EXECUTIVE SUMMARY Jessup Ltd is a medium to large, a fast growing company in advertising and public relations. The company is run by four directors who are advertising experts. The purpose of this report is to addresses key roles of strategic management accountant, relevant and irrelevant costs and revenues term in strategic management accounting decision making and benefit and limitation of activity based costing.
In first part of the report has already highlighted the key roles of strategic management accountant roles. The strategic management accountant’s roles are in economic market and transfer pricing. The strategic management accountants are in corporate government. This will explain how the strategic management accountant in performance measurement, practical and also strategic management accounting techniques.
Secondly, the term of relevant and irrelevant cost and revenues in decision making. Definition of relevant costs and irrelevant costs such as future costs, sunk costs and etc. The impact of relevant costs and revenues while organisation wish to improving making decision. The sunk costs effect while decision made related to risk. How to determine sunk costs and opportunity costs with will affect decision making. Reason of the organisation adopts relevant costs and full costs in practice and also difficulty of relevant cost in practice.
Finally part of report mention about activity based costing. Definition of activity based costing, benefit of activity based costing and limitation of activity based costing in different prospective.
List of Table Table 1: Management accounting techniques exhibiting strategy orientation (source: Cadez and Guilding (2008)) 9
Table 2: Strategic management accounting techniques usage means (sources: Guilding et al (2000) and Cinquini and Tenucci (2007) 19
Table 3: Definition of the Strategic Management Accounting Techniques (sources: Guilding et al (2000) and Cinquini and Tenucci (2007) 20
Table 4: ABC applications (sources: Innes, J; Mitchell, F and Sinclair, D (2000)) 22
Contents EXECUTIVE SUMMARY 2
List of Table 3
1)STRATEGIC MANAGEMENT ACCOUNTANT 6
Strategic Management Accountants Roles 6
Strategic Management Accountant Role in Market 7
Strategic Management Accountant Role in Transfer Pricing 7
Strategic Management Accountant Power in Strategy Management Process 7
Strategic Management Accountant and Corporate Governance 7
Strategic Management Accountants in Performance Measurement 8
Strategic Management Accounting Techniques 8
Strategic Management Accountant Roles in Practice 10
2)RELEVANT AND IRRELEVANT COSTS AND REVENUES 10
Relevant Costs 11
Future Costs and Cash Costs 11
Incremental Costs 11
Opportunity Costs 11
Irrelevant Costs 11
Sunk Costs 11
Fixed Costs 12
Notional Costs 12
Impact of Relevant Costs and Revenue by Improve Decision Making 12
Sunk Costs Effect in Risky Decision Making 12
Sunk Costs and Opportunity Costs for Decision Making 13
Relevant Costs vs. Full Costs 14
Difficulty of Relevant Costs in Practices 14
3)ACTIVITY BASED COSTING 15
ABC approach for Cost Allocation 16
ABC approach in Performance Measurement 16
ABC approach in Customer Profitability 16
ABC approach in Budget 16
ABC approach in Decision Making 17
ABC approach in Project Costing 17
High Implement Cost 17
Problem in Data Collection 17
Misinterpreted and Misunderstanding for ABC Data 18
Uncertain Improvement and Benefit 18
ABC approach in Resource View 18
STRATEGIC MANAGEMENT ACCOUNTANT Introduction Strategic management accountant is an information provider for both financial and non financial and data custodian to achieve organization strategic objectives (Jack, L and Kholeif, A, 2008). Information provided by strategic management accountant should be relevant, reliable, comparable, understandable and materiality for manager in making decision.
Simmonds (1981) was the first article wrote about strategic management accounting, it explored the competitor appraisal base on accounting perspective, so it seen as a tool to gain competitive advantages and clarify strategy intent of organisation.
Strategic Management Accountants Roles Shank and Govindarajan (1998) suggested that strategic management accounting as a framework for decision-making that may replace management accounting. Strategic management accounting is important in long term project; forecasting; planning and controlling. Strategic management accounting had several standards which include:
Extension of traditional management accounting by analysis not only internal factors (manager, employee and etc) but also external factors (competitors and etc) which related to business.
