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MANAGEMENT ACCOUNTING

Topic 1:
1. Decisions managers make:
a. Organizational vision:
- The core purpose and ideology of the entity
- Guides the entitys overall direction and approaches towards its
various stakeholder groups
b. Organizational core competencies:
- The entitys strength relative to competitors
c. Organizational strategies
- Tactics that managers use to take advantage if core
competencies while working towards the firms vision
- Low cost, differentiation strategy
d. Operating plans
- Specific short-term decisions
- Shape the organizations day-to-day activities
- Include specific performance objective
e. Actual operations
- Various actions taken and results achieved over a period of
time
2. Role of information and decisions:
- The key focus of management accounting is provision of
information of decision making
- Relevant information: helps the decision maker evaluate and
choose among alternative courses of actions; concerns the future; vary
the actions taken
- Irrelevant information: Does not vary the actions taken => not
useful
- Relevance depends on the decision and other factors
- Higher quality information: certain, complete, relevant, timely,
valuable

higher quality reports: relevant, understandable,


available

Higher decision-making process: thorough,


unbiased, focused, strategic

Higher quality decisions


3. Value chain
- Value chain is the key activities engaged in by the
organization or industry
- The supply chain is the flow of resources from the initial
suppliers through the delivery of goods and services to customers and
clients
- 2 types: industry level (external), organizational level (internal)
- Industry: key industry components based on the key activities
of the industry. Companies can participate in entire or part of the value
chain.
- Organization: Combination of key and support activities.
- Key activities: RnD => design => inbound logistics =>
marketing and customer support => outbound logistics => production
- Support activities: accounting, HR, IT, purchasing

- A value-added activity is one that is necessary and that the


customer would normally be prepared to pay for
- A non-value-added activity is one that is wasteful
(unnecessary) and that the customer would not normally be prepared to
pay for
Topic 2: Cost terminology, CVP
1.
Cost function
TC = F + V x Q
where TC is total cost
F is total fixed cost
V is variable cost per unit of activity
Q is volume of activity of cost driver
A cost driver: a variable that causally affects costs over a given time
span
2.
CVP
a.
Contribution margin
- How much revenue from each unit sold contributes to cover the
fixed cost. After all fixed costs are covered, CM becomes profit.
- CM = total revenue total variable cost
- CM per unit = Selling price Variable cost per unit
- CM ratio = CM per unit / Selling price => Percentage selling
price exceeds variable cost
b.
Breakeven point
- Level of operating activity at which profit is zero
- BP = Total fixed cost / CM per unit (unit) = Fixed cost / CM
ratio (revenue)
c.
CVP for multiple products
- Weighted average contribution margin per unit
- CM per unit x sales mix
- WACM ratio = Combined contribution margin / Combined
revenue
d.
Margin of safety
- Excess of organizations expected future sales above the
breakeven point
- Margin of safety percentage in units/revenue
e.
Degree of operating leverage
- Extent which the cost function is made up of fixed cost
- High operating leverage => more risk of loss when sales
decline
- OL in contribution margin = CM / profit
- In fixed cost = Fixed cost / Profit + 1
- OL = 1/Margin of safety percentage
- Choose to use variable cost or fixed cost based on OL
- Indifference point: equal cost or benefit across multiple
alternatives
Topic 4: Operational budget
1. Budget
A budget is a formalised financial plan for operations of an entity for a
specified future period
2. Importance
- Develop and communicate strategies and goals for the entire
organization and each department

- Assign decision rights (authority)


- Motivate managers to plan in advance
- Coordinate activities
- Establish prices for internal transfer of goods
- Measure and compare expected and actual outcomes
- Monitor performance/investigate variances
- Motivate managers to use resources efficiently
Topic 5: Budgeting
1. Contemporary budgeting approaches
a. Incremental budgeting
Making an alteration to expenditure budget for cost centre from previous
year
b. Program budgeting
Requires the cost center to plant its expenditure specifically for the projects
conducted by the cost center
c. Zero-based budgeting
Justify budget amounts as if no information about budgets or costs from
prior budget cycle was available
d. Rolling budgeting
Reflect planning changes, incorporate significant changes in business
strategy, operating plans and the economy
e. activity-based budgeting
Uses activity cost pools and their related cost drivers => cost for activities
f. Kaizen budgeting
Sets targeted cost reduction time, anticipate market price reduction across
life of a product => Cost reduction and quality improvement in budget
2. Participative budgeting
- Managers are responsible for meeting budget
- Prepare initial budget forecasts, setting targets for themselves
- Advantage: Motivate employees to meet budget targets
because they buy-in to the target setting process.
- Disadvantage: Incentives to set low goals so they can be met
easily
3. Budgetary slack
- Practice of intentionally setting revenue budgets too low and
cost budgets too high
- Impact: more precise information results in better strategies
and operating plans => Hamper organization
Topic 6: Revenue management
1. Flexible budget
Static budget vs. flexible budget
Sales volume variance
budgeted costs are held constant
variance arises due to difference between actual activity level
and budgeted activity level
examines effectiveness
Actual results vs. flexible budget
Flexible budget variance
sales volume is held constant
variance arises due to difference between actual revenues and
costs and budgeted revenues and costs
examines efficiency

