Management Accounting

AN OVERVIEW

Scope of Presentation
Introduction

Definitions
Evolution of Cost & Management Accounting Basic Cost Terms & Concepts Classification of Costs

Costing System
Accounting for Overheads

Introduction
Why Knowledge of Cost and its Measurement is an absolute Imperative?

Definitions
Cost: Measurement in monetary terms of resources used for some purpose. Costing: The process of ascertainment of cost.

Cost Accounting: Process of classifying, identifying and recording of

expenditure with the intention of ascertaining cost of a cost centre/unit for purpose of cost control.

Management Accountancy: It is an integral part of management that

is concerned with identifying, presenting and interpreting information for formulating strategy, planning and controlling activities, decision-

making, optimizing use of resources and reporting to external and

internal stakeholders.

Management Accounting - Facets

Focus is on analysis of info Use of Qualitative as well as Quantitative data Thrust is on measuring performance of various facets of business & comparison with targets to enable management to initiate corrective action Equips management for strategy formulation

Helps in optimizing Resource mobilization & utilization

Evolution
21st Century Paradigm
Management Acctng. tools as decision support system

Era of ABC

Late 80s & early 90s

CVP Analysis & Dir. Costing Use of QT in acctng.

Post Second World War (1940-1980)

Era of Industrial Engineering Early 20th Century (1900-1940)

Financial Accounting Platform (15th-19th Century)

Pdt. Cost & Operating eff.

Concepts
Cost Object Any activity for which separate measurement of cost is desired Cost Centre Location, person or an item of equipment in or connected with an undertaking in relation to which costs are ascertained and used for the purpose of cost control. Cost Unit A unit of product or service in relation to which costs are

ascertained.
Cost Control Evaluating what level of cost is the most ideal for a given activity. Provides a mechanism to keep costs within predetermined limits Cost Analysis Link costs with its determinants or drivers & also provides tools to measure reasons of why they are out of sync & fix responsibility there

for

Classification of costs
Basis Cost Types Material Costs Labour Costs Other Expenses

Nature of Expenses

Traceability to object

Direct Costs
Indirect Costs

Functional

Production Costs Administration Costs Selling & Distribution Costs R&D Costs
Fixed Costs

Behavioural

Variable Costs
SVC or SFC Costs

Decision - Making

Relevant Costs Target Costs Opportunity Costs Standard Costs Marginal Costs

Fixed Vs. Variable Costs

Y Fixed Costs Y Variable Costs VC

Cost
FC

Cost

X Volume Total

X Volume

Vs.
Y

Total

Cost FC

Cost

VC

X Volume Per Unit Volume Per Unit

Costing System - Characteristics

Lays down basic procedures & functional routines. Starts with proper classification of costs, determination of cost centres & cost units Provides basic guidelines for segregation of fixed & variable costs

Will include the logic for allocation & apportionment of indirect costs
Provides for standard reports & regular flow of costing information Provides for a Cost Manual outlining treatment of different items of cost Needs to take into a/c CARR & Cost Audit requirements System to be scalable

Mostly integrated

Accounting of OH Costs
OH Costs

Cost classifn

Cost Allocation

Cost Apportionment

Cost Absorption

Detmn of Classes -Manuf oh -Admn oh - S & D oh

-Collectn & - Accuml Indirect Material Labour Expenses

DEPARTMENTALIZATION Allocation by Direct identifn with Cost Centre

Primary Distribution Gen OH to C Centres

Secondary Distribution Ser CC to Prod CC CC apportioned To Cost Units

Service Cost centre

Fixed & Variable

Prodn Cost centre

PRODUCT cost

2 Stage Allocation Process

Departmentalization

Classification & Collection of OH

Allocation & Apportionment Distribution of Service centre Costs to Production centres Absorption of Production department costs to cost units

OH Absorption Rate
OH Rate = Amt of OH / No of units of the base

Production Units method

% of Direct Wages % of Direct Material Cost % of Prime Cost

Direct Labour hour rate

Machine Hour rate

Absorption Rate - Choice

Logical relationship with item of OH & the base used

Suitability to Industry & prevailing conditions

Nature of OH Availability of data

OVER / UNDER ABSORPTION

Does not arise if OH rates based on ACTUAL DATA

In case of Pre determined rates if OH Absorbed > Actual OH Over absorption OH Absorbed < Actual OH Under absorption
Treatment of Under/Over absorption

Write off/write back to P&L account Use of Supplementary rates to adjust effect to Cost of sales, finished stocks

& WIP

What is Wrong with Traditional Approach?

