Strategic Management

Accounting

Unit-I

Introduction to
Management Control

Strategic Management Accounting

Strategic Management Accounting has
been defined as The provision and
analysis of management accounting data
about a business and its competitors,
which is of use in the development and
monitoring of strategy.

Strategic Management Accounting

Strategic

Management Accounting
has been defined as "a form of
management accounting in which
emphasis is placed on information
which relates to factors external to
the firm, as well as non-financial
information and internally generated
information."

Why Strategic
Management
Accounting

Traditional Management Accounting vs.

Strategic Management Accounting
Traditional management accounting is
perceived as inadequate since it:
concentrates on the manufacturing and
neglects the high cost post-conversion
activities;
ignores the impact of other activities;
fails to assess the relative cost positions of
competitors;
over-reliance
on
existing
accounting
systems;

Traditional Management Accounting vs.

Strategic Management Accounting
By contrast, strategic management
accounting purport to place emphasis
on:
the relative cost position;
the ways in which a company may
secure a sustainable cost advantage;
costs of differentiation i.e., what
makes their product different and
hence more attractive.

Definitions of Strategic Management

Accounting
According to the
Chartered Institute of Management Accountants (CIMA)
Management Accounting is "the process of
identification, measurement, accumulation, analysis,
preparation, interpretation and communication of
information used by management to plan, evaluate and
control within an entity and to assure appropriate use of
and accountability for its resources. Management
accounting also comprises the preparation of financial
reports for non-management groups such as
shareholders, creditors, regulatory agencies and tax
authorities" (CIMA Official Terminology).

Definitions of Strategic Management

Accounting

The Institute of Management Accountants

(IMA) recently updated its definition as
follows:
Management Accounting is a profession
that involves partnering in management
decision making, devising planning and
performance management systems, and
providing expertise in financial reporting
and control to assist management in the
formulation and implementation of an
organizations strategy."

Definitions of Strategic Management

Accounting
The Institute of Certified Management
Accountants (ICMA), states
"A management accountant applies his or
her professional knowledge and skill in the
preparation and presentation of financial
and other decision oriented information in
such a way as to assist management in
the formulation of policies and in the
planning and control of the operation of
the undertaking."

Strategic Management Accounting (SMA)

Characteristics:
1.The extension of traditional management accountings internal
focus to include external information about competitors.
2.The relationship between the strategic position chosen by a
firm and the expected emphasis on management accounting.
3.Gaining competitive advantage by analyzing ways to decrease
costs.
4.Enhance the differentiation of a firms products, through
exploiting linkages in the value chain & optimizing cost
drivers.

Scope of SMA
The scope of the SMA system must be
comprehensive and include all
activities across the entire value chain
of the organization.

Scope of SMA
Historically many SMA measure & assess
performance in only one part of the value chain
the actual production. In this case, the
performance of suppliers, the design activities,
and the postproduction activities associated with
product and services are ignored . Without a
comprehensive set of information, managers can
only make limited decisions.

MACS
Management accounting and control system
(MACS) generates & uses information to help
decision makers assess whether an organization
is achieving its objectives.
The term control in management accounting &
control system refers to the set of procedures,
tools, performance measures, and systems that
organizations use to guide & motivate all
employees to achieve organizational objectives.

MACS
A system is in control if it is on the path to
achieving its strategic objectives, and it is
deemed out of control otherwise.
For the process of control to have meaning
& credibility, the organization must have the
knowledge and ability to correct situations that it
identifies as out of control; otherwise control
serves no purpose.

MACS
The process of keeping an organization in
control consists of 5 stages:
1.Planning
2.Execution
3.Monitoring
4.Evaluation
5.Correcting

Characteristics
of
MACS
Designers of MACS have both behavioral and technical
considerations to meet.
Behavioral considerations include the following:
1.Embedding the organizations ethical code of conduct into
MACS design,
2.Using a mix of short and long-term qualitative & quantitative
performance measures,
3.Empowering employees top be involved in decision making and
MACS design and
4.Developing an appropriate incentive system to reward
performance.

Characteristics of MACS
Technical information is based on the
relevance of information generated.
The relevance of information is
measured by 4 characteristics. The
information must be :
1.Accurate
2.Timely
3.Consistent
4.Flexible

COST
The term cost has different meanings.
It is used to define the amount of resources
given up in exchange for some goods or
services.
Determining the cost may be difficult when
goods are produced instead of purchasing.
So, cost is the amount expended/sacrificed
in relation to a specific thing or activity.

COST CLASSIFICATION

General classification

Direct &
indirect

Planning & control

Fixed
&
variable

roduct &
period
Manufacturing &
non-manufacturing

Decision making

sunk opportunity differential

Relevant &
Controllable
relevant
& noncontrollable

COST BEHAVIOR
The

concept of cost behavior was

introduced in terms of how a cost
element responds to change in the
level of business activity.
Costs are broadly classified
as fixed costs & variable costs.
Fixed costs: Fixed costs remains fixed
and constant in absolute amount over
a given range of production.

