behavioural issues.

Management accounting can be looked at as a technology, or set of practices,

that influence and are influenced by the organisational structure that is

adopted. Two key ways an organisation may be structured are decentralised

and centralised. We will look at each of these in turn.

Centralisation

Centralisation occurs when decision-making is reserved for senior managers.

Typically, centralisation works effectively in organisations that enjoy stable

environments and technologies and where customer requirements are well

understood.

Management accounting Financial accounting

Also known as Management information Statutory accounts, financial statements, annual accounts, annual returns

Main users Internal users such as managers External users such as investors, lenders, suppliers, tax authorities

Information provided and format of this information

Decided by management to best suit the requirements of the business

Established by legislation and regulations

Detail provided Considerable detail Broad overview Reporting frequency As frequently as required: daily,

weekly, monthly Annual, and quarterly or half-yearly for large businesses

Time horizon Past and future periods (forecasts) Past periods (backward-looking) Audit and tax Not used for external audit or

taxation authorities. May be used for internal audit purposes

Often audited and used for tax calculations



Decentralisation

Decentralisation occurs when decision-making responsibility is delegated

from senior management to employees at lower levels of the organisation.

Decentralisation is effective for organisations in which:

• environments, technologies and customer requirements are constantly changing

• employees have the skills and knowledge to accept decision-making

• employees understand the organisation’s objectives so that they can make decisions that are consistent with those objectives.

Linked with decentralisation are responsibility centres, which are basically

sub parts of an organisation, or may be considered to be like a small business

within a larger organisation. The managers of the responsibility centres are

responsible for running their centre in the best interests of the larger organisa-

tion.

The next two readings introduce some of the key terminology in this area.

Reading

Please turn to your Collier textbook and read the section ‘Structure of business organiza-tions’ on pages 317–19. Please also turn to your Atkinson et al. textbook and read the section ‘The Motivation for Decentralization’ on pages 488–90.

Make notes on the following key terms, ensuring that you understand each term and the difference between them:

Responsibility centre Cost centres Profit centres Investment centres

You may also find it helpful to think through the following questions when making your notes on this reading:

What one additional element do investment centres have in comparison to profit centres? What one additional element do profit centres have in comparison to cost centres?

As you will have noted, the above reading distinguishes between cost centres,

profit centres, and investment centres.

• An investment centre is a responsibility centre whose employees control its revenues, costs, and the level of investment. The investment centre is essentially an independent business.

• A profit centre is a responsibility centre whose employees control revenues and costs but not the level of investment; central senior management usually controls the level of investment. Most outlets of fast food restaurant chains are profit centres. Numerous organisations evaluate units as profit centres even though the corporate office controls many aspects of their operations, so that the profit centre managers do not totally control revenues and costs. You will consider this control issue further in the next section (section 1.3).

Paul Collier (2015) Accounting for Managers, Chapter 15 ‘Performance Evaluation of Business Units’, sections cited.

Anthony Atkinson, Robert Kaplan, Ella Matsumara and Mark Young (2012) Management Accounting, Chapter 11 ‘Financial Control’, sections cited.



• A cost centre is a responsibility centre whose employees control its costs within budget limits.

You can see that each level of responsibility centre (going from cost to profit

to investment centre) includes an additional element of control. The use of a

decentralised organisational structure requires methods for measuring

performance of these divisions or responsibility centres. In the next section we

explore divisional performance in more detail.

1.3 Divisional Performance and the Controllability Construct In section 1.2 we introduced the concept of decentralisation. Before moving on

with this section, it is important to note that decentralisation and divisionali-

sation are different concepts:

• Decentralisation empowers managers of organisational branches and units with decision-making authority. Such authority can extend to cost management, capital investment management, or authority over both.

• Divisionalisation extends decentralisation, adding responsibility over revenue management – e.g. setting sales targets.

Now we are in a position to explore how organisations can measure the performance of their divisions. We will focus on three main methods: absolute profit, return on investment (ROI), and residual income (RI), looking at each in turn.