Traditional absorption based product costing systems were designed When Manufacturing technology was different Overheads small Processing costs high Production predominantly labour oriented Now Labour is generally a fixed cost Overheads are often high because of level of technology

6/11/2012

16

Activity-based Costing
is defined as a methodology that measures the cost and performance of activities, resources, and cost objects. Specifically, resources are assigned to activities, then activities are assigned to cost objects based on their use. ABC recognizes the causal relationships of cost objects to activities and activities to resources. Consortium for Advanced Manufacturing-International (CAM-I)

6/11/2012

17

ABC in its simplicity

Activity based Costing is costing method that first assigns costs to activities and then to goods and services based on how much each product or service uses the activities.

6/11/2012

18

Cost Assignment View - A Snapshot

Resources

What things cost

Resource Drivers

Process view

Resource Cost Assignment

Cost Drivers

Activities

Performance Measures

Activity Cost Assignment

Activity Drivers

Cost Objects

Why things have cost

Better Decision Making

Ref: Glossary of Activity Based Management, edited by Norm Raffish and Peter B.B. Turney,(Arlington: CAM-I 1991)

The Cost Assignment View

Represents the cost measurement aspect of a costing system.

Resources are consumed by activities and activities are required by cost objects.
The costs of resources are assigned to activities through resource drivers. Costs of activities are assigned to cost objects through activity drivers.

6/11/2012

20

The Process View

The process view represents the measurement of performance activity. Performance measurements define how well an activity is performed. The key terms in process view are cost driver and performance measure. of an

6/11/2012

21

ABC Challenges Absorption Costing

ABC 1 Identify activities 2 Cost each activity Absorption Identify departments Cost each department

3 Identify cost driver

4 Derive cost driver rate

Decide on basis for apportionment

Derive overhead allocation rate

5 Charge to products based Charge to products on demand based on demand

say 30 cost pools 30 cost drivers

say 8 departments 2 alloc bases

22

Resources
Inputs sacrificed for performing an activity. Cost is the financial expression of resources. Broadly three categories Supplies Includes materials direct and indirect and other purchases necessary for running an organisation Manpower Includes employees from worker to CEO Facilities Infrastructure required for running an organisation

6/11/2012

23

Some Examples of Resources

Man Power
Materials

Includes Direct and indirect labour.

It includes Direct Material, Fuel, Consumable General Stores Utilities provide support energy services to the manufacturing activity, service departments. They can be fully procured or produced inside the site. Tools include both bought out tools and manufactured tools and are treated as resources.

Utilities

Tools

6/11/2012

24

Some Examples of Resources

Equipment Costs involved include depreciation, insurance, lease rentals , Floor Space, funds cost (interest), Bought out service (Eg. Annual maintenance).

Floor Space

Typically Floor Space Cost will include, deemed rent for open yard, Civil maintenance, Rates & Taxes, Depreciation, Insurance, Rent / Lease Rentals, Funds cost (Interest).

6/11/2012

25

Some Examples of Resources

Bought Out Services / Resources Bought out Services (E.g. Annual maintenance contract), in most cases does not directly relate to a product. Bought out service may be periodical and for a measurable service (say units consumed, no of equipments to be maintained) Printing & Stationery, Refills This resource includes costs such as software developer cost, costs of purchased software, amortised costs of developed software, Depreciation, Insurance etc on computers, networking and telecommunication equipments.