Emphasis on management accounting and relationship between strategic positions chosen by organization to achieve its goal and objective.
Enhance competitive advantages by reducing costs in extremely competitive markets to maximize the profit
Strategic management accountant uses a combination of conceptual and technical approaches as significant element during strategic planning process. In 2006, a study in UK concluded that the strategic issues such as cost-efficiency and quality will bring potential competitive advantages (Esa Puolamaki, 2006). Thus interactive usage of strategic management accountant aims to achieve goal congruence and mutual understanding among different functional areas in an organization. (Esa Puolamaki, 2006).
Strategic Management Accountant Role in Market Strategic management accountants evaluate economic market condition and provide relevant information to manager in making strategic planning and decisions. Strategic management accountant helps in reviewing new market threat and competitor that may influence organization growth.
Strategic Management Accountant Role in Transfer Pricing Strategic management accountant analyses tax saving for different location of office. Example: main rate of corporation tax in UK for 2001 is 27% and for Malaysia is 25%. Thus, Jessup Ltd able to save 2% tax by applying transfers pricing technique.
Strategic Management Accountant Power in Strategy Management Process Strategic management accountant plays vital role in strategy management process to achieve their goal (Chenhall, 2003). Kaplan and (2004) stated that in practice different organisations or manager in same organization have different way to establish and maintain alignment in operational level between strategy and management accounting due to different perspectives.
Strategic Management Accountant and Corporate Governance According to Seal (2006), strategic management accountant can embed better corporate governance practices as compare to management accountant. CIMA had involved in concept of Enterprise Governance Framework that recognises tensions between governance and value creation; performance; conformance and roles of accountants.
CIMA also suggested to implement Enterprise Governance Framework include formation of strategy committee and development of strategic scorecard to balance strategic position, option, risk and implementation.
As mentioned by Guilding et al (2000), in practice non-executive directors are not interest to adopt strategic management accountant data due to unwilling to collect information by accounting officials.
Strategic Management Accountants in Performance Measurement Survey done by Cadez and Guilding (2008) show organisation performance depends on the organization structure and context. This has been extended strategic management accounting usage is not associated with market orientation. Survey exhibits strategic decision making participation is not directly influence and related to performance.
According to Cadez and Guilding (2008); company size, prospector strategy, strategy decision making participation and deliberate strategy formulation are positive associated with strategic management accountant usage. In turn, strategic management accounting usages also positively influence performance.
Strategic Management Accounting Techniques In literature, Guilding et al. (2000) drew 12 strategic management accounting techniques. In subsequent work, Cravens and Guilding (2001); Cadez and Guilding (2008) drew additional 4 strategic management accounting techniques. Those techniques had classified into 5 different categories such as (1) costing, (2) planning, control and performance measurement, (3) strategic decision making (4) competitor accounting and (5) customer accounting” (Table 1).
Table 1: Management accounting techniques exhibiting strategy orientation (source: Cadez and Guilding (2008))
Strategic Management Accounting Technique Categories
Strategic Management Accounting Techniques
1. Attribute costing
2. Life-cycle costing
3. Quality costing
4. Target costing
5. Value chain costing
Strategy planning, control and performance measurement
2. Integrated performance measurement
Strategy decision making
1. Strategy costing
2. Strategy pricing
3. Brand valuation
1. Competitor cost assessment
2. Competitive position monitoring
3. Competitor performance appraisal
1. Customer profitability analysis
2. Lifetime customer profitability analysis
3. Valuation of customers as assets
* Brief description of strategic management accounting techniques are provided in Appendix (Table 3)
According to survey conducted by Guilding, C et al (2000), competitor accounting and strategic pricing are the most widely used strategic management accounting techniques. Cinquini and Tenucci (2007) found that attribute costing and customer accounting techniques are also popular strategic management accounting techniques. Please refer to the results in Table 2. Adoption of strategic management accounting techniques not seem be “strategy-driven”.
