Indicate the main purposes of management accounting and its relevance to the management of organisations.
Evaluate the main cost structures of organisations and methods of their calculation.
Determine appropriate methods of calculating break-even, profitability and capital input costs.
The businesses are growing up now days without having any geographical limitation and hence the number of the transaction and its complexity has been increased. In such a competitive environment it is very necessary that the management of the company can access the relevant data for different type of requirement at single request. Such real time access of information can help the management to take the informed decision in day to day business and also for taking some strategic decision. The below reports analyze the importance of the management accounting in VPM Fertilizer Inc , operating in manufacturing of Organic and inorganic chemical manufacturing. The management accounting helps to analyze data in a user requirement format and helps to control cost and management processes.
Management Accounting – Impotence and relevance
It is to be noted that every organization record the transaction on regular basis of its economic transaction. However, it is very necessary that such data are presented and prepared in such a manner that helps the decision taker for taking informed decision. Management accounting helps in generating the periodic reports to different users as per their requirement based on the financial data inputted as source. Such reports can be daily, weekly, monthly, quarterly or yearly. If we take example for the VMP Fertilizer Inc, the management accounting helps to generate reports for input output ratio for each batches processed for manufacturing of Calcium Nitrate chemical. Such reports are delivered to the Process manager after completion of each batch and are compared with standard input output ratio determines by the management. Same help to report any deviation in the input-output ratio.
Following are the major benefit of the management accounting
The data are kept in organized manner with real time access
It helps the manager to take the timely and informed decision
The decision taken on such data are generally accepted by the management
The organization can have standard date across the department
Helps inn controlling the cost by comparing the actual result by management report Vs. the budget expectation
Also one need to note that there is a difference between the Management Accounting and Financial accounting which is sated below
Management accounting’s main purpose is to support as a tool to take the informed decision within the organization , on other hand financial accounting’s main purpose is to report the end result for particular period
The Management Accounting is generally implemented for the benefit within the organization and for management purpose , however the users of the financial data are both within the organization and outside the organization like stakeholders
The reporting in the Management accounting are customized according to the management requires and hence it is flexible , on the other hand financial accounting reports are generally governed by the status or reporting laws, IFRS or GAAP
Management accounting takes into consideration both past data as well as the future projection based on past data ,in the Financial accounting it represent only past data
The Management accounting have varied type of users and hence each report have different format and different users , on the other hand the financial accounting reports remains uniform irrespective of the fact that I can have different users.
(Fse.tibiscus, 2016), (Megha M, n.d.)
In such competitive environment control over the cost is very necessary. The cost can be classified as Relevant cost, Behavior cost and function based cost.
The discussion cost based on relevance
Opportunity cost
Opportunity cost is defined as cost arises due to not accepting second best alternative for decision making. The opportunity cost is very much important particularly in Capital Budgeting decision. For a example If the VMP Fertilizer Inc invest 1, 00,000 Pound in this business and the interest rate for deposited in banks is 4% , The interest revenue that can be arose by investing in 1,00,000 in bank can be consider as cost only. The cost is not actual cost but is very relevant for raking the investment decision.
(Putra D.2016)
Suck Cost
Such cost is nothing but the cost which is incurred and on which the company does not have any control over it. Such cost is not relevant for taking any future investment decision. For an example the Pressure Vessel purchased by the VMP Fertilizer Inc as a fixed asset is consider as sunk cost only
Differential Cost
Differential cost is nothing but the difference of cost between two available courses of alternatives. It is to be noted that each alternative has different cost which can be low or high as compared to other alternative. Differential cost helps in considering the exact difference in cost that arises due to selection of particular alternative. For an example if the VMP Fertilizer wants to replace the existing pressure Vessel Machine than it will save the 1000 Pound of maintenance every year. Such saving of cost can be considered as incremental cost for opting exiting machine only.
(Putra D.2016)
Discussion of cost based on Behavior
The cost can fix Variable or Semi variable
Fixed costs are those cost which does not change according to change in level of activity. Such fixed cost is bound to be incurred whether any activity carried on by the business or no. For an example the Rent expense for Shed which is abide by the rent agreement for next 5 years. Such rent expense is considered as fixed cost. On other hand variable cost are those cost which varies with the change in level of activity, variable cost are very important to take any business decision. Variable cost does not incur, if the activity level of particular cost driver is zero. For an example the Raw material cost for manufacturing of the Calcium Carbonate can be consider as variable cost for the VMP Fertilizers Inc .
