Management Accounting Concepts and Techniques for Decision Makers

Management Accounting Concepts and Techniques for Decision Makers

Table of Contents

Introduction

Management accounting is one of the key factors that are helping business entities throughout the world in achieving success, financial stability, managing competitors and measuring performance. It also helps businesses in various ways such as dealing with the complexities within the business environment, which in turn is helping them to achieve sustainability and gaining competitive edge. This report conducts an in-depth discussion and evaluation of management accounting along with its various aspects in the context of a firm named Connect Catering Services. The firm Connect Catering Services is a family owned business, which is also managed by family members (connectcatering.co.uk, 2021). Founded in 1989, the firm is currently based in Oxfordshire of South East England and produces various specially made fresh food items (connectcatering.co.uk, 2021). In this report, management accounting reports, systems and techniques along with planning tools that Connect Catering Services can use will be discussed. Besides this, recommendations will be provided to the firm for solving financial problems through comparing how management accounting helps two large organisations in their financial problem solving.

Task 1

Explanation of some of the management accounting systems and their essential requirements and some of the reports used in management accounting

The field of accountancy comprises of various sorts of divisions and branches within which management accounting is a main one. One can be defining management accounting as the procedure, which organisations adapt for identification, accumulation, measurement and preparation together with communication and analysis of their financial information and performance (Horngren et al., 2013). Management accounting records and communicates the financial information regarding a firm to plan organisational activities, analyse them effectively followed by maintenance of control over their operations. The main objectives with which management accounting is used within organisations is listed underneath -

• To ensure effective planning of operations of a firm

• To achieve efficient and strong performance measurement within companies

• To maintain control on different unfavourable variances and excessive spending

• To attain effectiveness in decision-making

However, each of these objectives is fulfilled within organisation due to management accounting systems. The below is an evaluation of the four major management accounting systems used within businesses worldwide -

• Cost accounting systems - These are the internally used systems in a firm, which are concerned with conducting a detailed evaluation of manufacturing costs incurred within them while assessing other organisational costs (Drury, 2015). In Connect Catering Services, cost accounting systems can be used so that manufacturing costs can be calculated effectively while profits are analysed, inventories are measured and marketing decisions are made. Essential requirements of the system comprise of the need to adopt absorption costing, marginal costing, standard costing, historical costing and such other methods useful for cost accumulation and input cost measurement.

• Price optimising systems - One can elucidate price-optimising systems as a firm’s internal systems that are developed so that products and services are priced effectively (Edmonds and Olds, 2013). In Connect Catering Services, these systems can be used so that the price of goods and services can be set effectively while revenues and profits of a company are improved efficiently. Essential requirements of the system comprise of the requirements for evaluating different kinds of historical information relating to availability of products, variable and fixed costs, competitors’ pricing and other related factors.

• Job costing systems - The job costing systems can be explained as the internal systems of a firm that are used for the measurement of job costs and making appropriate job decisions (Seal et al., 2013). In Connect Catering Services, these systems can be beneficial for the maintenance of efficient job performance followed by ensuring suitable job decisions and job profitability. Essential requirements of the system comprise of detailed evaluation of materials and labour costs on different jobs, the abilities of forecasting profitability of jobs followed by analysing timely and factual job information.

• Inventory management systems - Internal systems within companies, which are utilised for evaluating the items held as stock or inventory followed by their tracking, control and measurement is called the inventory management system (Song et al., 2020). In Connect Catering Services, these systems can be used for managing inventories so that inventory shortage is avoided, availability of inventories is maintained and all orders are timely delivered. Essential requirements of the system comprise of the need to adapt appropriate inventory software as well as hardware along with inventory techniques including LIFO, EOQ, ROP and FIFO.

