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Strategic Management Accounting. Costing
Introduction
Many multinationals have been seeking better ways to expand their businesses further so as to increase profitability. For those companies that have different businesses within the same group, individual managers have been put in charge to oversee these operations. As a matter of fact the management has used different ways of evaluating the performance of the individual managers. Individual managers are tasked with overseeing the growth of their specific portfolios and should be judged on how their portfolios perform.
As a finance director there will be need to establish the parameters within which the operations and programs will achieve the desired results. In evaluating the performance managers are assessed on what they have accomplished. This is done by measuring the activities that they were supposed to accomplish.
Discussion
There is need to measure the portfolio performance for easy evaluation of the groups progress in relation to its goals. Without measuring the performance of the individual managers the director will not be able to know where to improve. It will also be easy to know where to allocate or reallocate more money for proper sustainability. Since the group wants to increase its profitability it will be easy to compare with others and borrow the best strategies. To enhance growth it will be necessary to measure the performance so that the manager can tell whether the finance position of the group is declining or improving.
It is through defining the performance in relation to the desired results that managers will make their work more operational. The use of residual income is one of the ways by which the performance of individual managers can be measured (Swans burg 12). This will look at the income that an investment centre earns which is supposed to be above the required return. If the individual manager does not give this then the manager will look for better ways of correcting the problem.
The performance of managers can also be measured using the return on investment method. Since the businesses are independent the managers have control over their decisions. With this autonomy each manager will strive to give the best segment. The rate of return of generate their assets is used to measure their performance. This will explain if they are making sound investments with the funds entrusted under their care.
Cost Center Managers
Cost centers are parts of the company that dont produce direct profits while adding to the costs of running the company. This includes the marketing, research and development departments and finally the customer service desk. Although not profitable money spent in these departments like on research and development might lead to innovations that might seem profitable (Wandryk 8). When there are investments in customer service the company will likely get more customers and increase customer loyalty.
Cost centre managers are always delegated the responsibility of reconciling and monitoring the cost centre reports. They evaluate this performance on a monthly basis and ensure that the transactions are in accordance with the companys core targets. The advantage of using cost centre managers is that it will be easy to classify operations and in the process costs will be easy to measure (Wandryk 10).
In the process the managers will be able to control the costs as they can plan for future costs after having a proper analysis of the actual costs. Cost centre managers have the ability to plan well which will improve on the companys budgeting.
This will in turn have adverse effects on the company as it may reduce sales. It is also easy to use business metrics to know the benefits that the use of these managers will give to the company. These managers have control over the costs of their portfolios which will be effective in reducing the whole costs of the company and in the process increase profitability. In the long run they are able to minimize costs and provide the essential services and products to the company and the customers.
Cost centers do not directly contribute to the profit of the company and incase the budget is cut off the managers may experience some rollbacks. In addition to these it might not be easy to justify investments in the staff, new technology and equipment because of indirect profitability (Wandryk 17).
Profit Centre Managers
A profit center will directly add profits to the company. Since individual portfolios operate on their own, profit centers are evaluated separately in terms of profitability. A profit centre manager is supposed to take care of all the revenues and costs that have an impact on profits. The manager is supposed to drive the sales revenue that will increase the cash flows and at the same time take care of the costs (cash out flows).This is very challenging to the finance director as it is more complex to track all the managers.
The profitability of these portfolios will be easy to determine due to these independence (Drucker 5). Using profit centre managers will make it easy and efficient to compare the relative profitability of the different portfolios and come up with measures to improve on the performance. It will be of importance to the manager that as individual evaluation is done this opportunity can be used to review the targets that have been set.
Profit centre managers can not have access to investment funds which might reduce their morale of working to increase profitability as they wont feel in charge. In the process of evaluating individual portfolios there might be conflicting scenarios as some roles might be almost the same (Drucker 9).
Investment Centre Managers
Investment centers take into consideration the costs, profits and the investment fund. In this case the manager controls the revenues and the liabilities which will be used to assess the performance. The managers are supposed to ensure that there is a high return on the investments under their portfolio.
