Decision Making with Managerial Accounting - Case Study Example

 Decision Making with Managerial Accounting Introduction Managerial accounting, also known as Management Cost Accounting or Management Accounting refers to the process through which organizations determine the number of resources needed to undertake its mandate, labor requirements and its operational effectiveness by evaluating their costs (DRURY, 2013). This involves the measurement of their current position against the predicted costs or decisions that were laid down at the onset of a financial period. In the case of any major differences, the variance and its causes are established with corrective measures being undertaken to ensure that the original plan and decisions are aligned to the prevailing conditions. Thesis statement: Managerial accounting techniques facilitate the provision of sustainable information that is necessary decision-making while influencing an organization’s financial performance. Role of Managerial Accounting and Managerial Accountant The main role of a management accountant is budgeting, which entails planning for the long term and short term operations of an organization (Pietrzak and Wnuk-Pel, 2015). This involves the establishment of strategies and forecasting of the industry within which the organization operates. Management accountants are required to coordinate with other departments within the organization in order to establish the total operating capital as well as establish the availability of the finances while reporting the same to the more senior staff. Additionally, managerial accountants perform the role of managing and coordinating funding activities within the business through variance analysis with the aim of establishing existing discrepancies that may be affecting the optimal utilization of the organization’s resources. This requires the timely forecasts of the costs while considering any market irregularities and uncertainties. Moreover, managerial accountants are required to maintain an optimal capitalization structure by accounting for the methods through which funds are raised and applied. This entails the maintenance of the most appropriate capital mix for the company by considering their respective opportunity costs. Managerial accountants also play a major role in the decision-making the process of the organization as all information pertaining to the financing of the company and the application of the same run through them (Pietrzak and Wnuk-Pel, 2015). This information must be accurate as any faults may lead to dire effects on the company’s survival. Management accountants also maintain the management information system of the organization since the information that is used in decision making has to reach all the relevant decision makers for action. Ethical Concerns for the Management Accountant Management Accounting is the backbone of decision making in any organization as it controls its financial base. Due to the nature of their work and the information which they handle, management accountants are expected to adhere to a very specific set of ethical standards. These ethical standards are captured by the four principles of accounting: confidentiality, integrity, competence, and objectivity (Ghose, 2015). Considering that management accountants handle highly sensitive information, they are expected to maintain a high level of confidentiality. Ethical concerns in this line occur whereby they may be confronted by the need to reveal confidential information to individuals who do not have the clearance such as corrupt stock brokers, family members or friends. This information may lead to cases of insider trading allegations and a loss of competitive advantage if gained by the competitors. On the other hand, management accountants must maintain their integrity. This means that they ought to be incorruptible to avoid any instances of a conflict of interests as it is a main ethical concern within their line of work (Ghose, 2015). This may be achieved by turning down any form of benefits accorded to them which may affect their future decisions and actions. In terms of objectivity, accountants are expected to be impartial and honest in their work by providing the correct information despite any conflict with the interests of the requesting party. This means that they must always provide the true financial status of the company. In this regard, ethical concerns occur in such cases as where senior officers may request for a misstatement or improper allocation of costs so that the income statements reflect a healthy company status. Accountants ought, therefore, to maintain their objectivity by presenting the costs as they are without misallocating them despite the threat by the senior staff (Endrikat, Hartmann, and Schreck, 2017). Moreover, management accountants ought to maintain their competence by ensuring they improve their skills continuously in order to maintain a high level of professionalism. This ensures that they continue to make decisions, such as asset replacement by return on investment basis, as per and according to their ethical requirements. Management Accounting Techniques Management accounting techniques may be divided into two major categories: traditional and integrated methods. These methods mainly focus on how fixed costs are treated and may, therefore, perform the function as variable or absorption costing systems or a combination of the two. Management accounting techniques focus on how to minimize the costs incurred by the business. Among these, the most common techniques from the two categories include capital budgeting, total quality management, and standard costing. Capital Budgeting Within the field of managerial accounting, capital budgeting is used in reference to the planning framework by which businesses determine if their long-term investments, such as the purchase of new production machinery, are deserving of the allocable financial resources with regards to the business’s capital structure such as debt or equity funding (Lunkes, Ripoll-Feliu, Giner-Fillol, and da Rosa 2015). This process enables managers to efficiently and effectively prioritize resources for huge capital investments or expenditure while effectively raising the firm’s value and equity shareholding. Examples of capital budgeting methods include the NPV (net present value) and IRR (internal rate of return) methods. Application: Most businesses, except non-profit organizations, aim at maximizing profit while minimizing their costs. In the process of capital assets decision making, most managers find themselves as having to choose between two or more projects which incur huge amounts of money. For instance, a manager may have to decide between buying a new company vehicle to increase sales or purchase new machinery to increase production. In deciding between the two, a manager will have