Managerial Accounting

Introduction: Traditional managerial accounting systems are mainly designed to measure the efficiency of internal processes. Conventional management accountant’s principal performance report was variance analysis, which is a systematic approach to the comparison of the actual and budgeted costs and revenues during a production period for example. The classic illustration of traditional managerial accounting perhaps was Fredrick W. Taylor and his colleagues Frank and Lillian Gilbreath pioneered early 1900s performance measures. They focused on analyzing the core processes and aimed at developing optimal algorithms for activities by using time and motion studies by variance analysis approach to the comparison of the actual and budgeted costs of the raw materials and labor used during a production period. However, much has changed, in today’s Managerial Accounting it has become the most intellectually challenging area in the field of management, and the most turbulent one. All these new accounting theories and practice aim at turning the accounting data into information highway for management decision-making planning development and process. Moreover, “effective managerial accounting system should be able to assist managers in planning, coordination, control, performance measurement, and motivation by providing information that would change the decision on hand and add overall value to the enterprise”. (Drucker, 1992). Knowledge base life cycle cost analysis of the product for example and as for the service based industry. Activity-based costing is the strategic depth of modern day Managerial accounting practice integrated with third generation balanced scored card for bottom line strategies.

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Historical cost has always served as a very useful measure of performance, control, and critical managerial decisions viz., make or buy, sales mix, etc. Starting with very simple concept of average cost (total cost/output), various complex cost models have been used. Table 1 provides a summary of evolution of different managerial accounting measures over time.

Table: 1

Source: Kloock, J and Schiller. U, (1997), “Marginal costing: cost budgeting and cost variance analysis”, Management Accounting Research, Ohio State University Press, Columbus

According to Kaplan and Norton (1996), “the Balanced Scorecard translates an organization's mission and strategy into a comprehensive set of performance measures and provides the framework for strategic measurement and management”. “Traditionally, most organizations look at their corporate performance by reviewing the financial aspects. However, financial measures alone are not a balanced view of the critical success factors of any organizations, mainly because financial measurements tend to measure the past. Therefore, what if an organization knows what has happened, if there are no explanations of “Why it has happened” (Sanger, 1998). In addition, underlying rationale in today’s organizations is not just to 2

measure the financial outputs but what influenced the financial inputs with which the productivity of employee can be generated continuously. For example, process performance, market share / penetration, long term learning and skills development.

Fig-1: Process Performance Frame Work: Financial managers translating the vision into operational goals

Communicating the vision and link it to individual performance

Business Planning

Feedback and learning, and adjusting the strategy accordingly

Kaplan, R. S and Norton, D. P. (1993) "Putting the Balanced Scorecard to Work", Harvard Business Review Sep – Oct Pp2-16

Process performance frame works perspective examines if the company’s implementation and execution of its strategy are contributing to the bottom-line improvement of the company. It represents the longterm strategic objectives of the organization and thus it incorporates the tangible outcomes of the strategy in financial terms. Humana, one of fortune 500 company in 2008 has stock options for the share holder, thus (Agents). Employees are constantly motivated to provide the customer quality and value added products and out of the box services and once deal is commit the stock option yield higher profits. This boils down to dividend they received from stocks. Therefore, Agents morale and motivation is constantly reiterating from financial manager through communicating the vision and link it to individual performance. Therefore, the company’s competitiveness in the market place is sustained. However, performance base bonuses can be viewed critically which allowed employee and staffs try to win among each other creating the company culture of competition and rivalries. There are also many aspects to consider surviving, sustaining, or competing in current turbulence global marketplace such as capturing more market share, establishing branding in market, acquiring weak competitors, developing Research & Development. In addition, many world-class manufacturers undertake continuous quality improvement initiatives to meet fast growing business’s challenges to improve operational efficiency and to drive quality across the enterprise. In G.E. for example, “Quality” is not only a value added strategy to be competitive in global market but also opportunity to bring the company far ahead (excel) compare to their competitors. “Globalization and instant access to information, products, and services have changed the way customers conduct business. Old business’s models such, as loyalty is no longer applicable. Today's competitive environment leaves no room for error”. (Lowe, 1998). The importance of the CFO's role in financial planning cannot be overemphasized. A solid financial plan, authored by the CEO and CFO, provides the backbone for a healthcare organization, linking the organization's strategic mission and vision to measurable financial goals. A well-developed financial plan helps the organization determine the critical relationship between strategy and financial capability and achieve operating results that ensure financial equilibrium.