COST BEHAVIOR
Variable cost: Variable cost remains constant
per unit of production and the absolute
amount of the variable cost depends upon
the level of production.
Fixed costs & Variable cost are the
basic cost behavior pattern. Between two
extreme behavior pattern, there are other
cost which have characteristics of both the
fixed & variable costs. These may be known
as Semi-fixed, Semi-variable or Mixed costs.

COST BEHAVIOR
In

an organization managers are

accountable for acquiring and utilizing scarce
resources both, effectively & efficiently. In
their efforts, the managers must be certain
that the revenue of a given period exceed all
the costs charged for that period, the
difference being profit for the period.
Managers require more information relating
to cost than contained in the financial
statements, in order to carry out their
responsibilities.

COST BEHAVIOR
Managers may use the cost information and
the details for different purposes as follows:
1.Inventory determination
2.Inventory valuation
3.Financial planning
4.Decision making

COST BEHAVIOR
A proper analysis of cost behavior
patterns is required for profit planning & cost
control. The different cost behavior patterns
must be evaluated carefully in the light of the
firm for which the behavior is being analyzed.
In order to analyze the cost behavior
and classification of cost items, the
management requires to establish a cost
function which would best describe the cost
behavior

Cost function
A Cost function is a relationship between
a certain cost item (as a depended
variable) and some measure of activity
or volume (as a independent variable).
For ex: Material cost is a dependent
variable and number of units produced is
an independent variable.

COST BEHAVIOR
The determination of total fixed cost, variable
cost per unit and bifurcation of semi-variable/
semi-fixed costs into fixed and variable
components is required by the management
for purposes such as:
1.Cost volume Profit analysis
2.Break Even analysis
3.Analysis of Operational efficiency
4.Application of Variable Costing method
5.Effect of a proposed capital expenditure etc.

COST-VOLUME-PROFIT (CVP)
ANALYSIS

CVP analysis is a technique that may be used by

management accountant to evaluate how costs
and profits are affected by changes in the
volume of the business activities.
As a result of change in operating conditions
or change in economic environmental factors,
the value of and the relationship among the
variables also change.

COST-VOLUME-PROFIT (CVP)
ANALYSIS
Using CVP analysis, management accountant can
answer the questions about the consequences of
the following particular courses of action such as;
1.
2.
3.
4.
5.

What would be the effect on profits if the selling

price is reduced/or more units are sold?
What level of sales must be achieved to earn a
desired level of profit?
What is the most profitable sales mix?
What is the level of sales at which the firm will
just break even?
What sales level is required to meet additional
fixed cost?

COST-VOLUME-PROFIT (CVP)
ANALYSIS
CVP analysis is a systematic method of
examining the relationship between change
in volume (or output) and changes in sales
prices and expenses on the profit of the
firm.
The output or the volume is one of
the most vital & important variable affecting
total sales revenue, total costs & profits.
For this reason the CVP analysis is given
special attention

COST-VOLUME-PROFIT (CVP)
ANALYSIS

The CVP analysis may also be referred to an

what if analysis. The CVP analysis focuses
attention on the short run effect only because in
the short run the level of output is restricted to
that available from current operating capacity.
The CVP analysis basically highlights the effect
of changes in sales volume on the profit of the
firm in the short run. The key elements of the
CVP analysis are selling prices, sales volume,
variable cost p.u, total fixed costs and the sales
mix (if the firm is dealing with more than one
product at a time).

TECHNIQUES OF CVP ANALYSIS

There are two basic techniques of the CVP
analysis. They are:
1.The Contribution Margin (CM) Analysis
2.The Break Even (BE) Analysis
Contribution margin (CM) is equal to the sales
minus variable costs. This can be stated as :
*CM = Sales Variable cost

BREAK EVEN (BE) ANALYSIS

The Break Even (BE) analysis is the fundamental

technique of CVP analysis. The BE point is the
sales level at which the contribution margin is
just equal to the fixed costs, and the firm has no
profit no loss.
At the BE sales level, the total costs (fixed +
variable) are just covered. Any sales level below
the BE level will be loss & sales level above the
BE level will bring profit to the firm.
Break Even Equation: The BE equation is derived
from the basic relationship between sales &
profit as follows :

Break Even Equation

Net Profit (NP)=

Sales (S)-variable cost (VC)-Fixed cost (f)
Or
Sales (S)=
VC+F+NP
All the costs (F+VC) of the manufacturing and nonmanufacturing operations must be incorporated in
the calculation of BE level. It may be noted that the
BE sales level is the minimum sales level, the firm
must achieve to incur no loss. No firm in the long
run, can survive by operating at the BE level.