Followed by management accounting systems, the management accounting reports also help companies in different ways. Management accounting facilitates a firm in the development of various sorts of internal reports, which are referred to as management accounting reporting. In the below discussion, there is an evaluation made on three major methods used for management accounting reporting purposes -

• Accounts receivable aging reports - This report is an internally developed report in a firm that is created so that its unpaid invoice balances are recorded depending on their outstanding period (Frankel et al., 2020). Accounts receivable aging reports help firms in the evaluation of which invoices within them are open along with allowing them in identifying and focusing upon their slow paying customers. In Connect Catering Services, these reports can be developed for ascertaining a control over bad debts followed by accelerating the debt collection from customers and strengthening credit-giving policies.

• Departmental reports - According to Chiucchi et al. (2018), the simplest way in which departmental reports can be defined is that these are the internal reports prepared in a firm to record departmental performance. Such reporting methods provide an account of the financial details of a company’s departments along with discussing the proposals or estimates of its production outcomes. In Connect Catering Services, departmental reports are prepared for the analysis of departmental performances, the success of their performance along with their failures so that departmental efficiencies can be achieved.

• Budget reports - One of the most common forms of internal reports developed within companies, which compare a firm’s actual results relative to the results mentioned under pre-established budgets (Parushina et al., 2020). It comprises of all accounts, which have activities within the data range for either expenditure account or revenue account. In Connect Catering Services, budget reports can be created so that bottlenecks can be reviewed, all unnecessary spending areas can be removed while unfavourable budget variances can be controlled.

Task 2

Calculate costs and prepare an Income Statement using Marginal and Absorption Costing techniques

In an organisational context, the types of costs and expenses incurred for manufacturing and operational purposes are of different types. There is considerable assistance provided by management accounting in the analysis of costs spent within an organisation. For instance, the two key techniques adopted within businesses for cost analysis from the management accounting field include absorption costing and marginal costing (Tabitha and Oluyinka, 2016). Absorption costing is a largely used technique in which manufacturing costs of a company are measured and analysed by considering both fixed costs and variable costs as a part of manufacturing cost (Moisello and Mella, 2020). However, marginal costing refers to the technique that companies use for calculation manufacturing costs in which fixed costs are treated as periodical costs but variable costs are treated as cost of production (Pagare, 2020). An application of both the techniques is shown below for Connect Catering Services -

Calculating the per unit manufacturing costs of the company Connect Catering Services considering marginal costing principles

Variable manufacturing costs:

April = £4 per unit

May = £4 per unit

Therefore,

Manufacturing costs per unit = £4 per unit

Calculating the per unit manufacturing costs of the company Connect Catering Services considering marginal costing principles

Variable manufacturing costs:

April = £4 per unit

May = £4 per unit

Fixed manufacturing costs:

April = £15000 / 2500 units = £6 per unit

May = £15000 / 3000 units = £5 per unit

Therefore,

Manufacturing costs per unit:

April = £4 + £6 = £10

May = £4 + £5 = £11

Based on the costs calculated above, the following are the income statements prepared for Connect Catering Services under the two techniques -

Statement of income of Connect Catering Services

For the months of April and May

Considering marginal costing principles

Table 1: Income statement considering marginal costing principles

Working notes:

(1) Revenues achieved from sale of cakes:

April = 8 per unit × 2000 units = 16000

May = 8 per unit × 2000 units = 16000

(2) Opening stock or inventories:

April = 4 per unit × 0 units = 0

May = 4 per unit × 500 units = 2000

(3) Closing stock or inventories:

April = 4 per unit × 500 units = 2000

May = 4 per unit × 1000 units = 4000

Statement of income of Connect Catering Services

For the months of April and May

Considering absorption costing principles

Table 2: Income statement considering absorption costing principles

Working notes:

(1) Revenues achieved from sale of cakes:

April = 8 per unit × 2000 units = 16000

May = 8 per unit × 2000 units = 16000

(2) Opening stock or inventories:

April = 10 per unit × 0 units = 0

May = 9 per unit × 500 units = 4500

(3) Closing stock or inventories:

April = 10 per unit × 500 units = 10000

May = 9 per unit × 1000 units = 9000

(4) Adjustment for over absorption or under absorption of fixed manufacturing overheads

