Cost Accounting, Strategy and Behavior

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Cost Accounting, Strategy and Behavior
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Objectives
Understand role of cost accounting and cost
management Understand different
strategies Corporate Business unit (our primary
focus) How cost management helps manage and
control organization strategy
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Cost Accounting
Objectives of cost accounting Measure product
costs of inventory and cost of goods
sold Absorption costing, variable costing,
ABC Allocate committed costs Create financial
measures of performance Financial
reporting Perhaps, internal performance
evaluations Focus on past outcomes
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Traditional Costing Systems
Job-order costing Unique, customized
production Process costing Undifferentiated,
continuous production Hybrid costing Features of
continuous production with some
customization Joint product costing Multiple
products from common resources
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Common Problems of Traditional Product Costing
Systems
Some costs can be traced to goods and
services Direct costs that must be purchased
(totally variable costs) Use of committed costs
that can be traced (variable costs) Committed or
fixed costs usually cannot be traced (indirect
costs) to products Can/should these costs be
attached/assigned/allocated to products and
services? Why or why not? How?
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How Traditional Systems Allocate Indirect Costs
Job-order costing Allocated to jobs Predetermined
OH rates (normal costing) Actual OH rates (actual
costing) Process costing Predetermined or actual
costs allocated to equivalent units Joint
product costing Predetermined or actual costs
allocated on physical units or net realizable
value
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Are these measures appropriate for managing or
controlling strategy?
Yes, if the most important measure of performance
is the same as financial reporting NI, NOI,
NIBT(net income before tax) , EBITDA(Earning
Before Interest, Tax, Depreciation and
amortization), etc. No, if other measures are
more relevant Adjusted financial measures EVA,
Residual income, etc. Lead indicators Nonfinancial
measures (quality, productivity, etc.) Financial
measures (costs, revenue growth, etc.)
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Cost Management Cost Accounting? No!
Cost management Creating more value at lower
cost Value defined by strategy Determined by
management decisions and external forces Cost
caused by volume, technology, products,
customers, facilities Determined by management
decisions and external forces Focus on future
outcomes
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Cost Management and Strategy
First question what business(es) to be
in? Concentrated in single industry? Diversified
in related industries? Diversified in unrelated
industries? Second question what is
responsibility of business units? Cost, profit,
investment? Diversified companies usually assign
profit or investment responsibility
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Business Unit Missions
Build - need to achieve growth High new market
potential Important to be early entrant Focus on
capturing market share Measures of
performance? Hold - need to maintain
growth Continuing market Must be major
player Focus on protecting market share Measures
of performance?
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Business Unit Missions (Cont.)
Harvest - need to maintain cash flow Mature
market Need to maintain volume Focus on cutting
costs Measures of performance? Divest - need to
exit at lowest cost Clearly declining market or
bad fit Need to minimize losses Focus on finding
buyer quickly Measures of performance?
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Business Unit Analysis - Analysis of Industry
Understand Porters five forces Industry
competition New entrants Customers Suppliers Subst
itutes Would these affect measures of
performance? Are these important to an analyst,
auditor, or consultant?
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Business Unit Analysis - Sources of Competitive
Advantage
Where in value chain does advantage
lie? Advantage based on low cost or
differentiation? Exploiting low cost requires
reducing costs and investment Exploiting
differentiation requires increasing value aka
key success factors Advantage based on
knowledge creation or copying? Knowledge creation
relies on human innovation Copying requires
scanning the competition Implications for
internal and management control?
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Framework for Analysis of Management Control
Design
Identify business unit mission Identify business
unit strategy Identify sources of business unit
competitive advantages Identify appropriate
management controls Organization
structure Assignment of responsibilities Performan
ce measures Other explicit controls in each
responsibility center Implicit controls in each
responsibility center
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Continuation of Analysis for Management Control
Are controls and measures matched to mission,
strategy, competitive advantages, and
responsibilities? Are people matched to business
unit needs? Is performance consistent with
needs? Recommendations for improvement?
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Attributes of Performance Measures
Communicate strategy Relevant right outputs and
inputs Accurate Objective without bias or
measurement error, not dependent on
observer Informative disclose efforts Good
basis for incentives Feasible benefits exceed
costs Causal reflect relations among measures
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Discussion of Factors That Affect Organizational
Behavior and Management Controls
Economic theories Psychological theories Roles
of accounting and finance
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Economic Factors that Affect Management Controls
Self-interested behavior Ownership of
resources Organization structure Delegation of
authority Agency relationships and
problems Rules of the game
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Self-interested Behavior
What does this mean? Is this assumption
descriptive? Alternative models of behavior?
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Ownership of Resources
Contributed capital Financial Physical Intellectua
l capital Human capital Structural capital
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Organization Structure
Functional Promotes specialization Inhibits
cooperation/coordination to serve
markets Business unit Promotes competition Require
s generality Enables quick response Matrix Promote
s flexibility Difficult to control and evaluate
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Delegation of Authority
Decision rights Accountability or
responsibility Look for good or bad fit between
rights and accountability
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Agency Relationships, Problems and Solutions
Self-interested behavior and unobservability of
efforts lead to Moral hazard Adverse
selection Solutions Incentives Monitoring Are
incentives and monitoring always the answer?
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• The Principle of Self-Interested Behavior
• With all else equal, people choose the action
  that is financially most advantageous to
  themselves.
• Does not imply that making money is the most
  important criteria.
• Consider charitable contributions.
• The Principle of Self-Interested Behavior
• Self-Interested behavior can lead to conflicts of
  interest in Principal-Agent relationships.

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Incentive Design
Match decision rights and accountability Individua
ls must be able to affect performance Measure
performance Accuracy Reliability Disputability Tie
rewards to performance Salary, bonus, stock,
stock options Evaluate performance Rewards or
punishment
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Roles of Accounting and Finance
Measurement Lead indicators Financial
outcomes Causal relations Analysis Causes of
outcomes Interpretation Alternative uses of
resources Communication Understanding and
commitment Management control system Know when
and when not to measure