Office Supplies Information Systems and Communication Infrastructure

6/11/2012

26

Activities
An event, task, or unit of work with a specified purpose. Need to assign each product its true share of activity costs and not to lump all costs.
Product cost data must be made to reflect the real activities that are performed while making / selling the product. Cost allocations should be based on an appropriate cause and effect relationship between cost and the activities which are used.

6/11/2012

27

Activities
Need to bring hidden costs into the open in order to provide ourselves with a more accurate picture Activities can be uniquely identified with Departments / Cost centers. There are certain common shop functional activities such as inspection, maintenance, etc

The transactions in GL wherever known can be booked by the activity.

6/11/2012

28

Cross Section of Activities

C A T E G O R I E S

DIMENSIONS

6/11/2012

29

Activities
Unit level Activities Performed on individual unit of product. E.g. Production activities
Batch level Activities Related to a group of products E.g. Setup First piece inspection

Product / Production sustaining Activities Performed to support individual products. E.g. Engineering activities such as Design

6/11/2012

30

Activities
Customer sustaining Activities Performed to serve specific customers E.g. Administration Activities

Facility sustaining Activities Support the organisation as a whole cannot be traced to individual products E.g. Administration Activities

6/11/2012

31

Activities
Value Added Activity If eliminated would reduce the value or utility customers obtain from using the product or service. E.g. After Sales service, Delivery of products Non value added Activity If eliminated, would not reduce the value or utility customers obtain from using the product or service. Incurs cost that the customer is unwilling to pay the company for. E.g. rework, following up for over dues

6/11/2012

32

Drivers
A driver controls the flow of costs from resource to activity / activity to cost object.

It measures the frequency and intensity of the demands placed on resources or activities by activities or cost objects. A driver assigns cost of one module to another. Drivers are also used to assign costs between activities.

6/11/2012

33

Drivers
Activity Production Description Production of Components in cell / shop. Includes Assembling and sub assembling activities also Indigenous and Imported Material, Order generation. Includes order amendment. Setting up of tools for production Driver Cycle time

Order Raising

Value of Orders raised

Setup

Inspection

Pricing and Negotiation

6/11/2012

Preparation of First off Inspection Report. Also includes Stage Inspection Final Shop inspection Negotiation of material or subcontracting rates among suppliers.

No. of setups and quantity produced between setups No. of samples per batch and batch quantity No. of orders and value of orders
34

Cost Assignment
Cost assignment in a sound costing system attempts to mirror more closely the actual flow of costs through the company.
Costs are moved from incurrence to cost objects with emphasis on the relationships between resources, activities, and other activities, as well as between activities and cost objects.

6/11/2012

35

Cost Assignment
Assigns costs of resources to activities Assigns costs of resources to cost objects Assigns activity costs to other activities Assigns activity costs to cost objects Assigns cost object costs to other cost objects Note: the system also assigns costs of non-product cost objects to products using suitable drivers

6/11/2012

36

Bill of Activities

A Bill of activity (Route) is a list of activities demanded by a cost object

Just like BoM determines the material cost of the Product, BoA attached to a Product determines the total activity cost of the cost object. Therefore, Product along with BoM / BoA constitutes the Cost Object.

6/11/2012

37

Bill of Activities
Different BoA for the same product. Hence difference in costs.

Product A sold to Domestic Market Design Production Maintenance Utilities Packing Selling Delivery to Carrier

Product A sold to Export Market Design Production Maintenance Utilities Packing Selling Delivery to Port Container Filling Clearing

6/11/2012

38

Cost Objects
Cost Object represents product, product family, customer, etc. For which separate measurement of costs is desired. Products (along with routes) are the lowest level of cost object for which costs are measured in transaction systems.

6/11/2012

39

Cost Objects
Products Final Products and intermediate products All manufactured items in the Bill of Material (Bought out components and Raw materials will figure under resources)

Non Products Customer Channel of sales (Distributor)

6/11/2012

40

Grouping of Cost Objects

Cost Objects are grouped into suitable categories Products by product line Customers by market segment Products by Vehicle segment

6/11/2012

41

Hierarchy
The Cost Objects are combined into hierarchical structures for reporting purposes. The last level of hierarchy can only be a product or a customer. The first level of hierarchy can be a product segment or market segment.