Absolute profit

Absolute profit compares the profit level achieved by a division in any one

period to its expected (or budgeted) performance level.

Return on investment (ROI)

Return on investment is the rate of return achieved on the capital employed

or invested. It is measured as:

ROI = (operating profit ÷ capital employed) × 100

For example, if a division’s operating profit is £400,000 and their capital

employed is £2,000,000, then the ROI can be calculated as:

ROI = (£400,000 ÷ £2,000,000) × 100 = 20%

A ROI of 20% means that for every £100 of capital invested by the division, a

return of £20 is made.

Residual income (RI)

Residual income is the profit that remains after being adjusted for the cost of

capital. Cost of capital is basically the cost that an organisation incurs to fund

all of its investments.

We have provided a very brief introduction to these three key performance

measures. The next reading provides further information on these measures,

and also considers the difference between decentralisation and divisionalisa-

tion.



Reading

Please now study Collier, Chapter 15, the section ‘The decentralized organization and divisional performance measurement’ on pages 320–23 (including the sub-sections ‘Absolute profit’, ‘Return on investment’ and ‘Residual income’) and the section ‘Compari-son of methods’ on page 326.

Make notes on the purposes for financial reporting at the divisional level, and ensure that you understand the ROI and RI examples.

When applying any of these three performance measures (absolute profit, ROI

and RI) it is useful to keep in mind the overall purpose in terms of trying to

evaluate the performance of the business unit and its managers.

It may be helpful to go through the example from the above reading to

reinforce your understanding. We will focus on Division A.

Division A has:

• €1,000,000 of depreciated capital assets (which might consist of productive property, plant and equipment).

• €200,000 operating profit in one reporting period (usually a financial year)

To calculate residual income, a charge is taken from Division A’s operating

profit in the form of a percentage of Division A’s capital assets. This percent-

age represents the cost of capital for the entire organisation, in this example.

The cost of capital is determined as the cost of accessing debt (such as obtain-

ing bank loans and issuing debentures) and the cost of issuing equity share

securities. For this module you do not need to know the detail of calculating

the cost of capital, but you do need to know how to apply it in this context. In

this example the cost of capital is given as 17.5% (per annum).

Therefore the calculation would be the cost of capital multiplied by the capital

assets:

17.5% × €1,000,000 = €175,000.

This €175,000 is then deducted from the operating profit of €200,000 to give

the residual income:

RI = €200,000 − €175,000 = €25,000.

We can compare the RI of €25,000 for Division A with the RI of €50,000 for

Division B. Division B made a higher operating profit than Division A, but the

RI for Division B is lower than the RI for Division A. In fact RI for Division B

is reported as a loss. We can explain this by observing that Division B had a

greater level of capital invested. This example illustrates how the three

measures highlight different aspects of performance.

You will return to use the cost of capital later in the module (Unit 7) when

you study capital investment.

Please answer the following exercise to reinforce and test your understanding

of calculating ROI and RI.




Exercise

Please turn to your Collier textbook and attempt Questions 15.1 and 15.2 on page 332.

You will find the answers to these questions towards the back of your Collier

textbook on page 493, but please attempt the questions yourself before you

check your answers.

In this section you have studied the three performance measures of absolute

profit, ROI and RI. However, in using these measures – or any means of

performance assessment – it is essential that the managers of a business unit

or division are only held accountable or responsible for those items that are

within their control. For example, should a manager of a cost centre be

assessed on capital investment decisions? (You might find it helpful to think

back to the different types of responsibility centres.) This question forces us to

examine the issue of controllability.

Reading

Please turn to your Collier textbook and read the section ‘Controllability’ on pages 323–24.

Make notes on the principle of controllability and controllable profit, and ensure that you understand the importance and implications of these concepts.

