FinancialandManagementAccounting

Unit8

Unit8
Structure: 8.1 Introduction Objectives 8.2 DecisionMaking

IntroductiontoManagementAccounting

SelfAssessmentQuestions1 8.3 Meaningandscope SelfAssessmentQuestions2 8.4 Costanalysis 8.5 Budgetarycontrol SelfAssessmentQuestions3 8.6 Standardcosting 8.7 Financialanalysis SelfAssessmentQuestions4 8.8 Relevantcost SelfAssessmentQuestions5 8.9 Managementaccountingframework 8.10 Functionofmanagementaccounting SelfAssessmentQuestions6 8.11 Specialfeatures 8.12 MeritsandDemerits 8.13 DistinctionbetweenM.AandF.A TerminalQuestions AnswertoSAQsandTQs

8.1Introduction
Managementaccountingisanaccountingservicetothemanagement.Itassiststhemanagersin the formulation of policy, taking a decision, control of execution. It focuses in increasing the managerial efficiency. Hence management accounting is also called as Accounting for Management. LearningObjectives: Afterstudyingthisunit,youshouldbeabletounderstandthefollowing 1. Spelloutthemeaning,scope,functions,specialfeatures,roleofManagementaccounting, 2. Exposethecostanalysis,
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3. Appreciatethebudgetarycontrol, 4. Dealwithstandardcosting, 5. Recognizethemeritsanddemeritsofmanagementaccounting, 6. Identifythedifferencesbetweenmanagementaccountingandfinancialaccounting, 7. Performsomebasicfinancialanalysis.

8.2DecisionMakingasaNucleusofManagement
Decisionmakinginanybusinessorganization(individualsorgroupsofindividuals)isprimarilya function of management. Decisionsarenormally taken under uncertainty. Decisionundertrial anderrororintuitionwillnotendingoodresults.Scientificdecisionneedtobemadefromtimeto time. For this, the management has to rely on the information supplied by professionals and specializedagencies.Oneoftheimportantcomponentsininformationcollectionisinthefieldof internal financial information. Accounting acts as abasis upon which crucial decisions can be made. The financial statements prepared in its traditional form may not convey the required informationfor taking decisions. Thefinancialinformationneed to befinetunedforuseby the busymanagement.Thisfunctionisbeingperformedbythemanagementaccounting. SelfAssessmentQuestions1 1. Decisionmakingisapainfulgame(Trueorfalse). 2. Decisionbasedontrialanderrormethodbringingoodresults(true/false). 3. Decisionsarenormallybasedonfinancialstatements(trueorfalse). 4. Financialinformationneedtobe________Forusebymanagement.

8.3MeaningAndScope
Managementaccountingisanaccountingservicetothemanagement.Itcoversallthoseservices bywhichtheaccountingdepartmentcanassistthemanagersintheformulationofpolicy,takinga decision,thecontrolofitsexecutionandtheappreciationofeffectiveness. As regards the scope of management accounting, it is very wide. It is based on historical financialdata.Itisconcernedwithfuture.Itusestheinformationavailablefromdifferentwalksof life like Political Science, Statistics, Mathematics, Economics, Cost Accounting and Financial Accounting.Themainpurposeofmanagementaccountingistoutilizeinformationinsolvingthe businessproblemsandtakingscientificdecisions.Hence,itisdifficulttopinpointtheexactscope. TheManagementAccountantseektosupportmanagementdecisionmakingbytheprovisionof information and the analysis of financial performance. As the data is required for internal

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purposes,themanagementaccountantisnotconstrainedbytheneedtocomplywithregulations oftheformatforpresentations.Themainscopeis: 1. Toidentifyandcalculatecostsofproduction.ThisisknownasCostAccounting 2. Toprovideestimatesforfutureexpensesandrevenues.ThisisknownasBudgeting 3. Toidentifyinefficiencieswithintheorganization 4. Tocontrolcostsandmanagetheflowofcash 5. To seek opportunitiese.g. toidentify taxbreaks, possible cost savings and movementsin foreignexchangerateswhichcouldbeexploitedbytheorganization. Themainmanagementaccountingtechniquesare: 1. Breakevenanalysis 2. Costing 3. Budgeting 4. RatioAnalysis 5. Varianceanalysis SelfAssessmentQuestions2 1. Functionofaccountingdepartmentis_______,________,_______,______. 2. MainpurposeofManagementaccountingis_______and______________.

