STRATEGIC COST MANAGEMENT

MANAGEMENT ACCOUNTING – Basic Concepts

Management – is the process of planning, organizing, and controlling a certain task to realize
the objectives of the organization.

Basic Functions of Management

Planning - involves setting immediate and long-term objectives and deciding which alternative
is best suited to attain the set objectives.

An important part of planning is to identify alternatives and then to select from among
the alternatives the one that does the best job of furthering the organization’s objectives. Once
alternatives have been identified, the plans of management are often expressed formally in
budgets. Budgets are usually prepared under the direction of the controller, who is the manager
in charge of the accounting department. Typically, budgets are prepared annually.

Organizing - involves deciding how to utilize available resources as plans are carried out and
tackling activities necessary to achieve objectives such as staffing, subordinating, directing and
motivating.

Controlling – involves comparing actual performance with set plans and standards and deciding
what corrective actions to take should there be any deviation (variance) between actual and
planned performance.

In carrying out the control function, managers seek to ensure that the plan is being
followed. Feedback, which signals whether operations are on track, is the key to effective
control. A performance report compares budgeted to actual results. It suggests where operations
are not proceeding as planned and where some parts of the organization may require additional
attention.

NOTE: Decision-making is an inherent function of management; all management functions

would require certain amount of decision-making.

Management by Objectives – is a procedure in which a subordinate and a supervisor agree on

goals and the methods of achieving them and develop a plan in accordance with that agreement.
The subordinate is then evaluated with reference to the agreed plan at the end of the period.

Management by Exception – is a technique of highlighting those which vary significantly from

plans and standards in line with the management principle that executive time should be spent on
items that are non-routine and are identified as top priority.

Management Accounting -refers to reports designed to meet the needs of internal users,
particularly the managers. The American Association of Accountants (AAA) defined it as the
application of appropriate techniques and concepts in processing the historical and projected
economic data of an entity to assist management in establishing a plan for reasonable economic
objectives and in the making of rational decisions with a view towards achieving these
objectives.

Management Accounting vs. Financial Accounting

Managerial accounting is concerned with providing information to personnel within an

organization so that they can plan, make decisions, evaluate performance, and control operations.
There are no rules and regulations associated with this field since the information is intended
solely for use within the firm.

Financial accounting, in contrast, focuses on financial statements and other financial reports.
This area deals with reporting to groups outside of an organization (e.g., stockholders, lenders,
government agencies) so that some assessment of profitability and overall financial health can be
made. Given the large number of firms in our economy and the varying level of user
sophistication, the field is heavily regulated (by the Financial Accounting Standards Board and,
to a lesser degree, by the Securities and Exchange Commission).
The Controller: Chief Management Accountant

Controllership - is the practice of the established science of control, which is the process by
which management assures itself that the company’s resources are obtained and utilized
according to plans that are in line with the company’s set objectives.

Controller – is an officer of an organization who has responsibility for the accounting aspect of
management control. He generally performs two basic roles:
1. Accumulation and reporting of accounting information to all levels of management and;
2. Directing management’s attention to problems and assisting them in solving such problems.

Line Function vs. Staff Function

Line Function is the authority to give command or orders to subordinates. It exercises direct
downward authority over line departments (e.g., VP for operations over operations manager).

Staff Function is the authority to advise but not to command others; the function of providing
line and staff managers with specialized service and technical advice for support. It is exercised
laterally or upward.

- When it comes to the whole organization, a controller usually exercises staff functions
since its primary function is to give advice. But when it comes to its own department, a
controller exercises line functions among its own staff.
- A Treasurer usually exercises line functions within an organization

Standards of Ethical Conduct for Management Accountants

Management accountants have responsibility for ethical behavior in four broad areas,
Competence, Confidentiality, Integrity and Objectivity.

1. Competence - In order to be competent, management accountants must:

Maintain an appropriate level of professional competence.
Follow applicable laws, regulations, and standards.
Provide accurate, clear, concise, and timely decision support information.
Recognize and communicate professional limitations that preclude responsible judgment
2. Confidentiality - Management accountants must:
Not disclose confidential information acquired in the course of their work unless legally
obligated to do so.
Ensure that his subordinates do not disclose confidential information.
Not use confidential information for unethical or illegal advantage.

3. Integrity – Management accountants must:

Mitigate conflicts of interest and advise others of potential conflicts.
Refrain from conduct that would prejudice carrying out duties ethically.
Abstain from activities that might discredit the profession.

4. Objectivity – Management accountants must:

Communicate information fairly and objectively.
Disclose all relevant information that could influence a user’s understanding of reports and
recommendations.
Disclose delays or deficiencies in information timeliness, processing, or internal controls.

To sum up, Competence means having the capacity to function in a particular manner.
Confidentiality means having the ability to maintain or keep information undisclosed. Integrity is
defined as adherence to a code of moral values. Objectivity is defined as expressing or using
facts without distortion by personal feelings or prejudices.
Costs and Cost Concept

Cost Behavior

Cost Classification

Segregation of fixed and variable elements of mixed costs

The cornerstone of marginal costing and, to a great extent, managerial accounting, is the
economic concept that expenses are classified and classifiable as fixed and variable. This
assumption is not readily true in practice. Multifarious accounts are not classifiable as to either
purely fixed expense or purely variable expense. These “mixed costs” should be segregated as to
their fixed and variable components.

There are three (3) popular methods used in separating the fixed from variable costs of a mixed
account. All of them have their technical origin from the field of statistics. They are the
following:
1.High-low method

The high-low method is the traditional method of costs segregation. In statistics, it

is called as the “range analysis.” The principle used in the high-low method resides
on the assumption that any change in total costs is attributable to the change in
variable costs.

Variable cost rate is computed by dividing the change in costs over the related
change in base (e.g., unit of measure such as direct labor hours, direct labor costs,
machine hours, units of production, number of shipments, set-up time, and other
activity basis). After the variable cost rate is calculated, the total of fixed costs is
determined by getting the difference between the total costs and variable costs.
This process is sequentially presented below:

2. Scattergraph method

Scattergraph or “visual fit analysis” plots the observation on a graph, make an analysis on the
plotted observation, and draws conclusions on the relationships between the “Y” (cost) and the
“X” (base) variables. This method uses the principles found in a regression line. A regression
line is a straight line that depicts the relationships of two variables – one is independent (“X”)
and the other is dependent (“Y”). A regression line is normally expressed in the equation:

Y = a + bx where:
Y = dependent variable, the value to be determined
a = constant, or point of intercept
b = variable coefficient of x, or the slope
x = independent variable, the normally given value

The equation is a perfect resemblance of total cost where:

TC = FC + VC
TC = FC + (UCM) Units sold . . . . . . . . . Y = a + bx

Relating, we have:
Y = Total cost
 a = Fixed cost b = variable cost rate x
x = no. of units sold (or other basis

The scattergraph method provides the plotting of the observations on a graph to analyze the
relationship of “X” and “Y” variables. Normally, “X” represents the horizontal line or the units
of measure and “Y” represents the vertical line or the amount.

3. Least-squares method

The least squares method extends the regression line to the other quadrants in the holistic
quadrant analysis. By doing so, additional two formulas are derived and to be used in
determining the values of “a” and “b”. The complete formulas used in the least-squares method
follow