For the exclusive use of U. Putro, 2015. a ESE i Business School cn-2as-t University of Navara sume 2074 Introduction to Managerial Accounting What Is Managerial Accounting? Accounting systems are measurement procedures that have the objective of providing useful information about a company. However, there are different users of accounting information For example, the information that a creditor needs before entering into a loan contract with a company is not necessarily the same information that a manager needs to run the company. While the creditor is interested in information about a firm's ability to repay its debt, the manager is more interested in other information such as product profitability deviations from the budget or divisional performance. Thus, these different types of formation require accounting systems with different measurement criteria. ‘The main objective of financial accounting is to provide information about a firm to external parties such as investors, creditors or regulators. Since managers have more information about the firm than these external parties, managers could manipulate accounting numbers to suit their own interests. One reason why we need financial accounting rules is to reduce this risk of accounting manipulation, However, firms also produce economic information for internal use. We refer to the internal economic measurement procedures that help managers run a business as_managerial accounting. Given that managers do not shate this information with external parties, there is no risk of accounting manipulation and thus there is no need for regulatory standards or for conservative measurement criteria. Managerial accounting does not necessarily follow ‘externally enforced rules such as GAAP,' IFRS? or tax rules, but rather economic principles that need to be applied on a case-by-case basis. This technical nate was prepares by Professor Gaia Orszaba and Eduard Soler, Lecture. une 2014 Copyright ©2014 ESE. To nde copies contact ESE Publishing via wwwiesep com ltematvey, write to iesep@iesepcom, send a fax to +38 932536 343 or call 34932 536 558. No part of the publication may be reproduced stored i» revival system, used ina spreadsheet, or tarsi In any form or by any means ~ electron, mechanical photocopying, ecrding. or otherwise ~ without the permission of HSE. Last edited: ea “This doaumert sauharzed ruse oly by Utomo Sana, Puro 2015 ‘Ths Matera only tobe used a conjunction with MBAITE LecturesFor the exclusive use of U. Putro, 2015. H22- —Intotectin Specifically, managerial accounting consists of quantification procedures with the following objectives: 1, Evaluating decision alternatives 2. Evaluating the performance of the business. 3. Evaluating managers and employees to achieve goal congruence. Evaluating Decision Alternatives ‘An important part of running a business is making reasonable decisions. Although the most portant decision criteria are not always monetary, understanding the economic consequences of decision alternatives is central to the decision-making process. In the first part of the course we will analyze decision alternatives from an economic perspective. For example, we will analyze decisions such as discontinuing the production of one product, outsourcing part of the production process, entering into a supply contract with a large distribution chain or giving a substantial discount to a large client. This analysis requires quantifying the impact of the decision alternatives on the firm's economic performance. ‘Traditionally, this part of managerial accounting is also known as “cost analysis,” “cost accounting” or “cost management." From a methodological perspective, we will micasure the differential economic impact of the alternatives considered. In other words, we will learn how to quantify how much more ‘monetary value one alternative would generate compared to the other(s) alternativels). Evaluating the Performance of the Business ‘The second objective of managerial accounting is to help managers evaluate the business. For example, firms use managerial accounting concepts and techniques to quantify the profitability of their products and clients, to evaluate the performance of their divisions, departments or other organizational units and/or to analyze deviations from the budget. With this objective in mind, in the second part of the course we will learn how to: i) Allocate costs that are shared by various divisions, products or clients. The cost allocation procedures of a firm are called Cost Systems. ii) Analyze the causes of deviations from the budget. This is called Variance Analysis. i) Set prices for internal transactions. This is called Transfer Pricing. iv) Design metrics that will be informative about the performance of the business of its organizational units, This is called Performance Measurement, 3 these names are samewhat debatable ecu, aon cos, rvenes ate alo relevent fr deson making. z SE Busines Scho-Unerty of Novara ‘This canes suthoszed fr use ony Uo Sarno, Pu 2015.e use of U. Putro, 2015. Introduction a Manager Accounting 1223-6 Evaluating Employees’ Performance to Achieve Goal Congruence In most companies, a CEO has to delegate some decisions (0 divisional managers or other people in the organization. Unfortunately, delegation can introduce some problems. For example, a sales manager could decide to lower the price of a product in the hope of inereasing sales volume because his or her bonus is computed based on revenue volume. However, that product could no longer be profitable for the company at the reduced price. ‘This is an example ofa situation in which there is a conflict between the company’s interests and the interest of an individual (or a group of individuals) in the organization. Similar problems could arise across other functional areas or divisions and even between the shareholders and the top management of the firm. We refer to the objective of avoiding these delegation problems as achieving goal congruence, Le. alignment between the firm's interests and the interests of the individuals working for the firm, To avoid delegation problems, some companies centralize certain decisions and establish ‘monitoring systems, such as internal auditing. to enforce the implementation of the decisions made by the headquarters. However, because itis usually not practical to centralize all decisions, ‘many companies use monetary incentive systems to align the firm's economic interests with those of the individuals working for the firm. Probably the most common incentive system is a bonus scheme that defines an individual's payoff (for example, 2 bonus for the head of a division) based on a given performance measure (for example, divisional profits) Another objective of managerial accounting is to help evaluate the performance of individuals in decentralized organizations. In so far as this performance evaluation is quantitative, internal accounting criteria are needed to isolate individuals’ contributions to firm performance. However, note that employees’ behavior will be shaped by the way they fare evaluated and thus the measurement criteria we use will determine whether goal ‘congruence is achieved. For example, should we include corporate overhead costs to compute divisional profits if divisional profit is the metric used to determine division managers’ annual bonuses? Which criterion should we use to allocate corporate overhead costs across divisions for individual compensation purposes? What bchavior could this allocation system Induce among division managers? In the second part of the course, we will learn how internal accounting systems can be used not only to evaluate business performance, but also to achieve goal congruence. Specifically, ‘we will analyze the incentive consequences of cost allocation criteria, individual performance valuations based on variance analysis, transfer prices, pevformance metrics and compensation schemes, Let us finish with some terminological remarks, Sometinics, the mechanisms to achieve goal congruence are called control systems, and the tools 10 evaluate business performance are referred to as information systems. At other times, you will see the term management control systems applied not only to the quantitative tools used! to evaluate business performance and achieve goal congruence, but also to other non-monetary mechanisms with these same objectives (for example, monitoring mechanisms, boundary systems, etc). Thus, the management accounting concepts and quantitative techniques we study in this course are an important subset of the tools firms use to design their monagement control systems, but there are others. IESE Basics SehoobUniveniyof Naar [3