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Chapter 1- Cost Accounting: Information for Decision Making

• Measuring the effects of decisions on the value of the organization is one of the fundamental
services of cost accounting.
• Value chain- Set of activities that transforms raw resources into the goods and services that
end users purchase and consume
o Ex) component = production, activities = collection of resources to produce a product
or deliver a service, costs = machines and equipment and factory personnel
• Value added activities- activities that customers perceive as adding utility to the goods or
services they purchase
• Before product ideas are formulated, no value exits. Each component added increases value
to the product or service

Supply Chain and Distribution Channel

• Supply chain- set of firms and individuals that sells goods and services to the firm
• Distribution chain-set of firms and individuals that buys/distributes goods and services from
the firm
• Value chain is important because it creates the value for which the customer is willing to pay
o Firms need to decide where in the value chain a value added component is performed
most cost effectively

Using Cost Information to Increase Value

• The measurement and reporting of costs is a valuable activity

Accounting and the Value Chain

• Cost accounting- need to understand how the individual stages contribute to value and how
to work with other managers to improve performance

Accounting Systems
• Financial Accounting (External)
o Reports financial position and income according to the accounting rules. Designed for
decision makers who are not directly involved in the daily management of the firm.
o Financial accounting data is comparable across firms
• Cost Accounting (Internal)
o Measures, records and reports information about costs. Designed for managers.
o No need for information to be comparable to similar information in other organizations
o Add value to organization by making good decisions. Better decisions = better
• Cost Accounting, GAAP and IFRS
o GAAP- Generally Accepted Accounting Principles- rules to follow when preparing
financial statements
o IFRS- International Financial Reports Standards
o Cost Accounting info for financial accounting needs to be in accordance with GAAP and
o Cost data for managerial purposes need not comply with GAAP and IFRS
• Customers of Cost Accounting
o Production level- cost info needed to control and improve operations
o Middle mgmt level- cost info is used to identify problems by highlighting when some
aspect of operations is different from expectations
o Executive level- info used to assess company’s overall performance
o Criticisms
 Misuse of cost accounting information, not information itself
 Problems when managers attempt to use accounting information that was
developed for external reporting for decision making

Our Framework for Assessing Cost Accounting Systems

• Managers are paid to make decisions. The decisions managers make are only as good as the
information they have
• Finding and Eliminating Activities That Don’t Add Value
o Non-value added activities- activities that do not add value to the good or service from
the customer’s perspective (ex. Moving inventory, reworking defective units)
 Activities cause costs so managers need to eliminate non value added activity
o A well designed cost accounting system can identify non value added activities that
cross boundaries in the value chain (ex. Order products through automated system
instead of fax. Saves on order entry costs and reduced error of entering order twice)
o Cost-benefit analysis- process of comparing benefits with costs associated with a
proposed change within an organization
 If benefits do not exceed the costs, do not implement
• Identifying Strategic Opportunities Using Cost Analysis
o Using value chain and other info about costs of activities, companies can identify
strategic advantages in the marketplace (eliminate non value activity = cost savings =
lower price to customers or better service = advantage over competition)

Cost Data for Managerial Decisions

• Costs for Decision Making
o Cost driver- factor that causes of “drives” cost
 Ex. Number of cookies made is a cost driver that causes “drives” labor
 Manager must try to predict future events. Cost accounting has more to do with
estimating future costs that recording past costs
 Differential costs- costs that change in response to a particular course of action
 Differential revenues- revenues that change in response to a particular course
of action
• Costs for Control and Evaluation
o Responsibility center- specific unit of an organization assigned to a manager who is
held accountable for its operations and resources
 Each manager responsibility for costs and revenue of his/her center
o Budgeting
 Each responsibility center typically has a budget
 Budget- financial plan of the revenues and resources needed to carry out
activities and meet financial goals
 Budgeting helps managers decide whether their goals can be achieved and if
not, what modifications are necessary
 Resources that a manager actually uses are compared with the amount
budgeted to assess the responsibility centers and managers performance
 By comparing actual results with budgets, managers can do things to change
their activities or revise their goals and plans

Trends in Cost Accounting throughout the Value Chain

• Cost Accounting in Research and Development (R&D)
o Product engineers need cost accounting information to make decisions about
alternative materials
 Ensure cost effective designs for products (suppliers)
• Cost Accounting in Design
o The design of a product can have a significant impact on the cost to manufacture it
o Activity based costing (ABC)- costing method that first assigns costs to activities
and then assigns them to products based on the products consumption of activities.
 Assigns costs to products based on several activities depending on how they
drive costs
 ABC provides more detailed cost information enabling managers to make more
informed decisions
• Cost Accounting in Purchasing
o Performance measures- metric that indicates how well an individual, business unit,
product or firm is working
o Helps to keep supply chain lean and add value throughout the chain
o Benchmarking- continual process of measuring a company’s own products, services
and activities against competitor’s performance
• Cost Accounting in Production
o Use cost info in the production stage to understand and report the costs of the multiple
products produced
o One of the most important developments in production is the just in time (JIT) method.
 Companies produce or purchase units just in time for use, keeping inventory at a
o Lean accounting- provides measures at the work cell or process level and minimizes
wasteful or unnecessary transaction processes
o Efficient use of capacity in providing services is critical in increasing value
• Cost Accounting in Marketing
o Marketing managers require cost accounting info to understand the profitability of
different customer groups
o Customer Relationship Management (CRM)- system that allows firms to target
profitable customers by assessing customer revenues and costs
• Cost Accounting in Distribution
o Estimate whether it is more efficient to perform an activity in the firm or have another
firm produce the product or perform the service (Outsourcing)
• Cost Accounting in Customer Service
o Total quality management (TQM)- management method by which the organization
seeks to excel on all dimensions with the customer ultimately defining quality
o Cost accountant help managers make decisions about quality in 2 ways
 1) cost of quality (COQ) systems identify the costs associated with producing
defective units as well as the lost sales associated with poor quality products
 2) provide information on projected warranty claims which can be compared to
the increase in revenues estimated from offering a longer or more
comprehensive warranty
• Enterprise Resource Planning (ERP)- information technology that links the various
processes of the enterprise into a single comprehensive information system
o By integrating these systems, managers hope to avoid lost orders, duplication of effort
and costly studies to determine what is the current state of the enterprise

Choices: Ethical Issues for Accountants

• Ethics- discuss, clarify, consult
• Sarbanes-Oxley Act of 2002 and Ethics