Divisional ‘controllable profit’ explained in the above reading provides a

solution to the problem of controllability and performance measurement for

divisional managers. This new measure of divisional profit requires the

identification of overhead costs that divisional managers can control. These

controllable overhead costs are deducted from divisional contribution, pro-

ducing controllable profit at the divisional level. This divisional controllable

profit figure can then be used to evaluate divisional performance using any of

the three performance measures you looked at earlier in the unit: namely

absolute profit, ROI or RI.

Now please try the following exercise which demonstrates why a divisional

manager’s performance assessment may have implications for the company

as a whole.

Exercise

Please turn to your Collier textbook and attempt Question 15.3 on page 332.

You will find the answer to this question towards the back of your Collier

textbook on pages 493–94.

Using the ROI, the Green Division would not want to accept the investment

because it would reduce its ROI. However, it would be financially beneficial

for the Company as a whole because the return is above the cost of capital (or

the cost of the investment). This shows the complex nature of divisional

performance measurement, and indeed the decisions made by divisional

managers.




The performance measures (absolute profit, ROI and RI) you have studied so

far in relation to the performance of divisions or business units have been

financially focussed. Undoubtedly financial measures provide important

information. However, financial performance is not the whole story and it is

important that organisations also assess their non-financial performance. In

the following section you will consider one method that incorporates both

financial and non-financial performance measures – the balanced scorecard. The

balanced scorecard may be used at the division, department or company

level.

1.4 Balanced Scorecard As mentioned above, purely financial measures are useful in understanding

performance, but they do not provide a complete picture, and other factors

are also critical to the success of a business. However, managers tend to focus

most on financial measures, mainly because they are the easiest to calculate.

One method used by organisations to combine financial and non-financial

measures is the balanced scorecard, developed by Robert Kaplan, one of the

authors of your textbook, Management Accounting.

Balanced scorecards are often represented in a 2 2 grid, as demonstrated in

Table 1.2, with performance measures considered across four areas. The idea

of the grid arrangement is that the four corners are ‘balanced’ in terms of

importance.

Table 1.2 Balanced scorecard

Financial measures

Customer/client measures

Internal business process measures

Learning and growth measures

For organisations applying the balanced scorecard in practice, the four per-

spectives may be tailored to make them more relevant to the individual

organisation. In many organisations that use balanced scorecards, the perfor-

mance rubrics chosen reflect the organisation’s profile, mission and specific

objectives.

Example

Arup is a leading international engineering group that is very dependent on

their professional staff and the organisation’s design skills.

Arup has applied the following four perspectives in their own balanced

scorecard:

• Financial measures

• Customer/client measures

• Design process measures

• Staff measures



You can see that Arup has modified the ‘Internal business process measures’

in the standard balanced scorecard (and illustrated in Table 1.2 above) to

‘Design process measures’ as this is more relevant to their business. Further-

more ‘Learning and growth measures’ has been modified to ‘Staff measures’.

Exercise

Try to find out if your own organisation, or an organisation you are interested in, uses the balanced scorecard.

If it does, what perspectives, objectives and measures have been included in the balanced scorecard?

And if it does not, is there a reason why?

There is no one correct answer to this exercise, because the answers will

depend on your chosen organisation. However, it is interesting to see how the

theory relating to tools like this are adopted in practice, and the tools are often

easier to understand if they are considered in relation to an organisation with

which you are familiar. Later in this unit (Section 1.5) you will look at the

balanced scorecard for a case study organisation.

The following readings provide more insight into the use of the balanced

scorecard.

Readings

Collier Chapter 4, ‘Non-financial performance measurement’ (pages 58–64)

Atkinson et al. Chapter 2, ‘The Balanced Scorecard’ (pages 43–47)

Make notes as you study these readings, particularly noting the link with organisa-tional strategy and the fundamental questions that the four perspectives of the balanced scorecard address.

Also, take note of the example objectives and performance measures that may be included across the four perspectives.