As far as Semi variable cost is concern they are of mixed behavior. Such cost is remains fixed for certain level of activity, after that again same cost needs to be incurred to support the activity. For as example the Moulds purchased to preserve the chemical, need to be replaced after certain period of consumption as per user guidelines, such cost of consumables can be consider as a variable cost
Classification of the cost by function
The cost also can be classified based on the function. The product cost and period cost are the major cost based on functionality.
Period cost
Period cost is those cost which are incurred other than for manufacturing activity. The cost incurred to promote the product (Marketing cost), the cost of administration. Such cost are generally in nature of Overheads and not traceable for particular product among many.
(Swanson L, n.d)
Product cost
Product costs are those cost which are incurred in the manufacturing of the product. Such cost can either be fixed or variable or Semi variable. The Direct Material cost, Direct Labor cost and manufacturing Overheads are the major product cost.
Variance Analysis
Variance analysis helps in comparing the actual results of the organization as against the budgeted activity. The variance analysis is considered as one of the major tool to charge control over cost and to take the appropriate action if result out below expected performance. Also it helps in identifying areas that play major roles for non achievement of the targeted profit.
There are different types of variance which are discussed as below:
Profit Variance
The profit variance is nothing but the variance arises in the targeted profit. Such variance can be derived by comparing actual profit against the targeted profit.
Sales Variance
The Sales variance helps in identifying the variance in profit that arises due to variance in the sales. Such variance can be either due to variance in volume or sales price of the product
Price variance = (Actual unit price x Actual Units sold) – (Standard Unit price x
Actual Units sold)
The above formula helps in identifying the variation in the profit due to variation in the sales price of the Unit. The favorable outcome indicates that the organization has sold the unit above the targeted selling price. On the other hand the negative outcomes indicate that organization has gone for lower price. (Accounting-simplified.com, n.d)
Volume variance = (Actual Unit Sold Standard Profit) – (Budgeted Units Sold x
Standard Profit)
The above variance helps in identifying the variance of profit arises due to the variance in the targeted sale volume. The favorable result indicates that the company has sold unit above the target and vice versa.
Material Variance
It is to be noted that for any organization material cost is one of the major cost of total production cost and hence the strong control over it necessary which can be derived by variance analysis only. (Accounting-simplified.com, n.d)
Material Price Variance = (Actual Price x Actual Quantity) – (Standard Price
Actual Quantity)
The material price variances help in identifying the variance in the cost that arises due to variance in the price of purchasing the raw material. The Favorable result indicates that that the purchase manager has purchased the material below the target price and negative result indicates that manager has purchased material above the targeted purchase price.
Material Usage Variance = (Actual quantity Standard price) – (Standard Quantity x
Standard price)
The material usage variance helps in identifying the variance in the material cost that arises die to variance in the consumption unit of raw material for particular product. If the outcome is favorable that I indicate that the material is used efficiently and if negative result comes than it indicates that the process manager has failed to control the input output ration against the standard ratio compared by the organization. (Accounting-simplified.com, n.d)
Labor Variance
The Labor cost is second most importance element of cost for manufacturing unit and hence it is very necessary that the actual cost is compared, analyzed and reported against the targeted the Labor cost.
Rate Variance = (Actual Rate x Actual Hours) – (Standard Rate x Actual Hours)
It is to be noted that one of the reason for variance is labor cost is the variance in the labor rate against the targeted pay rate. The favorable result indicates that the rate has been paid lower against the targeted rate pay. In case of negative result, it can be said that the payment to labors are made higher than expected.
Labour Efficiency Variance = (Actual hours x Standard Rate) – (Standard hours x Standard Rate)
The above variances help in identifying the variance in the labor cost due to variance in the targeted efficiency of the labor. If the outcome of the above formula is positive, It indicates that the labors have worked above the targeted efficiency level and vice versa.
Overhead variance
This variance helps in identifying the variance between the standard overhead as against the actual overhead expense. It helps in controlling and analyzing the operational efficiency and capacity utilization efficiency.