6/11/2012

42

Hierarchies
Market Hierarchy
Market Segment

Cost Object Group

Customer

Region

Sold Product Sold Product Sold Product

OE / Exports

Distributor

Sold Product

Cost Objects

Sold Component
Parts

6/11/2012

43

Hierarchies
Product Hierarchy
Product Group

Vehicle Application

Component Product

6/11/2012

44

ABIS-Pro : Unique Functional Features

1.

Software structured on the model expounded by CAM-I. Allows definition of activities, resources, cost elements, drivers, performance measures, products, cost objects and customers Tight integration with financial accounting and other systems. Allows for modification of FAS data for cost purposes. Reconciliation between FAS and cost data is ensured at all levels. Facilitates roll up of account codes into cost elements and cost elements into Cost element groups. Drivers can be defined for allocation of resources / cost elements / activities as given below: 1. - Department to Activity 2. - Activity to Activity 3. - Activity to Products 4. - Activity to customers 5. - Activity to Product segments 6. - Activity to customer segments Unique drivers can be attached to each cost element within an activity/ resource. Multistage allocation of costs possible. The drivers can be basic or weighted. Multiple routes (Bill of activities) can be defined for each product. Hence a product can have multiple cost objects depending upon the sequence of activities required to produce and market the same. User defined BOM which provides for capturing of Material consumption on Actual or Standard basis

2.

3. 4.

5.

6.

7.

ABIS-Pro : Unique Functional Features Contd. . .

8.
9. 10. 11. 12. 13. 14.

Multiple views of activity costs Hierarchy level, Process level, short term variability views etc facilitating operational ABMs
Takes activity costs to the desk of the process and activity owners enabling learning and improvement Package is flexible to serve the needs of both Manufacturing and Service Organizations. Takes into account the capacity utilization of various resources and provide the cost of unused capacity. Analysis of capacity into productive, unproductive and idle capacity with reasons thereof, is possible. Easy to install and implement. Additions of activities / products/ drivers/ routes etc. can be made by the User with ease. Strategies can be defined and linked to performance measures at the activity levels. Data from ABC system can be easily imported for Scorecard systems. Multi dimensional analysis of profits across periods, locations, product and product families, customer and customer families facilitating Strategic ABM

ABIS-Pro- A Unique, Versatile Solution

ABIS-Pro offers :
A Comprehensive and Holistic Activity Based Costing Model, which inter alia, provides information for the following: 1. 2. 3. Multi dimensional analysis of the profitability of products, product segments, customers and customer segments Accurate costs of activities, processes, products and customers. Information for critical management decision making on issues like Product pricing and costs Customer profitability Business segment wise profitability and costs Automation of processes / activities Replacement of machinery vis a vis the impact of break downs on costs, quality, etc Outsourcing vis a vis doing an activity inside Customer and product pricing

Benefits flowing to Management from ABIS-PRO

Strategic Management
Highlights costs incurred as a result of product diversity, process diversity and customer diversity, thus enabling better decisions on

Product pricing and product mix

Make or buy decisions

Investment decisions

Analyzing the costs incurred for meeting the varying intensity of demands of different customers and the cost to serve those demands thus enabling better decisions on
improving customer profitability

retaining existing profitable customers

Benefits flowing to Management from ABIS-PRO

Operations management
Focus on process improvements and cost reduction by highlighting the cost of activities, activity efficiency in terms of performance indicators and yields
Effect on cost driver rate due to Underutilization of capacity

Identification of non value added activities and their costs

CAR & CAS4 Compliance

Takes care of compliance aspects concerning maintenance of Cost Accounting records u/s 209(1)(d) of Companies Act. Segment cost reports take care of CAS 4 requirements under Central Excise