8.4CostAnalysis
M.Atakeintoaccountsomeoftheconceptofcostaccountingtechnique.Thecostanalysisisan importantaspect.Amanagementaccountanthastofacequestionssuchaswhatwillourcostbe nextyear.Thisdeceptivelysimpleboundaryquestion. Suchquestioncanoccurinvirtuallyeveryaspectofworkandknowledgeofthepatternsofcost behaviorandwaysthatfuturecostcanbepredictedisfundamentalrequirementwhenconcerns withdecisionmakers.

8.5BudgetaryControl
Modernbusinessworldisfullofcompetition,uncertaintyandexposedtodifferenttypesofrisks. The complexity of managerial problems has led to development of various managerial tools, techniquesandproceduresusefulforthemanagementinmanagingthebusinesssuccessfully.In thisdirection,planningand controlplaysanimportantrole.Budgetingisthemostcommonand powerfulstandarddeviceofpallingandcontrol.

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Budgetary control is a technique of managerial control through budgets.. A budget is a quantitative expression of plan of action. . It is a predetermined detailed plan of action developed as a guide for future operation. According to Wheldon Budgetary control is the planninginadvanceofthevariousfunctionsofbusinesssothatthebusinessasawholecanbe controlled.Budgetarycontrolsdealswithplanning,coordination,recordingappraisalandfollow upofactions. SelfAssessmentQuestions3 1.Budgetis_____________________________Planofaction 2.Budgetarycontrolsdealswith_______,________,_______,_____,_____.

8.6StandardCostingandVarianceAnalysis
Businessesneedtoplanandbudgetfortheirfutureactivitiesiftheirobjectiaretobeachieved. Planningandbudgetingarenotenough.Itisnecessarytomonitorprogressagainsttheplanned outcomes to establish significant differencesand to permit corrective action to takeplace.This meansthatperformancemustberegularlyassessed,differencesidentifiedandplansrevised.. Althoughtheultimateobjectivesmaynotchange,thewayinwhichtheyaretobeachievedmay beverydifferentandmightmakeadditionaldemandsonresourcesthanoriginallyanticipated. Astandardisaspecifiedquantityormoneyamountthathasbeenestimatedwithreferenceto pastexperienceandthefutureexpectationsofefficiencylevels,productivityandprices.Product orservice costscan be estimated by ascertaining amountof materialif applicable,and direct labour spentoneach unit. This mightbedeterminedby observing what quantityof materialis usedinaproductandatwhichpriceitmaybepurchased.Itwillalsoinvolveestimatinghowlong a particular type of direct employees spend on various aspects of making the product or providing the service and what the various wage rates are for each type of labour involved. Therefore, the setting of these standards is a subjective process. The acceptable or desired standardsmayvaryfrommanagertosubordinate,fromindividualtoindividual.Standardcosting makes the planning and budgetingeasier and avoids the problem of completely reformulating budgets every period. Standards also provide a controlling mechanism where behavior is modified through motivation and appraisal. Standard costing allows management to locate operational problems. Standard costingis best applied to manufacturing concerns where many productsareproducedandtheircomponentsnumerous. Deviationfrom standardsiscalledvariance.Inbudgetinglanguage,adifferenceisknownas variance.Differencesbetweenbudgetedandactualperformancewillbereferredtoasvariances.

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8.7 FinancialAnalysis
Itistheprocessofdeterminingthesignificantoperatingandfinancialcharacteristicsofafirmfrom accountingdata.Anorganizationhastodealwiththreeareasviz.financialrecordsandexternal reports, accounting for management decisions and internal reports and finally financial assessmentandanalysis.Financialstatementanalysisisthereforelargelyastudyofrelationship amongthevariousfinancialfactorsinabusiness.Itistheprocessofselection,relationand evaluation. The focus of financial analysis is on key figures in financial statements and the significantrelationshipthatexistsbetweenthem.Thetechniqueoffinancialanalysisistypically devoted toevaluate thepast,present andprojectedperformanceofabusinessfirm. Financial analysisiscommonlycalledtheanalysisandinterpretationoffinancialstatements. SelfAssessmentQuestions4 1. Anorganizationhastodealwiththreeareas_______,_______and______. 2. Financialanalysisisalsoknownas_______________________________.

