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Management Accounting and Control Systems: Assessing Performance over the Value Chain


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Title: Management Accounting and Control Systems: Assessing Performance over the Value Chain

Management Accounting and Control
Systems Assessing Performance over the Value
  • Chapter 7

Management Accounting and Control System
  • Generates and uses information to help decision
    makers assess whether an organization is
    achieving its objectives
  • A cost management system is one of the central
    performance measurement systems at the core of a
    larger entity known as a management accounting
    and control system

Control In Management Accounting And Control
  • A set of
  • Procedures
  • Tools
  • Performance measures
  • Systems
  • Used by organizations to guide and motivate
    employees to achieve organizational objectives

In Control
  • A system is in control if it is on the path to
    achieving its strategic objectives
  • For the process of control to have meaning and
    credibility, the organization must have the
    knowledge and ability to correct situations that
    it identifies as out of control

Five Stages Of Control
  • Planning
  • Execution
  • Monitoring
  • Evaluation
  • Correction

Stages of Control Planning
  • Developing an organizations objectives
  • Choosing activities to accomplish the objectives
  • Selecting measures to determine how well the
    objectives were met

Stages of Control Execution and Monitoring
  • Execution
  • Implementing the plan
  • Monitoring
  • The process of measuring the systems current
    level of performance

Stages Of Control Evaluation and Correcting
  • Evaluation
  • When feedback about the systems current level of
    performance is compared to the planned level so
    that any discrepancies can be identified and
    corrective action prescribed
  • Correcting
  • Taking the appropriate actions to return the
    system to a state of in control

A Well-Designed MACS
  • Designers of management accounting and control
    systems (MACS) have both behavioral and technical
    considerations to meet
  • The technical considerations fall into two
  • Relevance of the information generated
  • Scope of the system

Characteristics of Well-defined MACS
  • Accurate
  • Timely
  • Consistent
  • Flexible

Scope Of The System
  • Must be comprehensive and include all activities
    across the entire value chain of the organization
  • If the MACS measures and assesses performance in
    only the actual production process, it ignores
    the performance of
  • Suppliers
  • Design activities
  • Postproduction activities associated with
  • Without a comprehensive set of information,
    managers can only make limited decisions

The Value Chain
  • A sequence of activities that should contribute
    more to the ultimate value of the product than to
    its cost
  • All products flow through the value chain
  • Begins with research, development, and
  • Moves through manufacturing
  • Continues on to customers
  • Customers may require service and will either
  • consume the product
  • dispose of it after it has served its intended

The Value Chain
  • The value chain may be divided into cycles, which
    correspond to different cost control approaches

Research, Development Engineering Cycle
Manufacturing Cycle
Post-Sale Service and Disposal Cycle
Target Costing Value Engineering
Total-Life-Cycle Costing Environmental
Costing Benchmarking
Kaizen Costing
Total-Life-Cycle Costing (
  • Total-life-cycle costing (TLCC) is the name of
    the process of managing all costs along the value
  • TLCC is also known as managing costs from the
    cradle to the grave

Total-Life-Cycle Costing
  • A TLCC system provides information for managers
    to understand and manage costs through a
    products stages

Total-Life-Cycle Costing
  • Deciding how to allocate resources over the life
    cycle usually is an iterative process
  • Opportunity costs play a heightened role in a
    total-life-cycle cost perspective

Total-Life-Cycle Costing
  • Numerous life-cycle concepts have emerged in
    various functional areas of business
  • A TLCC perspective integrates the concepts so
    that they can be understood in their entirety
  • From the manufacturers perspective,
    total-life-cycle product costing integrates
    functional life-cycle concepts

Research, Development, And Engineering (RDE)
  • The RDE Cycle has three stages
  • Market research
  • Product design
  • Product development

Cost Control in the RDE Cycle
  • By some estimates, 80 to 85 of a products
    total life costs are committed by decisions made
    in the RDE cycle
  • Decisions made in this cycle are critical
  • An additional dollar spent on activities that
    occur during this cycle can save at least 8 to
    10 on manufacturing and post-manufacturing
  • Design changes
  • Service costs