Limitations
The technique of variance analysis has certain limitation which is as follow:
The variance analysis can efficiently be uses in manufacturing industry only
It is not helpful in the production foe which no benchmark of standards is available
The process of setting standard may be not correct in some case, and hence the whole variance analysis can lead to wrong result
The variance analysis requires the management to keep up to date data of manufacturing, which is itself a challenging task.
The manager can manipulate the budget to just make their performance better there by affecting the overall efficiency.
Operational Budget
Operational budget is nothing but projection of various budgets for definite time of span for various department of the organization. There are different types of operational budget which are described below:
At this level of budget all the budgeted related to sales and expenditure are got consolidated and budgeted profit figures are arrived
This budget requires projecting the number of unit that need to be produce for particular period to meet the requirement of the sales.
This budget requires projecting the amount of raw material to be purchased to produce the targeted production unit as determined in production budget. Here sales price and quantity both are determined
This budget requires projecting the requirement of the case for different department for particular period.
The direct labor budget requires the projection of the number of labor hours requires for different category of labor to support the production of the targeted unit
The revenue budget indicates the projected sales unit and projected sales price based on the market analysis. The revenue budget become base for all above budget.
Importance
The budget helps the manager in tracking and monitoring the cost and revenue and thereby help in optimizing the profit
It gives the benchmarks to be followed by the different department which becomes the base for motivation for the employee
It fixed the accountability and responsibility on employees for the particular budget or department
It helps as controlling tool against the actual performance and hence producer the base control activity
Recommendation& Conclusion
It is to be noted that management accounting is process of reporting budget analysis, variance analysis, cost analysis and many more. However on need to know that the whole management accounting process is nothing but analysis of the data in particular manner and hence it is recommended that the reliability of the source date ensured before carrying out any management accounting reporting. The support from top management requires having a correct result of the management accounting. The management accounting should form part of strategic decision as it helps as best controlling tool for organizational performance analysis. The VMP Fertizers Inc can implement Budget reporting, Cost component reporting and variance reporting in its management system which can help them in controlling different type of activity at different level.
References
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Fabozzi, F. and Drake, P. 2009. Capital Markets, Financial Management and Investment Management. New Jersey: John Wiley & Sons,p.244-279
Reilly,F. and Brown,K. 2012. Investment Analysis and Portfolio Management. Texas: Reilly & Brown,p.315-390
Sunarni C, 2016. Management Accounting Practices and the Role of Management Accountant: Evidence from Manufacturing Companies throughout Yogyakarta, Indonesia, [online] Available at: https://sibresearch.org/uploads/2/7/9/9/2799227/riber_b13-243_616-626.pdf [Accessed 26 Mar. 2016].
Megha M, n.d. Differences between Financial Accounting and Management accounting, [Online], Available at: https://keydifferences.com/difference-between-financial-accounting-and-management-accounting.html, [Accessed date: March 27, 2016]
accountingexplained.com, n.d. Cost and Cost Classifications, [Online], Available at: https://accountingexplained.com/managerial/costs/, [Accessed date: March 27, 2016]
DeBenedetti J, 2016. Types of Costs in Management Accounting, [Online], Available at: https://smallbusiness.chron.com/types-costs-management-accounting-80540.html,[Accessed date: March 27, 2016]
Hunter R, 2010. Types of Costs in Managerial Accounting, [Online], Available at: https://www.brighthub.com/office/finance/articles/72933.aspx, [Accessed date: March 27, 2016]
Swanson L, n.d. Managerial Accounting and Cost Classification, [Online], Available at:https://ww2.nscc.edu/swanson_l/ACCT1020/Presentations/Ch%2018%20Managerial%20Accounting.pdf, [Accessed date: March 27, 2016]
Accounting-simplified.com, n.d. Variance Analysis, [Online], Available at, [Accessed date: March 27, 2016]
Microbuspub.com,2016. Classification of Manufacturing Costs and Expenses, [online] Available at: https://www.microbuspub.com/pdfs/chapter4.pdf [Accessed 26 Mar. 2016].
Ram,V and Bala,S. 2012. Strategic Financial Management. Chennai: Snow white prime knowledge series, p266-298.
Putra D.2016. [online]. Cost Classifications [All Types]
,Available at: https://accounting-financial-tax.com/2009/10/cost-classifications-all-types/ [Accessed 26 Mar. 2016].
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