Thursday, August 15, 2013

DU Semester V: Introduction to Management Accounting

A. Management Accounting: Meaning and Definitions:
The term management accounting refers to accounting for the management. Management accounting provides necessary information to assist the management in the creation of policy and in the day-to-day operations. It enables the management to discharge all its functions i.e. planning, organization, staffing, direction and control efficiently with the help of accounting information.

In the words of R.N. Anthony “Management accounting is concerned with accounting information that is useful to management”.

Anglo American Council of Productivity defines management accounting as “Management accounting is the presentation of accounting information is such a way as to assist management in the creation of policy and in the day-to-day operations of an undertaking”.

According to T.G. Rose “Management accounting is the adaptation and analysis of accounting information, and its diagnosis and explanation in such a way as to assist management”.

From the above explanations, it is clear that management accounting is that form of accounting which enables a business to be conducted more efficiently.

Characteristics of Management Accounting:
1. Management accounting enables future forecasting.
2. It is selective in nature.
3. Supplies Data, Not Decisions.
4. Integrated system.
5. It is a service functions which provides information to the management for formulating policies.
6. Established financial accounting rules are not followed in Management Accounting.
7. Management Accounting emphasizes, specially, on cause and effect relationship.
8. Emphasis is placed on nature of Cost Elements.
9. Management accounting is a developing subject.
10. Potentiality of development as a profession.

Objectives of Management Accounting:
The objectives of management accounting are:
Ø  To assist the management in promoting efficiency. Efficiency includes best possible services to the customers, investors and employees.
Ø  To prepare budget covering all functions of a business (i.e. production, sales, research and finance).
Ø  To analysis monetary and non-monetary transactions.
Ø  To compare the actual performance with plan for identifying deviations and their causes.
Ø  To interpret financial statements to enable the management to formulate future policies.
Ø  To submit to the management at frequent intervals operating statements and short-term financial statements.
Ø  To arrange for the systematic allocation of responsibilities.
Ø  To provide a suitable organization for discharging the responsibilities. In short, the objective of management accounting is to help the management in making decisions and implementing them efficiently.

B. Scope of Management Accounting
The field of management accounting is very wide. The main purpose of management accounting is to provide information to the management to perform its functions of planning directing and controlling. Management accounting includes various areas of specialization to render effective service to the management.
a)      Financial Accounting: Financial Accounting deals with financial aspects by preparation of Profit and Loss Account and Balance Sheet. Management accounting rearranges and uses the financial statements. Therefore it is closely related and connected with financial accounting.

b)      Cost Accounting: Cost accounting is an essential part of management accounting. Cost accounting, through its various techniques, reveals efficiency of various divisions, departments and products. Management accounting makes use of all this data by focusing it towards managerial decisions.

c)       Budgeting and Forecasting: Budgeting is setting targets by estimating expenditure and revenue for a given period. Forecasting is prediction of what will happen as a result of a given set of circumstances. Targets are fixed for various departments and responsibility is pinpointed for achieving the targets. Actual results are compared with preset targets and performance is evaluated.

d)      Inventory Control: This includes, planning, coordinating and control of inventory from the time of acquisition to the stage of disposal. This is done through various techniques of inventory control like stock levels, ABC and VED analysis physical stock verification, etc.

e)      Statistical Analysis: In order to make the information more useful statistical tools are applied. These tools include charts, graphs, diagrams index numbers, etc. For the purpose of forecasting, other tools such as time series regression analysis and sampling techniques are used.

f)       Analysis of Data: Financial statements are analysed and compared with past statements, compared with those of other firms and with standards set. The analysis and interpretation results in drawing reports and presentation to the management.

g)      Internal Audit: Internal audit helps the management in fixing individual responsibility for internal control.

h)      Tax Accounting: Tax liability is ascertained from income statements. Knowledge of tax provisions helps the management in meeting the tax liabilities and complying with other legislations like Sales tax, Companies Act and MRTP Act.

i)        Methods and Procedures: In includes keeping of efficient system for data processing and effective reporting of required data in time.

C. Functions of Management Accounting
Main objective of management accounting is to help the management in performing its functions efficiently. The major functions of management are planning, organizing, directing and controlling. Management accounting helps the management in performing these functions effectively. Management accounting helps the management is two ways:
I. Providing necessary accounting information to management
II. Helps in various activities and tasks performed by the management.