The individual managers have the decision rights in terms of the capital expenditure and investment (Drury 16). It is assumed that they are aware of the investment opportunities around their portfolios and are expected to seize them. There is the accountability of the costs revenues and net assets in investment. Managers are in charge of purchasing capital and making investment decisions.
Using investment center managers gives them the vital experience in making decisions and hence they are able to tackle every investment opportunity that arises. This will be aimed at increasing the growth prospects of the company. The freedom that individual managers have will yield job satisfaction and authority that increases productivity.
The finance director is also relieved off a lot of problem solving and identification which leaves enough time to strategize on improving the financial prospects of the group. On the other hand investment centre managers might make decisions without understanding the big picture of the group that might lead to conflicts (Drury 26).
Lack of coordination among managers is likely to be seen as there might be cases where the companys strategy may not be well communicated to the different portfolio managers. Lack of a strong central direction makes it difficult for managers to spread innovative ideas in the company or firm
Conclusion
The manager will be concerned with ways to increase profitability of the company and should choose the best evaluation method that will not contradict the set targets. All these should take into consideration the costs and revenues with a long term objective.
To achieve these there is need for effective decentralization among the portfolio managers. Apart from the company wide income statements, it is important to have individual portfolio reports so that they can be reviewed. Individual income statements are in most companies used to evaluate companys profitability and performance. It should specifically emphasize on the portfolio rather than the whole group.
In the long run it will be easy to use business metrics to know the benefits that the use of these managers will give to the company. These managers have control over the costs of their portfolios which will be effective in reducing the whole costs of the company and in the process increase profitability. In the end they will be able to minimize costs and provide the essential services and products to the company and its customers.
Costing
Organizations are supposed to know the costs of the products or services that they give out so that they can make the right decisions in relation to their accounting ethics. Good decisions can only be made after the management has got the right information. Quality decision making will only be consistent if there is correct and appropriate information. Managerial accounting helps indecision making process.
The management needs to know how the costs are captured and later on assigned to specific goods and services. This will entail the collection and the interpretation of the different costs. Hence it is very vital to know how much it will cost to produce a product or service. In knowing the costs the management will be appreciating the sacrifices made in producing the good or service. This will also help to know the variables that are driving the costs.
Marginal or Variable Costing
This is a method that involves the variable manufacturing costs. It is the change in the total costs as a result of producing an extra unit of a given product or service. In evaluating this kind of costing the total cost and the quantity have to be looked at critically. There might be changes to the volume at each level production which should be considered.
In addition to these the marginal costs at the levels of production include other additional costs that might be needed to produce the extra goods or services. Marginal costs are supposed to vary in each level of production (Kotas 14). These can also include the changes in the proportion of the business as it grows. Managers may be faced with situations where the unit level costs vary with the products and services that have been produced.
It is mostly used in cases where materials become an integral part of the finished products. This approach is also more applicable in situations where there is the use of direct labor on the individual units of the products and services. For instance there might be an occasion where the management might need to produce additional goods with new equipments in place and this will involve the costs of the new venture.
Marginal costing is distinct from other methods of costing because the profit for a given period of time cannot be affected in case there are some unexpected changes in the inventories (Kotas 32). This allows the profits to move in the right direction like the sales that the goods and services will be generating over the period.
For companies that have cash flow problems this method is very efficient as the net operating income will be much closer to the net cash flow. On the other hand in absorption accounting, managers assume that unit product costs are also the variable costs. This is well tackled under marginal costing as the product costs should not necessarily contain any fixed costs.
When this method is used the impact of costs on profits is occasionally emphasized as the core of the business. In the other two methods these costs are mixed with other variable costs and normally end up in the inventory. It is also easy to estimate the profitability of the business unlike in other methods where profitability is obscured with other allocations.
Absorption Costing
This is a method of costing where all the manufactured goods and services will be taken care of by the units of the goods produced. These costs will involve the expenses of the finished unit in inventory (Sheffrin 18). In addition, it also takes care of direct labor and direct materials. It is vital to know that absorption costing comes in handy when the organization does external financial and income tax reporting. Absorption costing does not put into consideration whether the production costs are either variable or fixed.
