CHAPTER

Management Accounting and

Control Systems: Assessing
Performance Over the Value
Chain

Central Focus and Learning Objectives

This chapter presents the basic concepts underlying management
accounting and control systems. After studying this chapter, students
should be able to:
1. Apply the concept of control
2. Identify the characteristics of well-designed management accounting
and control systems (MACS)
3. Describe the total-life-cycle costing approach to managing product
costs over the value chain
4. Explain target costing
5. Explain Kaizen costing
6. Identify environmental costing issues
7. Apply the process of benchmarking the best practices of other
organizations

Management Accounting and Control Systems 1

Chapter overview This chapter begins with a general discussion of the meaning of
control, including the cycle of control. Characteristics of a well-
designed MACS are identified and explained. The concept of the
value chain is reviewed to ensure that students understand the
context within which the control system will be used.
Total-life-cycle costing is introduced . The various cycles within a
product’s total life cycle are identified and explained. Target
costing and Kaizen costing are introduced and compared with
conventional cost reduction efforts. Environmental costing is
introduced in this chapter because of the relationship between the
control of environmental costs and the total life cycle cost of a
product. The chapter concludes with an extended discussion of
benchmarking and competitive analysis.

Recommended Target costing

cases 1. AT&T Paradyne: The case raises the question whether a single
system can be used for inventory valuation, evaluation of
operational efficiency, profitability, and target costing. HBS
Product number is 195165; Teaching Note: 5-199-011
2. Nissan Motor Co. Ltd.: Target Costing System: Excellent
description of Nissan’s target costing system. HBS Product
Number is 194-040; Teaching Note: 5-195-063
3. Olympus Optical Co. Ltd. (A): Cost Management for Short
Life Cycle Products: Explores Olympus Optical's strategic
response to major losses in its camera business. Includes
analyses of continuous improvement and cost reduction
programs. HBS Product number is 195-072. Teaching Note:
5-195-074
4. Toyota Motor Corp.: Target Costing System: A “best
practices” case which looks at Toyota’s model for target
costing. HBS Product Number: 197-031.
Benchmarking
1. American Connector Co. (A): examines issues related to
benchmarking a competitor's manufacturing capabilities and
productivity. Requires comparison of two companies'
manufacturing strategies and their implications for productivity
and flexibility. HBS product number is 693-035; Supplement
(Field): 9-693-049; Teaching Note: 5-695-014
2. Techno Systems Corp.: Benchmarking Sourcing (Abridged):
examines the benchmarking process in the context of the
sourcing function at a $3 billion company which is in transition
from government work to commercial customers. Richard Ivey
School of Business/UWO Product Number: 95D001

Chapter outline I. What are management accounting and control systems?

A. Control refers to the set of procedures, tools, performance

Management Accounting and Control Systems 2

 measures, and systems that organizations use to guide and
Learning Objective 1: motivate all employees to achieve organizational
Apply the concept of objectives.
control. B. There are five stages in the control cycle of the typical
organization
1. Planning
2. Execution
3. Monitoring
4. Evaluation
5. Correcting

Learning Objective 2: II. Well-designed MACS typically share the following

Identify the characteristics
characteristics of A. Behavioral considerations:
well-designed 1. They incorporate the organization’s ethical code of
management
conduct.
accounting and
control systems
2. They use a mix of short and long-term qualitative and
(MACS). quantitative performance measures, or use a balanced
scorecard approach.
3. They empower employees to be involved in decision
making and MACS design.
4. They include an appropriate incentive system to
reward performance.
B. Technical considerations
1. Information is accurate.
2. Information is timely.
3. Information is consistent.
4. The system must be flexible, allowing adaptation to
local conditions.

Learning Objective 3: III. Total Life Cycle Product Costing — A Comprehensive

Describe the total- Approach to Cost Management. This approach integrates
life-cycle costing three life cycle concepts, which are:
approach to managing A. The research, development and engineering (RD&E)
product costs over the
cycle. This cycle has three stages:
value chain.
1. using market research to assess emerging customer
needs that leads to idea generation for new products.
2. product design.
3. product development.
B. The manufacturing cycle
1. Often during this stage there is little room for
engineering flexibility to influence product costs and
product design as these have been set in the previous
cycle.
2. As noted in Chapter 6, operations management
decisions such as the implementation of JIT can help
to reduce manufacturing life cycle costs.