Manufacturing Cycle
  • After the RDE cycle, the company begins the
    manufacturing cycle
  • Usually at this stage there is not as much room
    for engineering flexibility to influence product
    costs and product design because they have been
    set in the previous cycle

Cost Control in the Manufacturing Cycle
  • Operations management methods help to reduce
    manufacturing life-cycle product costs
  • Companies have begun to use management accounting
    methods such as activity-based cost management to
    identify and reduce non-value-added activities in
    an effort to reduce costs in the manufacturing

Post-sale Service Disposal Cycle
  • The service cycle begins once the first unit of a
    product is in the hands of the customer
  • Disposal occurs at the end of a products life
    and lasts until the customer retires the final
    unit of a product
  • The costs for service and disposal are committed
    in the RDE stage

The Service Cycle
  • The service cycle typically consists of three
  • Rapid growth
  • From the first time the product is shipped to the
    growth stage of its sales
  • Transition
  • From the peak of sales to the peak in the service
  • Maturity
  • From the peak in the service cycle to the time of
    the last shipment made to a customer

The Disposal Cycle
  • Disposal occurs at the end of a products life
    and lasts until the customer retires the final
    unit of a product
  • Disposal costs often include those associated
    with eliminating any harmful effects associated
    with the end of a products useful life
  • Products whose disposal could involve harmful
    effects to the environment, such as nuclear waste
    or toxic chemicals, often incur very high costs

Life-Cycle Costs
  • The following table illustrates four types of
    products and the percentage of life-cycle costs
    incurred in each cycle

Combat Jets Commercial Aircraft Nuclear Missiles Computer Software
RDE Manufacturing Service Disposal Average Years in Life Cycle 21 45 34 30 20 40 40 25 20 60 20 2 to 25 75 25 5
Target Costing
  • A method of profit planning and cost management
    that focuses on products with discrete
    manufacturing processes
  • Its goal is to design costs out of products in
    the RDE stage of a products total life cycle
  • It is a relevant example of
  • How a well-designed MACS can be used for
    strategic purposes
  • How critical it is for organizations to have a
    system in place that considers performance
    measurement across the entire value chain

The Traditional Method
  • Begins with market research into customer
    requirements followed by product specification
  • Companies engage in product design and
    engineering and obtain prices from suppliers
  • After the engineers and designers have determined
    product design, cost is estimate

Target Costing Method (
  • Although the initial steps appear similar to
    traditional costing, there are some notable
  • Marketing research is customer-driven
  • Costs are managed using concurrent design and
  • The total-life-cycle concept is used by making it
    a key goal to minimize the cost of ownership of a
    product over its useful life

The Target Costing Method
  • Price-lead costing used to determine a target
    selling price and target product volume based on
    the companys perceived value of the product to
    the customer
  • The target profit margin results from a long-run
    profit analysis, often based on return on sales
  • The target cost is the difference between the
    target selling price and the target profit margin

The Target Costing Method
  • Once the target cost has been set, the company
    must determine target costs for each component
  • The value engineering process includes
    examination of each component of a product to
    determine whether it is possible to reduce costs
    while maintaining functionality and performance
  • Several iterations usually are needed before it
    is possible to determine the final target cost

The Target Costing Method
  • Two other differences characterize the process
  • Cross-functional product teams make up of
    individuals representing the entire value chain
    guide the process throughout
  • Suppliers play a critical role in making target
    costing work

Cost Analysis - example
  • Cost analysis requires 5 sub-activities
  • 1. Develop a list of product components and
  • 2. Do a functional cost breakdown
  • 3. Determine a relative ranking of customer
  • 4. Relate features to functions
  • 5. Develop relative functional rankings

Conduct Value Engineering - example
  • Value engineering organized effort directed at
    the various components for the purpose of
    achieving these functions at the lowest overall
    cost without reductions in required performance,
    reliability, maintainability, quality, safety,
    recyclability, and usability

Conduct Value Engineering - example
  • Two sub-activities
  • Identify components for cost reduction by
    computing a value index (ratio of the value to
    the customer and the percentage of total cost
    devoted to each component)
  • Generate cost reduction ideas

Concerns About Target Costing
  • Some studies of target costing in Japan indicate
    that there are potential problems in implementing
    the system
  • Companies may manage many of these factors