I. Providing necessary accounting information to management:

(a) Measuring: For helping the management in measuring the work efficiency in different areas it is done on the past and present incidents with context to the future. In standard costing and budgetary any control, standard and actual performance is compared to find out efficiency.

(b) Recording: In management accounting both the quantitative and qualitative types of data are included and this accounting is done on the basis of assumptions and even those items which cannot be expressed financially are included in management accounting.

(c) Analysis: The work of management accounting is to collect and analyze the fact related to the managerial problems and then present them in clear and simple way.

(d) Reporting: For the use of management various reports are prepared. Generally two types of reports are prepared:-
a. Regular Reports
b. Special Reports.

II. Helping in Managerial works and Activities:

The main functions of management are planning, organizing, staffing, directing and controlling. Management accounting provides information to the various levels of managers to fulfill the above mentioned responsibilities properly and effectively. It is helpful in various management functions as under:-

(a) Planning: Through management accounting forecasts regarding the sales, purchases, production etc. can be obtained, which helps in making justifiable plans. The tools of management accounting like standard costing, cost -volume-profit analysis etc. are of great managerial costing, help in planning.

(b) Organizing: In management accounting whole organization is divided into various departments, on the basis of work or production, and then detailed information is prepared to simplify the thing. The budgetary control and establishing cost centre techniques of management accounting helps which result in efficient management.

(c) Staffing: Merit rating and job evaluation are two important functions to be performed for staffing. Generally only those employs are useful for the organization, whose value of work done by them is more than the value paid to them. Thus by doing cost-benefit analysis management accounting is useful in staffing functions.

(d) Directing: For proper directing, the essentials are co-ordination, leadership, communications and motivation. In all these tasks management accounting is of great help. By analyzing the financial and non financial motivational factors, management accounting can be an asset to find out the best motivational factor.

(e) Co-ordination: The targets of different departments are communicated to them and their performance is reported to the management from time to time. This continual reporting helps the management in coordinating various activities to improve the overall performance.

D. Advantages and Limitations of Management Accounting

The advantages of management accounting are summarized below:

a)      Helps in Decision Making: Management accounting helps in decision making such as pricing, make or buy, acceptance of additional orders, selection of suitable product mix etc. These important decisions are taken with the help of marginal costing technique.

b)      Helps in Planning: Planning includes profit planning, preparation of budgets, programmes of capital investment and financing. Management accounting assists in planning through budgetary control, capital budgeting and cost-volume-profit analysis.

c)       Helps in Organizing: Management accounting uses various tools and techniques like budgeting, responsibility accounting and standard costing. A sound organizational structure is developed to facilitate the use of these techniques.

d)      Facilitates Communication: Management is provided with up-to-date information through periodical reports. These reports assist the management in the evaluation of performance and control.

e)      Helps in Co-coordinating: The functional budgets (purchase budget, sales budget, and overhead budget etc.) are integrated into one known as master budget. This facilitates clear definition of department goals and coordination of their activities.

f)       Evaluation and Control of Performance: Management accounting is a convenient tool for evaluation of performance. With the help of ratios and variance analysis, the efficiency of departments can be measured which assists management in the location of weak spots and in taking corrective actions.

g)      Interpretation of Financial Information: Management accounting presents information in a simple and purposeful manner. This facilitates quick decision making.
h)      Economic Appraisal: Management accounting includes appraisal of social and economic forces and government policies. This appraisal helps the management in assessing their impact on the business.

Management accounting suffers from the following limitations:
a)      Based on Accounting Information: Management accounting derives information from past financial accounting and cost accounting records. If the past records are not reliable, it will affect the effectiveness of management accounting.

b)      Wide scope: Management accounting has a very wide scope incorporating many disciplines. This results in inaccuracy and other practical difficulties.

c)       Costly: The installation of management accounting system requires a large organization. Hence, it is very costly and only big concerns can afford to adopt it.

d)      Evolutionary Stage: Management accounting is still in its initial stages. Tools and techniques are not fully developed. This creates doubts about the utility of management accounting.

e)      Opposition to Change: Introduction of management accounting system requires a number of changes in the organization structure, rules and regulations. This rearrangement is not generally liked by the people involved.

f)       Intuitive Decisions: Management accounting helps in scientific decision making. Yet, because of simplicity and personal factors the management has a tendency to arrive at decisions by intuition.

g)      Not an Alternative to Management: Management accounting will not replace the management and administration. It is a tool of the management. Decisions are of the management and not of the management accountant.