Management Accounting and Control Systems 3

 C. The post-sale service and disposal cycle
1. This cycle begins once the first unit of product is in
the hands of the customer. Thus, there is overlap with
the manufacturing cycle
2. There are three stages of this cycle:
a. rapid growth, from the first shipment through the
growth stage of its sales cycle
b. transition, from the peak of its sales cycle to the
peak in the service cycle
c. maturity, from the peak in the service cycle to the
time of the last shipment made to a customer

Learning Objective 4: IV. Target costing

Explain target A. Target costing is a method of cost planning focused on
costing. reducing costs for products that require discrete
manufacturing processes and reasonably short product life
cycles.
B. Target costing is used during the RD&E cycle.
C. Traditional cost reduction begins with market research
into customer requirements followed by product
specification. Traditionally, at this stage, product cost is
not a significant factor for product design. After the
engineers and designers have determined product design,
they estimate product cost (Ct), where the t subscript
indicates numbers derived under traditional thinking. If
the estimated cost is considered to be too high, then it
might be necessary to modify product design. In order to
find the desired profit margin (Pt) it is necessary to
subtract the estimated cost from the expected selling price
(St). The profit margin is the result of the difference
between the expected selling price and the estimated
production cost. This relationship in the traditional system
is expressed below with the following equation: Pt = St –
Ct
D. Under the cost-plus method, an expected profit margin
(Pcp) is added to the expected product cost (Ccp ), where
the subscript cp indicates numbers derived under cost-
plus thinking. Selling price (Scp ), then, is simply the
result of the sum of these two variables. In equation form
this relationship for the cost-plus approach is expressed
as: Scp =  Ccp + Pcp. As in the first, traditional method
described above, product designers do not attempt to
achieve a particular cost target.
E. Under target costing, both the sequence of steps and way
of thinking about determining product costs differ
significantly from traditional western thinking. Refer to
Exhibit 7-54). The first two steps, (1) market research to

Management Accounting and Control Systems 4

 determine customer requirements, and (2) product
specification, are similar to traditional costing. After these
initial steps, the process is quite different. The next step,
determining a target selling price (Stc) and target
product volume, depends on the company’s perceived
value of the product to the customer. The target profit
margin (Ptc) results from a long-run profit analysis, often
based on return on sales (net income/sales). Return on
sales is the most widely used measure as it can be linked
most closely to profitability for each product produced.
The target cost (Ctc) is the difference between the target
selling price and the target profit margin. Note that the tc
subscript indicates numbers derived under the target
costing approach. This relationship for the target costing
approach is shown in the following equation: Stc = Ctc +
Ptc. It is important to understand several other elements in
the target costing method. Once the target cost is set, the
company must determine target costs for each component.
F. The value engineering process examines each
component of a product to determine whether it is
possible to reduce costs while maintaining functionality
and performance. In some cases, product design might
change, materials used in production might need
replacing, or manufacturing processes might require
being redesigned. For example, a product design change
might involve using fewer parts or reducing specialty
parts if the company can use more common components.
Several iterations of value engineering usually are
required before it is possible to determine the final target
cost.
G. Concerns about target costing include:
1. Conflicts can arise among organizational units
(manufacturing vs. marketing) if the entire
organization does not understand the target costing
process and how difficult it is to squeeze pennies out
of the cost of a product.
2. Employees under target costing experience a great
amount of pressure to meet goals. and often burnout
occurs.
3. Development time may increase due to the repeated
value engineering cycles to reduce costs. This may
slow time to market.

Learning objective 5: V. Kaizen costing

Explain Kaizen A. Kaizen costing is similar to target costing in its cost
costing. reduction mission, except that it is focused during the
manufacturing stage of the total life cycle.