8.8RelevantCost
Management decision is based on relevant costs. Costs incurred in the past is sunk cost. Whethertoreplaceamachineoranotisadecisionnotbasedonhowmuchwasinvestedtobuy that machine. This is based on comparative cash inflows from replacements and additional investments necessary net of realization of the old asset. Thus, sunk costs are not relevant costs. Thus management accounting accumulates cost data but classifies them into relevant costs to aid management decisionmaking. Discretionary costs are incurred at the discretion of the management. A percentage of profit may be used for research and development. Unless discretionsarecompulsions,theseshouldnotbetreatedasrelevantcosts. SelfAssessmentQuestions5 1. Sunkcostis________________________. 2. Sunkcostsarenot__________________Costs. 3. A_______________________isusedforresearchanddevelopment.

8.9ManagementAccountingFramework
Forofferingaccountingandfinancialadviceaswellasforcapitalizingtheavailableopportunities for future development, it is necessary that an effective development, it is necessary that an effectiveframemustshouldbedesigned.Themanagementaccountantmustorganizethewhose accounting division in such a way that there is prompt and immediate recording of the entire
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information flow into the department from functional and service department. The frame must concentrateon. Gettingridofroutinework Reportingactualandplannedperformance Fixingorganizationalresponsibilities Applicationofnewmodernandmodifiedpracticesofanalyzingandinterpretingresults. Designingof soundandefficientorganization takingintoaccount thenative and sizeof the businessunit.

8.10 FunctionsofManagementAccounting
ManagementAccountingfunctionsnaybesaidtoincludeallactivitieswithcollecting,processing, interpreting and presentinginformationto management. More specifically, thefunctionsareas follows: Forecasting and Planning: Short and long term forecasts are very essential. Planning the futureoperationsofabusinessiscrucial.Necessaryinformationanddataforforecastingshould beprovidedfromtimetotime.Varioustoolsandtechniquesshouldbemadeuseof. Organizing: Organizing of finance and accounting functions is an important function of managementaccounting. Coordinating:Coordinationincreasestheefficiencyofanorganizationandmaximizesitsprofits. Controllingperformance:Themanagementaccountingisveryhelpfulincontrollingthefinancial performanceoftheorganizationthroughfinancialreporting,budgeting,financialanalysis. Communication: It is an important medium of communication. The management reporting mechanismisatypicalexampleofcommunicatingtheresultstothesuperiors. Otherfunctions: Managementaccountingservesinanumberofotherways.Itsuppliesuseful information to differentfunctional authorities. Itprovides accounting information andadvicefor price determination and pricing decisions. It also helps in making certain strategic decisions, decisions regarding seasonal or temporary suspension of production, make or buy decisions, replacementdecisions. SelfAssessmentQuestions6 1. Managementfunctionsinclude________,________,________,_________. 2. Controllingperformanceisdonethrough_______,__________,________.

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8.11SpecialFeaturesOfManagementAccounting
Accounting principles are manmade. Unlike the principle of natural science, accounting principles were not deducted from axioms, nor is their validity verifiable by observation and experiment.TheyhavebeenevolvedasnecessityisthemotherofinventionBasedonthisthe specialfeaturesare: 1. SelectiveinNature:Itistechniqueofselectivenature.Itpicksuponlythosedatawhich arerelevantfordecisionmaking. 2. ProvidesData:Thefunctionistoprovidedataandnotthedecision.Itcaninformbutit cannotprescribe. 3. Futureoriented:Ithelpsinplanningforthefuturedecisionandhencefutureoriented. 4. Cause and effect relationship : M.A studies the causes of profits or losses since the profit and loss account does not tell the reasons for profit or losses. M.A analyses the resultsofdifferentvariablesontheprofitsandtheprofitability. 5. NonAdherence of rules : M.A does not follows set rules and formats like financial accounting.Thebasictaskistomotivatemanagementaction.HenceM.Aisontheutility ofinformationandnotonformatsandlegalpresentation. 6. EconomicReality:Accountingdataandinformationrepresentstheeconomicactivities but M.A is used to guide future planning and decision making thereby representing the underlingeconomicrealitiesinaclearandunambiguousmanner. 7. Goal congruence : M.A normally encourages all employees to act in a fashion which contributestotheoverallobjectives. 8. Information system : An organization comprises a number of information system or networks.Inotheraccountingsystemtheinformationsystemarerarelyintegrated.Butin M.Athesearedesignedinaccordancewiththeprincipleofsystemtheorytomakeitmore efficient. 9. QuantitativeTechniques:Certainaspectsofmanagementaccountingparticularlyinthe areaofplanninganddecisionmaking,statisticalandoperationalresearchtechniquesare usedextensively,Byuseofit,aparticularsolutionisbeingrefinedforcosteffectiveness. 10. Uncertainty:Conditionsofcertaintyaresaidtoexistwhenasinglepointestimatecanbe made which will be exactly archived. Conversely, Uncertainty exists where there are variouspossibleoutcomesorresultsorvalues.