Types of Reports

STRATEGIC
Business Segment wise profitability analysis

OPERATIONAL
Cost/Activity Driver rate Analysis(standard versus

Customer wise profitability analysis Segment Dealer wise Group & Non group Product profitability reports Product family Product series Product category Multi dimensional Analysis reports [Customer, product, Cost & Activity combination]

actual capacity)

Activity rate trend Analysis Cost analysis (resource wise) Cost analysis (Activity wise) Identification of VA & NVA Activities Cost Compliance & CAS 4 reports

Cost of Production & Sales Report Capacity Utilization WIP & FG Stock report CAS 4 Certificate format

List of Clients
S No Company Name
1. UCAL Fuel Chennai
2. SRF Delhi 3. SRF Trichy

Sector
Auto ancillary
Auto ancillary Auto ancillary

Industries
Auto Components
Nylon Tyre cord Cycle Tyre cord, Belt & Tarpaulin Rubber Products

No of Units
4
4 1

4. Sundararm Industries TVS Madurai

Auto Ancillary

5. Reem Batteries Muscat 6. IJL TVS Group Chennai 7. Alrawabi Diary Dubai 8. Mukand Steel Mumbai

Auto Ancillary Auto ancillary Dairy Steel

Battery Manufacturers Lights for vehicles Milk & Juice Products Steel

1 1 1 1

List of Clients
S No Company Name Sector
Electrical

Industries
Transformer

No of Units
1

9. IMP Power Mumbai

10. BPL Bangalore

11. Arvind Brands Bangalore 12. Sadolin Paints Muscat 13. SRF Parma Chemicals Delhi

Electronics
Textiles Paint Pharma

Electronics
Readymade Garments Paint Pharma Chemicals

1
1 1 1

14. GNL Bangalore

15. WEIR Minerals Banglore 16. Velankani Group Bangalore

Abrasives
Pumps Food

Abrasives
Slurry Pump Catering

2
1 1

17. The Associates Delhi

18. STFC Mumbai

Services
Services

Financial Service
Financial Service

3
1

Experience working with leading ERPs

Client names
Kirloskar Ferrous UCAL Fuel Systems Limited BPL Palakkad Leitner Shriram SRF Ltd Sundaram Industries Ltd

ERP
Oracle 11i Oracle 9i Oracle 11i SAP 6.0 Oracle 11i Marshalls

Mukand Steel
Grindwell Norton SRF Dubai AL Rawabi Dubai

JD Edwards
ITM Orion (A 3i ERP solution) Great Plains

ABIS~Pro Major Modules

Master

Transactions

Multi stage allocation of resource costs among activities is

done. Assigning of activity costs to products and cost objects

based on Bill of Activities and Activity Drivers is handled

Quick Updation

here.

Processing

Reports

ABIS~Pro - A Three Tier Framework

Translation of General ledger expenses to Work activities through drivers Linking activity costs to business processes or cost objects

Cost Element Groups

Attach Drivers

Cost Objects

Cost Element

Drivers

Bill of Activities

GL Account codes

Activities

Product/Customer

ABIS PRO & TCM

Definition of BILL OF ACTIVITIES to be closely aligned to VALUE STREAM MAPPING efforts underway in the organization Multiple views of activity costs Hierarchy level, Process level, short term variability etc facilitating operational ABMs
Planning to take into account the capacity utilization of various resources and provide unused capacity. Analysis of capacity into productive, unproductive reasons thereof is possible Focus on process improvements and cost reduction by highlighting the cost of activities, activity efficiency in terms of performance indicators & yields

Identification of NVAs and their costs is possible & is being attempted

Basic data requirements

1.
2.

Expense statement Cost centre & Account code wise

Stage wise production

3.
4. 5. 6. 7. 8.

Sales data Customer, product wise

Process related driver information cycle time/labour particulars/weight/kwh Utility related data in house DG sets/Steam production/Compressor Support function drivers- Maintenance/quality/marketing/sourcing .. Material consumption Particulars (Product wise BOM)with Standard/ Actual Packing & Freight Particulars

Implementation Methodology
1. 2. 3. 4. 5. Visit to Client facility Study of Operations Discussion with Plant Executives - understand nature of operations & extent of data availability Discussions with Finance Team understand existing Costing system in place & their expectations Finalization of List of activities and drawing up of ACTIVITY Dictionary

6.
7.