Management Accounting and Control Systems 5

 B. Kaizen means making improvements to a process through
small, incremental amounts, rather than through large
innovations.
C. There are fewer opportunities to effect change with
Kaizen costing than target costing since Kaizen costing
occurs once the product and manufacturing process have
been designed.
D. Kaizen costing differs from standard costing in the
following ways:
1. Under standard costing, a cost control system concept
is used, stability in current manufacturing processes is
assumed, and the goal is to meet performance
standards. However, under target costing a cost
reduction concept is used, continuous improvement in
manufacturing is assumed, and the goal is to achieve
cost reduction standards.
2. 2. Under standard costing, standards are set annually
or semiannually, cost variance analysis involves
comparing actual to standard costs, and cost variance
investigation occurs when standards are not met.
Under target costing, cost reduction targets are set and
applied monthly and Kaizen methods are applied all
year long to achieve targets.
3. Managers and engineers are assumed to have the best
knowledge to reduce costs under standard costing,
while workers who are closest to the process are
thought to have the best insight into how cost should
be reduced.
E. Kaizen costing also has been criticized for placing
enormous pressure on employees to reduce every possible
cost. To address the problem, some Japanese automobile
companies use a grace, or cost sustainment, period in
manufacturing just before a new model is introduced.
This allows employees the chance to learn about any new
procedures before the company imposes Kaizen targets on
them.

Learning Objective 6: VI. Environmental costing is an attempt to take the explicit and
Identify implicit environmental cost associated with a product into
environmental costing account during the production process.
issues. A. Explicit costs include the direct costs of modifying
technology and processes, costs of cleanup and disposal,
cost of permits to operate a facility, fines levied by
government agencies, and the costs of litigation.
B. Implicit costs are more closely tied to the infrastructure
required to monitor environmental issues, and include
administration and legal counsel, employee education and

Management Accounting and Control Systems 6


Learning Objective 7: VII. Benchmarking
Apply the process of
benchmarking the
best practices of other
organizations.
awareness, and the loss of good will in the event of
disaster.
A. The five stages of the benchmarking process are
identified in the table in Exhibit 7-109.
B. Since many students may not have direct experience with
benchmarking, one way to illustrate the benchmarking
process and the framework below is to use problem 7-59
as a motivator for class discussion.
Management Accounting and Control Systems 7
Chapter quiz

1. Which of the following cycles is not part of the total life cycle costing approach?
a. the RD&E cycle
b. the manufacturing cycle
c. the research, development and post-manufacturing cycle
d. the post-sale service and disposal cycle

2. According to the text, a dollar spent on activities that occur during the RD&E cycle:
a. can save up to $80-$100 on manufacturing and post-manufacturing activities.
b. can save up to $8-$10 on manufacturing and post-manufacturing activities.
c. can save up to $20-$30 on manufacturing and post-manufacturing activities.
d. can save up to $30-$40 on manufacturing and post-manufacturing activities.

3. Which of the following statements is true?

a. The target cost is the expected selling price less the expected profit margin.
b. The target cost is the expected selling price less the target profit margin.
c. The target cost is the target selling price less the expected profit margin.
d. The target cost is the target selling price less the target profit margin.

4. All of the following statements are true about value engineering, EXCEPT:
a. value engineering has its greatest impact during the manufacturing stage of the
total product life cycle.
b. value engineering is a method that examines each component of a product to
determine whether it is possible to reduce costs while maintaining functionality
and performance.
c. several iterations of value engineering are required before it is possible to
determine the final target cost.
d. as a result of value engineering, product design might change or materials used in
production might need to be replaced.

5. Which of the following statements regarding Kaizen costing is false?

a. Investigation of cost variances occur when Kaizen targets are not attained.
b. Workers have the best knowledge to reduce costs.
c. Managers and engineers have the best knowledge to reduce costs.
d. The Japanese term, Kaizen, means making improvements through small,
incremental amounts.

6. Which of the following are concerns about target costing?

a. Conflicts may arise within organizations.
b. Employees may experience burnout due to the pressures of meeting target costs.
c. Development time may increase.
d. all of the above

7. A firm that is interested in benchmarking should look only at other firms within the
same industry.
a. true

Management Accounting and Control Systems 8

 b. false

8. All of the following are methods of information collection when an organization is

engaged in benchmarking, EXCEPT:
a. database method.
b. the bilateral method.
c. the indirect/third party method.
d. the Group method.

9. Which of the following is NOT an important factor in developing a benchmarking

partner?
a. the partner’s debt-to-equity ratio
b. the size of the partner
c. the number of partners
d. the degree of trust among partners

10. In benchmarking the target costing system of another organization, all of the
following are factors to benchmark, EXCEPT:
a. the method by which target product volume is determined.
b. the organization’s relationships with suppliers.
c. the method by which the expected selling price is set.
d. how value engineering is employed in the organization.

Management Accounting and Control Systems 9

Solutions to chapter quiz

1. c
2. b
3. d
4. a
5. c
6. d
7. b
8. b
9. a
10. c

Management Accounting and Control Systems 10