2. Variances
Market size = Change in mkt size * Planned mkt share * Planned avg CM
Market share = Actual mkt size * Change in mkt share * Planned avg CM
Product mix = Change in average CM * Actual unit volume

Indicate proportion of the revenue volume variance


that can be attributed to changes in the variance considered.
Topic 7: Risk management
1.
Importance
Issues such as:
a.
the recent global financial crisis,
b.
the severity of many high-profile
corporate collapses (Enron, WorldCom); and
c.
other issues including environmental
disasters (BP oil spill) have increased the focus on risk
management.
Rewards for successful risk-taking can be high but this must be
balanced with management control systems to help mitigate risk.
2.
Components of risk
Strategic risk
associated with market-related activity and competitive
dynamics, including threats from competitors and changes in
technology such as technological innovations. Might also
include measures of brand risk and reputation risk.
Ex: customer switching, supplier pricing, regulatory changes and
the availability of substitute products
Financial risk
such as the level of exposure to creditors and potential for a
shortfall in liquidity
Legal and regulatory risk
the exposure to and ability to comply with applicable and
impending laws, and regulations in Australia and overseas.
Ex: changes to occupational health and safety; environmental
regulation, licensing arrangements
Operational risk
anything that might damage the ability of an organisation to
provide product or service offerings to customers.
Can be caused by:
the extent of formalised procedures and protocols;
the ability of employees and service providers to
understand and follow prescribed organisational procedures;
systems that can provide timely, complete and accurate
transaction recording and reporting;
the ability of an organisation to safeguard its assets
(including information); and
the ability to respond to crisis and support business
operations under adverse operating circumstances
Examples:
Flood, war, famine and other calamities;
Internal shocks through wilful damage or unintended
mistakes
Unexpected (sometimes permanent) damage to the core
machinery

Examples might include:


BP oil spill; nuclear power plant damage following Japans
earthquake
Other product recalls due to faulty products
Intellectual property damage through thefts
3.
Managing strategic risks
Setting appropriate internal controls
Structural safeguards
Clear lines of hierarchical authority
System safeguards
Timely reporting, accurate recording and
secure databases
Staff safeguards
Training to reach higher proficiency
Job rotation to reduce surprises
Make explicit the basic values, purpose and direction
for the organisation; specify what the firm stands for
Do this through:
Formalised mission and value statements
Organisational structure
Organisational culture (sometimes this is
expressed more informally)
Employee selection procedures
Define appropriate behaviour or perspectives and
guides managers as to what might be considered a risky decision or
practice
Define the acceptable activities and behaviours of
employees
Set boundaries for the search for new
strategies and opportunities
Tell employees what they can and cannot do
Do this through:
Codes of business practice; Performance
measures; Organisational structure
Use management accounting information to diagnose
risk
Alert or provide red flags highlighting
potential problems
Deviations from expected performance
Topic 8: Capital budgeting
Method
Payback
Period

Advantages
1. Simplicity: Easy to calculate
and understand.
2. Can be used as a rough
measure of project risk.
3.
It can help minimize the

Disadvantages
1. It
ignores
the
performance of projects
beyond the payback
period.
2. It
ignores
the

Accounti
ng Rate
of
Return
(ARR)

Net
Present
Value
(NPV)

Internal
Rate of
Return
(IRR)

impact of an investment in the firms


liquidity.
4. It can help controlling the risk
of obsolescence.

time value of money.

1. Simplicity: Easy to calculate.


2. Considers
the
projects
profitability and is consistent with
accrual accounting.
3. Can be used as a screening
measure
to
ensure
that
new
investments do not adversely affect
the firms financial ratios and profit
level.

1. By ignoring the
time value of money
and can lead managers
to choose projects that
do
not
maximise
profitability.
2. It ignores cash
flows.

1. Relatively easy to calculate.


2. Considers the time value of
money.
3. It is possible to adjust for risk
by using higher discount rates.
4. It always provides only one
answer no matter the sign of the
cash flows over the life of the project.
5. Is based on a more realistic
assumption than IRR. Assumes that
the project cash-flows are reinvested
at the firms required rate of return.
6. Is the best method to evaluate
competing projects because choosing
the project with the highest NPV
maximizes shareholders wealth.

1. Sensitivity
to
discount rates- a small
increase or decrease in
the discount rate will
have a considerable
effect on the final
output.

1. Considers the time value of


money.

1. It is based in the
unrealistic assumption
that
cash
flows
generated
by
the
project are reinvested
at the IRR.
2. By
measuring
profitability in relative
terms,
does
not
consistently result in
choices that maximize
shareholders
wealth
therefore it is not
adequate to evaluate
mutually
exclusive
projects.
3. When cash flows
change from positive to
negative over the life of
the project there can

be more than one IRR .