Identification of drivers for process & support activities

Submission of Design Freeze report incorporating the above

8.
9. 10. 11. 12.

Processing of information with bare minimum requirements

Discussion of results with Client & further refinements to Test results obtained on 1 st run Second run post incorporation of suggested improvements Discussion of results of 2nd run with client Training of Company executives & handing over of the Tool

Our TCM Team

A.S. VENKATARAMAN, Advisor. B.Sc. ACA , AICWA ,ACS
Range of Experience 4 years in Audit and Taxation with A.F. Ferguson & Co., a leading firm of Chartered Accountants. 7 years as CFO with a leading manufacturing company. 2 years in Management consulting. 9 years as Group Head (Finance) with a leading business Group. 3 years as partner in SAM consultancy and 12 years experience in Management Consulting company. Areas of Specialization : TCM, Corporate Planning, Financial Restructuring, Project Appraisal and Funding, Direct and Indirect Taxes and Corporate Laws, Management Information System design and implementation, Management Audit

Our TCM Team

R. VASUDEVAN, Director. MCom. AICWA ,ACS
Range of Experience: 9 years as Head of Management Information & Finance in a Continuous Process Industry in Nylon Industrial Products- SRF Limited. 4 years as Head of Finance, Accounts & Secretarial with a Multinational Engineering Company engaged in Auto Electricals DENSO SRF Limited 7 years as Head of Finance & Secretarial with a leading Non Banking Finance Group.(Shriram) 13 years as director of Proactive. Head of TCM division of Pro~Active & lead person in designing and implementation of ABIS Pro HEAD and DIRECTOR (RISK Management Committee) for Shriram Group of Companies

P. SRIRAM , Director. Bsc, FCA

Range of Experience: 2 years as General Manager of the BPO subsidiary of a US Corporation 2 years as CFO of S & S Power Switchgear Ltd 8 years in General Manager (Finance) Bakrie & Brothers Group of companies in Jakarta 8 years in Manager (Finance & Accounts) in SRF Ltd, Chennai 10 years experience in Management Consulting company as Director

Our TCM Team

R. JAYARAM Sr Consultant MCom, M.Phil, AICWA, CIMA Adv Dip MA, (PhD- Costing)
Range of Experience: 12 years of experience in Management Accounting, Costing, Accounting & Audit functions. Currently in Practice as Cost & Management Accountant Over 7 years of experience in Auto ancillary unit (Ucal Fuel Systems Limited) as Manager Costing & Projects. Headed Implementation of ABC at all units of Ucal Visiting Professor for Strategic Cost Management, Management Accounting & Financial Accounting at IFMR, SIRC of ICWAI & Vivekananda College

THIRUGNANA SIGAMANI Sr. Consultant M.Sc (IT)

Range of Experience: Over 4 years in System Development at Millennium Infocomm Limited More than 10 years with Pro active Solutech(India) Pvt Ltd Area of Specialization: System Analysis, Design, Development & Implementation Primary technical consultant involved in development of ABC software. Has been associated with all the ABC implementations of Pro~Active

Technical Architecture
ABIS~PRO is designed in client server architecture. The product is been developed using Microsoft Technologies VB, COM, DCOM, XML. The product supports MS SQL Server Express, MS SQL Server & Oracle databases. Below is the technical architecture of the product.

Infrastructure Requirements
Hardware (Server / Client) Server : Processor : o Xeon Processor (3.3 GHz) - 2 processors RAM : 32 GB HDD : 300 GB * 2 Client: Processor : P4 and above RAM : I GB and above HDD : 200MB of Free Space

Operating system (Server / Client) Server : OS : Windows 2003 and above

Client Machine: OS : Windows 2000 and above Database Option 1 MS SQL : SQL Server 2003 and above Option 2 Oralce : Oracle 9i and above Office Application (MS Office) Office 97 and above