Fixed manufacturing overheads in April = 15000 for 2500 units

However, fixed manufacturing overheads in May = 15000 for 3000 units

Hence,

Fixed manufacturing overheads that should have been absorbed during May = 15000 / 2500 × 3000 = 18000

As a result,

Under absorption of overheads = 18000 - 15000 = 3000

Interpretation

The computation as well as the preparation of income statements for the firm Connect Catering Services in the above section help in deriving that both the techniques show negative profit figures. This is a reflection that the firm has had a net loss from operations and not net profit. However, even though losses have been attained under the two techniques, the figure of loss determined under the two techniques differs from one another. It is because fixed costs have been treated differently in the two techniques. Marginal costing has not absorbed any of the fixed manufacturing overheads and has directly written them off as fixed costs. However, absorption costing has absorbed fixed manufacturing overheads and considered them as manufacturing cost. Due to this, absorption costing shows a better figure as compared to that of marginal costing. Therefore, as better profit figures can be achieved in absorption costing, Connect Catering Services is suggested on adapting this method even though marginal costing is an easier method.

Task 3

Explanation of the advantages and disadvantages of different types of planning tools for budgetary control

The financial performance of a firm is controlled in several ways such as budgetary control. One can define budgetary control as the technique or process that companies use upcoming periods for comparing actual performance of companies with the budgeted performances so that underlying variances are determined (Lambovska et al., 2019). However, budgetary control can be achieved in a firm only when planning tools adopted are efficient. The below is a discussion on three chief planning tools from management accounting that is used in companies for budgetary control -

• Zero-based budgets - As defined by Ibrahim (2019), one can define a zero-based budget as the tool for planning in which costs and expenses of a company are budgeted through justification of costs and expenses for each new period. It begins the budgeting process in a company through considering the base as zero and forecasting costs as per the current needs and costs. In Connect Catering Services, zero-based budgets can be used so that resources can be allocated efficiently and transparency can be maintained over costs.

Benefits and drawbacks:

The biggest advantage of a zero-based budget is that it helps companies in finding out the several sorts of obsolete and inefficient operations existing within a firm. It helps in discontinuity of such operations as well. Another advantage of the tool is that it efficiently responses to the changes occurring in the business environment, which in turn leads to optimal resource allocation. However, drawbacks of the tool include that it is highly detrimental towards the long-term goals and objectives of a firm instead of emphasising over short-term goals. Besides this, in a zero-based budget, management skills need being present within employees for using this tool efficiently.

• Flexible budgets - Also called variable budgets, flexible budgets refer to the budgeting techniques used within businesses in which any type of change undergone within volumes or activities are adjusted to budgets (Arnold and Artz, 2019). This tool adjusts the several changes occurring within the activity levels of a firm without being rigid throughout a budgeting period. In Connect Catering Services, flexible budgets can be used so that a track can be maintained on the various areas of spending during every month. It can also be used for making changes to the budget as and when required.

Benefits and drawbacks:

The chief advantage of this planning tool is that it comprises of the capacity of integrating the effects of different types of changes occurring in a firm’s activity levels. Another benefit of flexible budgets is that these tools improve the revenues earned within a firm by management of changes taking place in seasonal variations and activities. However, the main limitation of this budget is that it turns out being reactive towards the costs spent within a firm while failing in being prognostic towards them. Besides this, flexible budgets have the drawback of lacking the capacity of responding towards the rapid changes occurring within production volumes and activities.

• Porter’s five forces - The Porter’s five forces is a long-term planning tool unlike the two above in which a detailed evaluation is made on its competitive environment (Varelas and Georgopoulos, 2017). It assists companies in evaluating the various forces that build up the competitive rivalry existing within a specific industry. In Connect Catering Services, zero-based budgets can be used for planning its strategies and measures for tackling competitors through evaluating the competitive rivalry within the food industry.

Benefits and drawbacks:

Advantage of Porter’s five forces is that it assists businesses to identify the areas in which power lies in a specific situation within a firm. It also helps them in evaluating the strengths of their present competitive position while planning and evaluating the position that it aims to achieve. However, the main limitation of the tool is that it is predisposed towards different types of subjective outcomes than objective outcomes. Besides this, Porter’s five forces framework fails to reflect quantitative dimensions of a firm for planning purposes and is exposed to biased outcomes.