to use the incremental cash flow or capital budgeting techniques such as payback period to determine the feasibility of the projects. By applying these techniques, they can, therefore, decide on which project to undertake at the expense of the other. Total Quality Management The evaluation of defects’ costs as being higher than the costs of implementing quality programs is the incentive behind the establishment and actualization of total quality management within a business (Sadikoglu and Olcay, 2014). In most cases, defects’ costs may be underestimated through a company’s production history leading to the loss of goodwill by the customers as well as total sales volumes and revenues due to defective products. In this regard, the establishment of quality control and management aims at minimizing costs by eliminating all and any defects during production, specifically at the point of its occurrence. By maintaining total quality management programs, the business experiences higher levels of satisfaction by its customer reduced quality control costs and increased sales revenues. Application: Total quality management as applied in management accounting entails the prevention of defects that may occur during production. This may be applied in such industries as those that require bottling of their products, which in the case of improper bottling of products may lead to spillage or spoiling of the products. Other applications include in products such as medicine, cosmetics, and packed foods products whose decline in quality may lead to severe reactions to the consumer. However, all manufacturing businesses require total quality management in order to increase customer satisfaction and relatively higher sales. Standard Costing Definition and Application Management accounting also entails specific costing methods, mostly standard costing. In its essence, standard costing entails the maintenance of expected costs records of accounting transactions which are then substituted by actual costs for comparison with standard costs and then analyzed through variance analysis two (Badem, Ergin, and Drury, 2013). Application: In most cases, businesses use standard costing in budgeting. Since budgeting requires the estimation of costs which a business may incur, the ability to analyze their comprehensiveness and exactness of their predictions requires standard costing through the application of continuous reporting of financial statements over given budget periods. This helps in making budgeting decisions for future budgets. Additionally, standard costing is applied in inventory costing where the previous period’s costs are multiplied by the standard costs to generate the next period’s inventory values. In the case of custom-made products, standard costs may be applied to generate the expected costs by predicting the customer requirement costs by adding them to a standard margin. Costing Methods Notably, different businesses apply different costing methods in the determination of the costs incurred in producing or providing the services or goods. The technique applied by a firm is dependent on the production methods and its output type (Drury, 2013). The type of costing method adopted helps in ensuring that businesses are able to effectively price their products and services in order to manage their costs. Some of the most common costing methods include job, process, and batch costing. Job Costing Job costing is a method through which expenses are noted and accrued with regards to each order. This method is mostly applied where work is done as per the customer request with the cost being directly and separately identified with the work done (Drury, 2013). For instance, job costing may be applied in the case of the construction of a custom printing machine where each component can be recorded in a cost sheet bearing the expenses incurred on each component. This will entail the cost of each component, the charges assigned to the employee and the overhead costs incurred in the production process. Process Costing Process costing is the method applied in the case where the end product’s value cannot be ascertained due to the variety of processes involved in their production. Such products include those that are mass produced (DRURY, 2013). For instance, process costing may be applied in the derivation of the cost attached to the manufacture of chemicals that undergo a variety of processes such as extraction of compounds, a combination of elements, and testing of the chemicals. Batch Costing Batch costing, on the other hand, is used in the derivation of costs of products that are identical in nature but are otherwise treated as distinct products during the ascertainment of their costs. This method ascertains the expense of each unit by dividing the expense of producing the whole batch by the total units produced (DRURY, 2013). For instance, this method may be applied by bakeries where different outputs are produced through similar processes such as a variety of cakes and biscuits. It may also be applied in the garment and leather products industry where similar inputs are used to produce a variety of outputs. Capital Investment Decision Techniques In management accounting, capital investment decisions refer to the decisions which involve large resources allocation to projects that require long periods of time to mature. Such decisions are grounded on the ability of the projects to generate returns in proportion to the number of funds invested. The basic tenant of such decisions, therefore, lies on the ability to conduct a cost-benefit analysis of the projects and make opportunity cost decisions regarding the same. The particular benefits may be based on the number of cash inflows or savings generated by the projects (Lunkes, Ripoll-Feliu, Giner-Fillol, and da Rosa, 2015). Some of the capital investment decision techniques include the NPV (net present value technique), payback period technique, and the IRR (internal rate of return) method. Payback Period Technique Payback period refers to the sum of the years necessary for any project to return the amount of money invested in a project. In the application of this method, management accountants calculate the acceptable maximum number of years required for the project to recover the amounts invested at its inception (Al Ani, 2015). Application: For instance, project X, whose initial investment is $120,000, may be expected to generate an additional profit of $40,000 per annum while project Y with an initial capital investment of $250,000 may be expected to save the company $100,000 per annum. Payback period in such a case is applied by dividing the initial investment by the amount generated or saved. In this case, the first project will pay back the initial amount in three years while the second will recover the costs in two and a half years. In this regard, management