As you will have noted, the balanced scorecard is strongly linked to an

organisation’s strategy. Indeed, an organisation’s strategy, mission and vision

should be the starting point from which the four perspectives are derived.

Within each of the four perspectives, objectives and performance measures

should be compiled which consequently provide a balanced perspective for

performance measurement for the organisation or division. However, it is

important that the number of performance measures in each perspective (and

in total) are limited. Kaplan and Norton (referenced in the reading from

Chapter 4 in your Collier textbook) suggest three or four measures in each

perspective, giving a total of between 12 and 16 overall.

As with many theories and tools, there are criticisms of the balanced score-

card. The following reading explores some of these criticisms, by focusing in

particular on the underlying assumptions of the balanced scorecard.

Paul Collier (2015) Accounting for Managers, Chapter 4 ‘Management Control, Accounting and its Rational-Economic Assumptions’, and Anthony Atkinson, Robert Kaplan, Ella Matsumara and Mark Young (2012) Management Accounting, Chapter 2 ‘The Balanced Scorecard and Strategy Map’, sections cited.Please turn to your two textbooks and read the following sections.



Readings

Please turn to your Module Reader and study the article titled ‘The balance on the bal-anced scorecard – a critical analysis of some of its assumptions’ by Nørreklit.

Make notes as you work through this reading and in particular consider the following issues:

Cause and effect relationship

What is assumed by the balanced scorecard? What are the criticisms of this? How is the balanced scorecard different to other approaches? Is a time lag present in the balanced scorecard? Why is this time dimension an issue? Are the measures on the balanced scorecard linked? How does the empirical research support or contradict the relationships proposed within the balanced scorecard?

Strategic Control Model

How does the balanced scorecard relate to stakeholders and the organisation’s exter-nal environment, such as technological developments? How does the balanced scorecard relate to managers and employees? What are the arguments for or against the relationships assumed within the balanced scorecard?

This is a lengthy journal article. However, it provides a useful insight into

some of the criticisms of the balanced scorecard. This is beneficial for several

reasons. Firstly, it gives you a fuller understanding of the balanced scorecard.

It is important to recognise within your studies that models or techniques are

not faultless, and will usually have both supporters and critics. Secondly, this

article provides a good example from a referenced academic journal of the

sort of reading you should be referring to during your studies, and in particu-

lar to support the writing of your assignments for this module.

Although it is not necessary to have a detailed answer to each of the above

questions, it is important to have an insight into some of the criticisms of the

balanced scorecard’s underlying assumptions.

The following section considers the development and use of the balanced

scorecard within a case study.

1.5 Case Study You will now look at a case study in your Atkinson et al. textbook which

examines the development of the balanced scorecard by an example compa-

ny. This case study builds on your analysis of the balanced scorecard earlier

in this unit, and provides greater insight into the performance measures that a

company may develop for each of the four perspectives.

Hanne Nørreklit (2000) ‘The balance on the balanced scorecard – a critical analysis of some of its assumptions’ reprinted in the Module Reader from Management Accounting Research.



Reading

The details of the case, Pioneer Petroleum, are in Chapter 2 of your textbook by Atkinson et al. Please read the section ‘Strategy Map and Balanced Scorecard at Pioneer Petroleum’ on pages 60–66.

As you study this case, try to answer the following questions:

1 What four perspectives did Pioneer Petroleum (PP) include in their balanced score-card?

2 Discuss the objectives and performance measures that PP include in their balanced scorecard for each perspective. Consider how these objectives and measures relate to the company’s strategy and how the company identified and chose them.

3 How does the PP balanced scorecard compare to the theory studied earlier in this unit?

Feedback on Case Study

This section provides suggested answers to the questions raised in section 1.5.

However, please ensure that you answer the questions yourself before read-

ing on.

1 What four perspectives did Pioneer Petroleum (PP) include in their balanced scorecard?

PP applied the standard four perspectives of financial, customer, process and

learning and growth.