Comparison of how organisations are adapting management accounting tools to respond to financial problems

A foremost problem encountered by various organisations all over the world is financial problems. There are various organisations, which face financial problems during their span of operations. Commonly encountered financial problems within organisational contexts include decrease of profit levels, decrease of cash flows, reducing sales and increasing costs. However, management accounting considerably helps companies in the process of financial problem solving. For example, Tesco Plc is an example of a large organisation, which solves its financial problems through management accounting. It can be identified that the company’s cash flows decreased by about £1143 million between 2018 and 2019 (tescoplc.com, 2019). This shows that decrease of cash flows is Tesco’s main financial problem. Conversely, Morrisons Plc also solves its financial problems through management accounting systems. The main problem in the company is its reducing sales, as the sales of the company reduced by £199 million during the last two years (morrisons-corporate.com, 2020).

The similarity between the two organisations in terms of using management accounting systems is that both the organisations make use of key performance indicators (KPIs) for identifying financial problems. In Tesco, customer recommendations, building trusted partnerships, cash flows and sales are the main non-financial and financial KPIs used (tescoplc.com, 2017). However, in Morrisons, group revenue, free cash flow, total dividends, net debt, market street and to make and provide are the main financial and non-financial KPIs (morrisons-corporate.com, 2020). The utilisation of KPIs assists both the organisations in maintaining a transparency of the two organisations towards their goals and objectives while gaining a visibility on their performance. This is a key way in which both the organisations identify their financial problems.

However, differences can be identified within the way in which the two organisations solve their financial problems. While Tesco uses balanced scorecards for solving its financial problems, Morrisons uses benchmarking for solving its financial problems effectively. Balanced scorecards assist Tesco for guiding its overall performance followed by facilitating the management of the firm in ascertaining appropriate decision-making. Using this system also assists the firm in framing of its financial objectives effectively while improving its managerial processes. This in turn enhances its employee performances while helping in efficient resource allocation. As a result, productivity existing in Tesco improves, thereby leading to the improvement of not only its revenues but also the firm’s cash flows. In this way, the decrease of cash flow problem of the firm is resolved.

Contrastingly, in Morrisons, different types of benchmarking activities are followed. For instance, benchmarking activities within Morrisons help the firm in ascertaining its product quality as well as packaging quality (morrisons-corporate.com, 2020). Level of salary paid by the firm and various such performance and processes within it are benchmarked against performance. This in turn helps Morrisons in identification of the various gaps existing within the performance achieved by it relative to the performance of best industry players. Due to this, the firm is able to adapt the continuous improvement approach that improves not only its financial performance but also the efficiency of its internal processes. Consequently, higher revenues and better productivity is achieved, thereby leading to solving the financial problem of decreasing sales.

In the above ways, SMEs can also be adapting to a range of management accounting systems to identify their own financial problems while solving them in an efficient way. Considering the discussions made above, suggestions are provided to the firm Connect Catering Services to adapt different types of KPIs, which include profit, growth of revenues, and such others. This can be assisting the company in identification of its financial problems. Besides this, benchmarking as well as balanced scorecards can be adapted within the firm for solving the financial problems occurring within their context. In these ways, Connect Catering Services will be able to respond to its financial problems efficiently.

Conclusion

Therefore, from this report, it could be summarised that management accounting is highly advantageous for businesses in tackling various sorts of competitive rivalries, business complexities and such other aspects. It assisted in identifying four main systems in management accounting and three key reporting methods. Application of absorption costing and marginal costing helped to understand the usefulness of two main techniques within management accounting. On the other hand, flexible budgets, Porter’s five forces and zero-based budgets helped in understanding how planning tools within management accounting help companies to achieve budgetary control. Most importantly, comparison of Morrisons Plc and Tesco Plc helped to understanding the advantages of management accounting in financial problem solving within organisations.

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