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Finance in the world following Enron, WorldCom, and Tyco means that the CFO is first and foremost the chief accounting officer. Financial leaders must act on the fact that organizational credibility depends on the accuracy of financial statements. Although major audit firms have tightened standards, significant accounting decision points remain for the CFO, including recognition of loss on investments, pension accounting, accounting for acquisitions and divestitures, and accounting for derivative transactions. The changes in corporate performance evaluation stem from the share holder value movement of the 1980’s (Buckley and Casson, 1998). The share holder value perspective suggests that manager’s success can be measured by its ability to maximize the present value of future cash flows to corporate share holders. This model later evolved was implemented through the popular economic value added (EVA) measure of management performance as opposed to the short-term (ROI) measures. Economic value added provides a singular measure, adjusted to resolve accrual accounting issues that provides management with an explicit incentive structure that is intended to drive value creation for share holders. As firms at tempted to measure and manage the demands for value creation, at tension began to shift away from the sole use of financial measures. (Amir and Lev 1996), show that non-financial information is a critical element of the valuation process. The emerging model for multinational enterprises are the flexible organization (Buckley and Casson, 1998). Greater volatility is observable in global markets due to political and social disturbances. Thus, the flexible firm must be prepared to respond to change in a timely fashion. Decision timing is critical, the right investment decision for changed circumstances is of little value if it is made too late. Buckley and Casson point out that the cost of responding to change is smaller when the period of adjustment is longer. Forecasting change allows a longer adjustment period as compared to a more costly quick response after a competitor’s response to change is observed. Continuous monitoring of the business allows a longer adjustment period as compared to a less costly intermittent monitoring. Furthermore, one of the critical roles of managerial accounting is to identify and eliminate (or at least try to minimize) non-value adding activities throughout the value-chain. The ultimate goal is to promote value-adding activities. The mismatch between strategies and tactics, largely unintentional, with the overall goals and objectives of the organization trigger most of the non-value adding activities in operations. Non-value adding activities lead to higher production costs, inefficiencies, and hence the loss of profitability. Therefore, to remain relevant and to create value, performance measurement systems (PMS) must attempt to minimize this mismatch. Any misalignment at strategic levels gets amplified into a much larger mismatch of the goals at tactical operational levels. (Neely and Gregory and Platts, 1995), present a comprehensive literature survey and research agenda for PMS design. (Sriram, 1995), discusses the accounting information system for flexible manufacturing systems reviews provide a strong basis for the change in performance measures and costing system with the 5 objectives meeting (next page) the requirements of modern organizations.

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1. 2. 3. 4. 5.

Improved communication skills Willingness to benchmark Data to knowledge Reactive to proactive Total performance management (TPM).

1. Improved communication skills. Since the information has to be put to use immediately and keeps changing constantly the accounting professionals have to do a better job of communicating their findings. They have to be able to communicate directly and clearly with other managers within the enterprise who may not have the same level of sophistication in understanding the technicalities.

2. Willingness to benchmark. In order to retain their competitive edge the enterprises have to continuously improve themselves through benchmarking within and outside the enterprise. The accounting professionals within such an enterprise also have to be willing to learn and improve continuously.

3. Data to knowledge. The technology has mechanized and routinized mundane and mechanical tasks like bookkeeping and record keeping. The accounting professional of a 21st century virtual enterprise will have to have the ability to convert data into relevant information and knowledge that will contribute value.

4. Reactive to proactive. Being grounded in historical data, accounting information tends to be mostly reactive and lagging indicator. This is not enough for virtual enterprises. The accounting professional will have to make a conscious effort to go beyond the lagging mindset to a leading and proactive mindset.