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8.12MeritsandDemeritsofManagementAccounting
Merits 1. Efficient palling and effective organization which are the end product of the system of managementaccountingbringsystematicregularityinthebusinessactivities. 2. Maximum return on capital employed is ensured by the use of management accounting becauseithelpsinthefunctionsofplanning,coordinationandcontrol 3. Betterandimprovedservicesby managementtocustomersareassuredbythissystem. 4. Managementaccountingremovesunacceptablestandardsorsubstandards. 5. Industrialrelationsmaybeimprovedbyadoptionofmanagementaccountingprinciples. 6. Eliminations of various types of wastages, production defectives and other related work deficienciesareremovedwiththehelpofmanagementaccounting. 7. Economicupliftofcommunityanddevelopmentofnationseconomycanbeachievedbythe useofmanagementaccounting. Demerits 1. MostoftheinformationusedinManagementaccountingarederivedfromfinancialaccounting recordsorcostaccountingrecordsotherrecords.Assuchfairnessandaccuracyofdecisions deduceddependstoagreaterextentuponfairnessandaccuracyoftheseoriginalrecords. 2. Decisions or conclusions derived are insignificant unless properly executed at all levels of businessoperations. 3. Management accounting is a mere tool for management. It cannot substitute for management. 4. The evolution has been on account of interalia development of new theories in other sciences.Hencethereisaneedtohaveacomprehensiveknowledgeandunderstandingof alltheserelateddisciplinestoderivethefulladvantage. 5. Managementaccountingisstillinitsevolutionarystage.Hence,thereisanuncertaintyinits use. 6. Theinstallation of management accountingisacostly affairand as such it hasvery limited scopeforitsuse.

8.13DistinctionBetweenManagementAccountingAndFinancialAccounting
Management accountinginitially is said toemanatefrom financial accountingin the sense that financialaccountinginthebeginningdesignedtosupplyinformationintheformofstatementsfor management use. In fact, both management accounting and financial accounting are

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complementaryinnaturetoeachother.Buttheyaredistinguishedintermsofkindandrelative importanceoftheproblemsinvolved

Area Objective Process Nature Flexibility Data Precision Legality Unitization Audit Publication TerminalQuestions

FinancialAccounting Limitedtothepreparation forexternaluse Recodingoffinancial transactions Itisobjective Itisrigid EmphasisonPastdata Itisprecise ItisalegalDocument Itcoversentire organization Compulsory Mandatory

ManagementAccounting Informationiscollectedforinternal communicationanduse. Dataiscollectedforinternaluse ItisSubjective Itisflexible Itlaysstressonfuture Itisapproximation Itisvoluntary Itisbasedonactivity,Department, Division Voluntary Voluntary

1. BrieflyexplainthemeritsanddemeritsofManagementAccounting. 2. DistinguishbetweenManagementAccountingandFinancialAccounting 3. DescribebrieflythescopeofManagementAccounting. 4. DescribethefunctionsofManagementAccounting. 5. DefineStandardCostingandVarianceAnalysis.

AnswerforSelfAssessmentQuestions SelfAssessmentQuestions1 1. False 2. True 3. False 4. Finetuned SelfAssessmentQuestions2 1. Topreparefinancialstatements 2. Formulationofpolicyandtakingdecision.

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3. Breakevenanalysis,Costing,Budgeting,Ratioanalysis,Varianceanalysis. SelfAssessmentQuestions3 1. Mostpowerful. 2. Planningandappraisal SelfAssessmentQuestions4 1. Financial,externalreports,Accounting. 2. Analysisandinterpretationoffinancialstatements SelfAssessmentQuestions5 1. Pastcost 2. Relevant. 3. Percentageofprofit. SelfAssessmentQuestions6 1. AllfunctionalActivities 2. Financialdocuments. AnswerforTerminalQuestions: 1. Refertounit8.12 2. Refertounit8.13 3. Refertounit8.3 4. Refertounit8.10 5. Refertounit8.6.

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