This method will be mainly used by managers in cases where the fixed manufacturing overhead is supposed to be related to each unit of a product that is produced. On the other hand there might be occasions where inventories increase and need to be deferred to future periods. Also in case the management needs to match its costs and revenues it will need to use absorption costing as the manufacturing costs will be assigned to the individual costs of producing the products.
It is clear that one can choose on the absorption method of costing because it recognizes the importance of fixed costs when producing goods and services. In addition to these it is also easy to prepare financial reports with this method as it can give a proper evaluation and analysis (Sheffrin 29).
There might be occasions where the production remains constant while the sales are fluctuating and this method will be efficient in such cases unlike the other two methods (Marginal and activity based) because fixed costs are not agreed upon to change into variables.
Activity Based Costing
This is a method of costing that first of all identifies activities in an organisation. Then it later on evaluates the cost of each activity (production of the goods and services) on how they demand. In addition to these the overhead costs are analyzed in relation to the direct costs that the organization will incur in producing the goods and services (Drucker 16).
The organisation will be able to analyze the goods and services depending on their costs and know how to increase production. This will also help in the pricing as those goods and services that attract a lot of costs will be highly priced than those goods that are less costly to produce (Cokins 7). The long run effect is that there will be the assigning of individual costs on activities that have a bearing on providing goods and services to the customers.
Activity based costing can be used to understand the product and customer profitability. It can also be strategically used in pricing decisions. In cases where the management has some inefficient products and activities it can easily use this method to find out where the problem is and improve on it. This is very hard to accomplish when using the other methods like marginal costing (Cokins 14)
The management can also be faced with a situation where they are having unnecessary costs that might be transferred to the final price. In this case they can easily use the activity based costing to find out where those unnecessary costs are coming from and correct the situation to the better.
One will be compelled to choose this method because it can help to fix prices of products easily (scientifically). Since this method takes a critical approach it is easy to look at the individual production activities and identify inefficient products in relation to the costs and revenues involved (Cokins 12). In addition to these it is very easy to control the costs of production at an individual level and improve on the operations of the organization as a whole.
This method has been used extensively to ensure that there is advanced accounting and measurements that save organizations from many expenses that are accrued in the course of accounting. It is also a good managerial accounting system for those organisations that are involved in the extensive production of goods and services.
Conclusion
Costing is very important for any organisation to ascertain the costs involved in producing specific goods and services. The costing information that an organisation gets can be very helpful in the pricing of the goods and services which has an impact on the revenues. On the other hand it can also be used for continuous assessments that will improve the performance. There are many ways that the management can evaluate the best costing approaches to use in achieving their set goals and targets.
Good decisions can only be made after the management has got the right information. Quality decision making will only be consistent based on the correct information.
Marginal costs are supposed to vary in each level of production as they might include all costs. These can also include the changes in the proportion of the business as it grows. Managers may be faced with situations where the unit level costs vary with the products and services that have been produced.
Absorption costing method will be mainly used by managers in cases where the fixed manufacturing overhead costs are supposed to be related to each unit of a product that is produced. Activity based costing can be used to understand the product and customer profitability. It can be strategically used in pricing decisions.
Works Cited
Cokins, G. Activity based cost management: An executives guide. US: New York. 2001. Print.
Drucker P, F.Management Challenges of the 21st Century. New York: Harper. 1999. Print.
Drucker, P, F. Managing in the Next Society. New York: St. Martins Griffin. 2002. Print.
Drury, C. Management and cost accounting. UK: Derby. 2008. Print.
Kotas, R. Management accounting for hospitality and tourism. London: Bedford.1999.
Sheffrin, S, M. Economics: Principles in action. New Jersey: Upper Saddle River. 2003. Print.
Swans burg, R. Management and leadership for nurse managers. Canada: Toronto. 1990. Print.
Wandryk, K. The benefits of using electronic document software. USA: Mountain View.1995. Print.
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