5. Total performance management (TPM). Performance management is the responsibility of everyone in an organization and not just confined to accounting department. It is a new workplace culture that requires all people in the organization are accountable for their performance either individually or collectively. An interdisciplinary team consists of people from different functional areas should be formed for managing the performance at various levels of an organization

The knowledge productivity plays a major role in influencing the productivity of virtual enterprise and supply chain. This requires measuring the knowledge capital productivity and their implications on the overall performance of an organization. In e-commerce and virtual environments, logistics effectiveness contributes to the timely delivery of products to customers and markets; this area needs a set of new performance measures and metrics for measuring the productivity of logistics value chain. Researchers 5

and practitioners for developing new costing and PMS taking into account the new enterprise environment provided the directions and suggestions on the type of accounting systems required for managing the resources judiciously for producing high quality products and services in new economy. Toyota Motor Company of Japan developed the principles of Lean Production philosophy, under the supervision of engineer Taichi Ohno. (Howell, 1999). Toyota Production System, known as Lean Manufacturing is the key component in the success of the Japanese automobile industry (Womack and Jones, 1996), providing the framework to achieve the most with the least efforts and waste. Lean thinking focuses on a way to do more with less human efforts, less equipment, less time and less space while coming closer to providing customers with exactly what they want (Womack and Jones, 1996). The objective is to deliver the customer exactly what they want, in the exact amount and at the right time. Identification and elimination of the wastes of non-value added activities is a key component in a lean production system; rather than focusing on production, lean principles focus on efficiency. Reducing or eliminating non-value added tasks makes the process more efficient and therefore, increasing production. The Toyota Production System delineates seven types of waste categories. This includes waste due to over-production, waiting, transportation, motion, inventory, over-processing and defects. Extensive research has been conducted on the possibility of applying lean concepts to nonmanufacturing projects. (Alarcon, 1997), explored the benefits and the potentials of lean thinking and lean-production theory in the construction industry. (Ballard and Howell, 2004), considered improving the workflow reliability and proved that the application of traditional management techniques resulted in, on average, 54 percent failure rate of inspections because of variability in the workflow.

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The Service Management process coordinates and administers the building services related requests from the customer. It provides the interface between the customer and related maintenance departments. The customer of the process refers the worker who places the work order. Actuator of the process is the need for the service, caused by a breakdown or deficiency in the service. The customer initiates the process by placing a request. The work order is placed at the Work Reception and Coordination (WRC) centre, which is then forwarded to the concerned department. Based on the collected data from the six participating hospitals. It was found that work order for the SM process are mainly: telecommunications (5 percent), electrical (26 percent), sanitary installations (8 percent), furniture (9 percent), HVAC (12 percent), building related (20 percent, e.g. elevators, doors, etc.) and miscellaneous (20 percent) as shown in Figure below shows the SM process flow in a Rouen University Hospital in France. If SM is understood as a system, then the various sub-systems in the SM process are as follows: Fig – 2: Service Management process

Source: Eccles. R, (1991), “The Performance Measurement Manifesto.” Harvard Business Re view, January- February, Pp.131- 137.

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Acceptance / registration, planning, execution and documentation. The registration of the request takes place at WRC centre through a data entry form. If needed, the WRC centre examines the request by calling back the customer (worker who places the work order). After verification of the request, the work order is generated and forwarded to the concerned organizational unit. The respective organizational unit plans the execution of the work order on the basis of priority list. Small orders can be forwarded directly for execution. For orders of larger magnitudes that require funding from the capital budget, strict policy guidelines are followed. On the completion of the work order, the service report, containing the details of the work performed, is provided for documentation. If the customer (user of the facility) is not satisfied with the work, the order is placed again, undergoing the planning and execution cycle. The customer (worker who places the work order) is also required to confirm the completion of the work. This step ensures the information flow to WRC centre and also yields the information about the time/cost of completion and the variations in the work order. The information is used in the calculation and reallocation of costs under various work heads.

Conclusion and Discussion: In recent years, value creation in the global economy has stemmed from firms’ ability to manage and leverage human and information resources. The shift away from investment in physical capital presents managers with new strategy implementation and performance evaluation challenges. Moreover, In Global information highway financial managers are constantly changing their mindset and approach in such a way that would make them more proactive and participant in the decision-making process rather than just a data recorder and provider. The role of finance will shift from one of score keeping, governance and variance analysis to integrative evaluation of enterprise wide risks and opportunities. Financial managers will be called upon to integrate diverse sets of data and provide sophisticated analysis and support for critical business decisions.

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