Examples of Problems with Target Costing
  • Lack of understanding of the target costing
  • Poor implementation of the teamwork concept
  • Employee burnout
  • Overly-long development time

Kaizen Costing
  • Also focused on cost-reduction
  • Focuses on reducing costs during the
    manufacturing stage of the total life cycle of a
  • Kaizen is the Japanese term for making
    improvements to a process through small,
    incremental amounts rather than through large

Kaizen Costing (2 of 2)
  • Kaizen costings goal is to ensure that actual
    production costs are less than the prior year
  • Kaizens goals are tied to the profit-planning
  • If the cost of disruptions to production are
    greater than the savings due to kaizen costing,
    then it will not be applied

Example From Auto Plant
  • An annual budgeted profit target is allocated to
    each plant
  • Each automobile has a predetermined cost base,
    which is equal to the actual cost of that
    automobile in the previous year
  • All cost reductions use this cost base as their
    starting point
  • The targeted cost reduction is the amount the
    cost base must be reduced to reach the profit

Example From Auto Plant
  • The target reduction rate is the ratio of the
    target reduction amount to the cost base
  • This rate is applied over time to all variable
  • Then management makes comparisons of actual
    reduction amounts across all variable costs to
    the pre-established targeted reduction amounts
  • If differences exist, variances for the plant are

Concerns About Kaizen Costing
  • The system places enormous pressure on employees
    to reduce every conceivable cost
  • Kaizen costing leads to incremental rather than
    radical process improvements
  • This can cause myopia as management tends to
    focus on the details rather than the overall

Environmental Costing
  • Environmental remediation, compliance, and
    management have become critical aspects of many
  • All parts of the value chain, and their costs,
    are affected by environmental issues
  • These issues are being incorporated into cost
    management systems and overall MACS design

Controlling Environmental Costs
  • Only when managers and employees become aware of
    how the activities in which they engage create
    environmental costs will they be able to control
    and reduce them
  • The activities that cause environmental costs
    have to be identified
  • The costs associated with the activities have to
    be determined
  • These costs must be assigned to the most
    appropriate products, distribution channels, and

Types of Environmental Costs
  • Environmental costs fall into two categories
  • Explicit costs
  • Implicit costs

  • A way for organizations to gather information
    regarding the best practices of others
  • Often highly cost effective
  • Selecting appropriate benchmarking partners is a
    critical aspect of the process
  • The process typically consists of five stages

Stage 1
  • Internal study and preliminary competitive
  • The organization decides which key areas to
    benchmark for study
  • The company determines how it currently performs
    on these dimensions by initiating
  • Preliminary internal competitive analysis
  • Preliminary external competitive analyses
  • Both types of analyses will determine the scope
    and significance of the study for each area

Stage 2 (1 of 2)
  • Developing long-term commitment to the
    benchmarking project and coalescing the
    benchmarking team
  • the level of commitment to benchmarking must be
    long term Long-term commitment requires
  • Obtaining the support of senior management to
    give the benchmarking team the authority to
    spearhead the changes
  • Developing a clear set of objectives to guide the
    benchmarking effort
  • Empowering employees to make change

Stage 2
  • The benchmarking team should include individuals
    from all functional areas in the organization
  • An experienced coordinator is usually necessary
    to organize the team and develop training in
    benchmarking methods
  • Lack of training often will lead to the failure
    of the implementation

Stage 3 (
  • Identifying benchmarking partnerswilling
    participants who know the process
  • Some critical factors are as follows
  • Size of the partners
  • Number of partners
  • Relative position within and across industries
  • Degree of trust among partners

Stage 4
  • Information gathering and sharing methods
  • Two related dimensions emerge from the
  • Type of information that benchmarking
    organizations collect
  • Methods of information collection

Stage 5
  • Taking action to meet or exceed the benchmark
  • The organization takes action and begins to
  • After implementing the change, the organization
    makes comparisons to the specific performance
    measures selected
  • The decision may be to perform better than the
    benchmark to be more competitive
  • The implementation stage is perhaps the most
    difficult stage of the benchmarking process, as
    the buy-in of members is critical for success