accountants will prefer the second project at the expense of the first. Net Present Value (NPV) The NPV technique focuses on the money precipitated by the initial outlay by deducting the initial fund's outlay from the present value (PV) of this investment’s future cash inflows. This technique discounts the PV of the cash outlay over a given period and deducting the principal amount from the discounted PV to generate the expected cash inflow, this cash inflow is then used in the same manner as the payback period to determine the time necessary for the project to recover its principal amount or compiled to give its profitability of the project over its maturity period (Benamraoui, Jory, Boojihawon, and Madichie, 2017). This technique uses the formula [CFt / (1+r)t ]– P, where CF represents the cash inflows at the particular period, t indicating the number of years, I representing the discount rate and P representing the initial capital investment. Application: In this technique, projects bearing a positive or higher NPV are prioritized over those that bear a negative or lower NPV. This decision is based on the premise that projects with appositive NPV increase the value of the business as well as its common stock. for instance, where two projects with an initial cash outlay of $500,000, one with an NPV of $125,000 and another with an NPV of $120,000, the project with the NPV of $125,000 is prioritized at the expense of that with an NPV of $120,000. Internal Rate of Return (IRR) The IRR technique focuses on frequency computations at which a business’s initial investment is expected to be recovered by establishing the discounting rate and equating it to the existing value of its initial capital and its cash inflows (El-Otaibi, (2014). This technique uses the formula {[(I2-I1) x NPV1]/[NPV1-NPV2]} + I1, where I1 represents the projected lower rate of return (RRR), I2 represents the higher required rate of return, NPV1 represents the net value of present capital outlay for the project at a lower RRR and NPV2 represents the net value of present capital investment of the project at the higher RRR. The resultant IRR is then compared to the expected RR (return rate) and approved if it is higher than the RRR. Application: This technique is most suitable where the planning of a capital investment project bears an established RRR that determines its feasibility and determining the minimum required return rate for the project. A project that bears an IRR higher than its RRR is then considered as profitable. On the other hand, if two projects bear an IRR higher than the RRR, then that which bears the larger margin is picked as it is considered more profitable. For instance, two projects with an RRR of 10%, one with an IRR of 12% and the other with 15%, the project generating an IRR of 15% is prioritized over that with 12% as it bears a higher rate of return by 3%. Quality Control The term quality control refers to the process by which products or services are evaluated to ensure that they adhere to a given set of standards or quality requirements as set by the customer. In management accounting, the scope of quality control is to ensure regular and consistent checks are maintained. Additionally, quality control ensures that information derived from the various departments is correct and complete, addresses all identified omissions or errors in the production and service provision process, and ensures detailed documentation of all inventory is maintained (Mrugalska, and Tytyk, 2015). The purpose of quality control is the reduced costs associated with any defects in the products or the production process. Such costs, which make up quality costs, include prevention, appraisal and failure costs, with the latter bearing a higher impact on the company’s financial position that the two formers. In this regard, managerial accountants aim at ensuring that they maximize their businesses’ revenue and profit margins while still maintaining their customer base. Quality control is therefore applied as a mechanism of ensuring that the final product meets the customer’s expectations for optimal customer satisfaction (Mrugalska, and Tytyk, 2015). Quality control methods include Failure testing, total quality control, statistical control, quality assurance, and operational quality management. Application: As stated before, quality control aims at eliminating all defects within the products and production process with the aim of minimizing the costs of production or service provision. For instance, a company that produces iron roofing by combining more several metallic elements will conduct quality control tests by performing purity, tensile and impact tests to ensure that their products will serve the customer’s purpose over a given period of time. overall, all forms of businesses bear one or more quality control systems as they aim at maintaining specific standards for their products or services. Conclusion The scope of activities performed by managerial accountants is perhaps the widest within the accounting field. Tasked with the role of maintaining the flow of business within the organization through oversight of its finances, managerial accountants must ensure that every activity is maintained within its budget. However, even as their role in the organization may not be as specific as that of financial accountants, they are often faced by ethical issues that may affect the execution of their duties. By maintaining their objectivity, integrity, competence, and confidentiality, managerial accountants are able to perform such duties as quality management, budgeting and cost management. With the aim of the organization being the maximization of profits, managerial accountants must employ the most appropriate costing methods and capital budgeting techniques in order to ensure that the best financial decisions are made. In conclusion, managerial accountants, tasked with the role of managing all financial resources, must ensure the accuracy of all financial information to facilitate better decision making within the organization and growth of the organization. References Al Ani, M. K. (2015). A Strategic Framework to Use Payback Period (PBP) in Evaluating the Capital Budgeting in Energy and Oil and Gas Sectors in Oman. International Journal of Economics and Financial Issues, 5(2), 469-475 Badem, A. C., Ergin, E., & Drury, C. (2013). Is Standard Costing Still Used? Evidence from the Turkish Automotive Industry. International Business Research, 6(7). Benamraoui, A., Jory, S. R., Boojihawon, D. R., & Madichie, N. O. (2017). Net Present Value Analysis and the Wealth Creation Process: A Case Illustration. The Accounting Educators' Journal, 26. Drury, C. (2013). Costing: an introduction. Springer. DRURY, C. M. (2013). Management and cost accounting. Springer. El-Otaibi, D. (2014). 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