2 Discuss the objectives and performance measures that PP include in their balanced scorecard for each perspective, including how these relate to the company’s busi-ness.

Within the Financial perspective:

• Increase return on capital employed to 12% through improved productivity (cost reduction and asset intensity) and growth (volume and non-gasoline sales).

• The growth theme was strongly linked to a customer-driven strategy associated with convenience sales.

• Volume growth was defined in relation to the industry growth rate and the percentage of volume in premium grades. This objective was therefore also linked to the company’s strategy of trying to increase their proportion of sales of premium product grades.

• A total of five objectives and seven measures were included for this perspective.

Within the Customer perspective:

• Success on this was measured by its market share among specific segments which linked clearly with the company’s strategy.

• Measures included fulfilling the customer value propositions for these segments and strengthening dealer and distributor relationships.

• PP undertook considerable research to identify the elements of performance measure for this perspective.

Anthony Atkinson, Robert Kaplan, Ella Matsumara and Mark Young (2012) Management Accounting, Chapter 2 ‘The Balanced Scorecard and Strategy Map’, sections cited.



• A total of two objectives and four measures were included for this perspective.

The Process perspective involved:

• Strategic objectives developed in each of the four process themes for the company

• A total of eight objectives were included for this perspective (you will notice this is quite high in comparison to the 12 to 16 suggested by Kaplan and Norton for the balanced scorecard as a whole).

• The objectives/measures supported PP’s differentiated strategy with consumers and dealers, its financial objectives for cost reduction and productivity, and its social responsibilities.

• A total of eight objectives and twelve measures were included for this perspective.

And in the Learning and Growth perspective:

• A motivated and prepared workforce was the foundation strategy for this perspective.

• Objectives were developed across three areas: develop core competences and skills; provide access to strategic information; and to engage and empower employees.

• A total of three objectives and three measures were included for this perspective.

3 How does the PP balanced scorecard compare to the theory studied earlier in this unit?

The balanced scorecard developed by PP adopted the standard four perspec-

tives initially proposed by Kaplan and Norton.

A total of 18 objectives and 26 measures were included in the balanced

scorecard across the four perspectives. This is greater than the 12–16 recom-

mended by Kaplan and Norton. One of the aims of the balanced scorecard is

to limit the number of performance measures by prioritisation. However, it is

clear that PP have developed the measures from the company’s strategy.

The above answers are brief and indicative, and it is expected that your notes

will be more detailed. However, the most important aspect is that the case

study reinforces your understanding of this material, by demonstrating how

an example company has developed a balanced scorecard. You should be

aware of what the balanced scorecard approach is intended to achieve, how

companies can adapt the method to suit their own strategies, and the extent to

which the way the scorecard is being used will influence the potential ad-

vantages and disadvantages of this method.

1.6 Summary This unit has helped set the scene for your study of the rest of the module, by

introducing you to what management accounting actually is and the infor-

mation it should comprise. One of the elements of management accounting is

performance measurement, and this unit has explored various ways to

measure financial and non-financial performance at both the divisional and



organisation level. You should now understand the measures of absolute

profit, return on investment (ROI) and residual income (RI), as well as the

balanced scorecard.

The readings, practice questions and case study demonstrated the use of both

theory and examples to support your learning. You should now be ready to

move on to Unit 2, where you will study an important aspect of management

accounting: pricing.

References Atkinson Anthony, Robert Kaplan, Ella Matsumara and Mark Young (2012)

Management Accounting: Information for Decision Making and Strategy Execution,

Sixth Edition, Harlow Essex UK: Pearson Education Limited.

Collier Paul (2015) Accounting for Managers: Interpreting Accounting Information for Decision Making, Fifth Edition, Chichester UK: John Wiley & Sons.

Nørreklit Hanne (2000) ‘The balance on the balanced scorecard – a critical

analysis of some of its assumptions’, Management Accounting Research, 11, pp.

65–88.

management accounting · inventory costing. in particular, job costing and process costing will be...

Documents