E. Difference between Cost accounting and Management Accounting
Cost accounting and Management accounting are two modern branches of accounting. Both the systems involve presentation of accounting data for the purpose of decision making and control of day-to-day activities. Cost accounting is concerned not only with cost ascertainment, but also cost control and managerial decision making.
Management accounting makes use of the cost accounting concepts, techniques and data. The functions of cost accounting and management accounting are complimentary. In cost accounting the emphasis is on cost determination while management accounting considers both the cost and revenue. Though it appears that there is overlapping of areas between cost and management accounting, the following are the differences between the two systems.
Cost accounting
Management accounting
a)   Purpose
The main objective of cost accounting is to ascertain and control the cost of products or services.
The function of management accounting is to provide information to management for efficiently performing the functions of planning, directing, and controlling.
b)   Emphasis
Cost accounting is based on both historical and present data.
Management according deals with future projections on the basis of historical and present cost data.
c)    Principles
Established procedures and practices are followed in cost accounting.
No such prescribed practices are followed in Management accounting.
d)   Data
Cost accounting uses only quantitative information.
Management accounting uses both qualitative and quantitative information.
e)   Scope
Cost accounting is concerned mainly with cost ascertainment and control.
Management accounting includes, financial accounting, cost accounting, budgeting, tax planning and reporting to management.
f)    Status
The Status of cost accountants comes after management accountant.
Management accountant is senior in position to cost accountant.
g)   Tools and techniques
It has standard costing, variable costing, break even analysis etc. as the basic tools and techniques.
Along with these, management accountant has funds and cash flow statements, ratio analysis etc. as his tools and techniques.
h)   Installation
It can be installed without management accounting.
It needs financial and cost accounting as its base for its installation.

F. Difference between Financial Accounting and Management Accounting
The accounting system concerned only with the financial state of affairs and financial results of operations is known as Financial Accounting. It is the original form of accounting. It is mainly concerned with the preparation of financial statements for the use of outsiders like creditors, debenture holders, investors and financial institutions. The financial statements i.e., the profit and loss account and the balance sheet, show them the manner in which operations of the business have been conducted during a specified period.

Management accounting makes use of the cost accounting concepts, techniques and data. The functions of cost accounting and management accounting are complimentary. In cost accounting the emphasis is on cost determination while management accounting considers both the cost and revenue. Though it appears that there is overlapping of areas between financial and management accounting, the following are the differences between the two systems.

Financial accounting
Management accounting
a)      Objectives
The main objective of financial accounting is to supply information in the form of profit and loss account and balance sheet to outside parties like shareholders, creditors, government etc.
The main objective of management accounting is to provide information for the internal use of management.

b)      Performance
Financial accounting is concerned with the overall performance of the business.
Management accounting is concerned with the departments or divisions. It report about the performance and profitability of each of them.

c)       Data
Financial accounting is mainly concerned with the recording of past events.
Management accounting is concerned with future plans and policies.
d)      Nature
Financial accounting is based on measurement.
Management accounting is based on judgment.
e)      Accuracy
Accuracy is an important factor in financial accounting.
Approximations are widely used in management accounting.
f)       Legal Compulsion
Financial accounting is compulsory for all joint stock companies.
Management accounting is optional.

g)      Monetary transactions
Financial accounting records only those transactions which can be expressed in terms of money.
Management accounting records not only monetary transactions but also non- monetary events.
h)      Control
Financial accounting will not reveal whether plans are properly implemented.
Management accounting will reveal the deviations of actual performance from plans. It will also indicate the causes for such deviations.
i)        Stock Valuation
In cost accounts stocks are valued at cost.
In financial accounts, stocks are valued at cost or realisable value, whichever is lesser.

j)        Analysis of Profit and Cost
Cost accounts reveal Profit of Loss of different products, departments separately.
In financial accounts, the Profit or Loss of the entire enterprise is disclosed into.