In contrast, integrated performance measurement and life cycle costing are not frequently used techniques (Cinquini and Tenucci, 2007). The same study also discovered that there is no significant relationship between the techniques used and the industry or the size of an organization.
Strategic Management Accountant Roles in Practice According to Dixon (1998), collection and use of information for competitive advantage can be achieved without implementing formal strategic management accounting techniques. The study concluded that there is only little evidence that strategic management accounting concept can be applied.
The cost to get the information via strategic management accounting technique might be higher than its benefit especially when the information is subjective, lacking in validity and not purely for competitive advantages (Dixon, 1998).
Management accountant may face difficulty in providing and identifying potential information due to the complicated strategic process (Granlund
Critical accounting theory
There are several reasons there is no one universally accepted theory of accounting. The reasons are of two sorts. The first is philosophical. The second is practical. This essay discusses each of these. It then provides examples from accounting theory.
The statement “There is no universally accepted accounting theory” is true by definition. Scientific understanding of the term theory denies that any theory can be universally accepted.
According to Popper (e.g., 2002a, 2002b), theories are conjectures that are put to the test. If they are refuted by the test, they are either rejected or refined. If they are not refuted, they remain theories (not “facts”). They are then put to further tests, and are further refined. In order for this to proceed, there must exist rival theories. In this way, theories compete in a process of Darwinian selection. The theories never get to the “truth”, but they get progressively closer.
This is the first reason there is no universally accepted theory of accounting. If there were a universally accepted theory of accounting, it wouldn’t be a theory. It would be something else.
Notice that, according to Popper, no theory ever arrives at certain knowledge. The best any theory can do is curtail ignorance. Moreover, if scientists were to discover a “true theory”, there would be no way they could know it was true, so there would still be competing theories.
This last point needs elaboration. Gödel’s incompleteness theorems (see, e.g., Hofstadter, 1979) demonstrate that, in any system of logic rich enough to contain formal arithmetic there exists an infinite number of statements that are true but that are impossible, in principle, for the system to know to be true. This means, in practical terms, that in any complex system-for example, an economic system-there exist solutions to problems that are “known” by the system, but are not known by any individual within it. This is appreciated by leading economists (e.g., Hayek, 1979). Further, given that there exist usually infinitely more wrong solutions to problems than correct solutions to problems, any attempt to solve such problems by diktat is infinitely more likely to lead to failure than to success. As regards economics, this led Hayek (1944) to his espousal of the free market. As regards theory in science, it means that any attempt to impose a single theory on anything is likely to lead to a seriously wrong theory. This is another reason for believing there can be no universally accepted theory of accounting. Any universally accepted theory could only be universally accepted if it were imposed by diktat, and, if it were imposed by diktat, it would of necessity most likely be wrong. Therefore it would give rise to a rival theory.
Related to this, Feyerabend (1996) argues that there is no such thing as a single scientific method, and that any attempt to impose one is counter-productive. Feyerabend’s philosophy of science is summarised as “anything goes”. This, provides another reason for there being no single theory of accounting. If there can be no universally accepted method, there can be no universally accepted theory.
There are two popular views of science that are in conflict with Popper’s perspective: positivism and postmodernism. Positivism is the philosophy, associated with Ayer (1946) that says that the only meaningful statements are those that are true by logic and those that may be verified by observation. This is the verification principle. The first problem with the verification principle is that it is neither a truth of logic nor an empirically verifiable fact, therefore by its own terms it is meaningless. The second problem is that in implies science proceeds inductively. But inductive logic (drawing general conclusions from specific instances) is flawed: a million observations of white swans, for example, does not demonstrate that all swans are white (indeed, they aren’t: some swans are black).
Postmodernism is the philosophy that “reality” is socially constructed. So what is “real” to one person may be “unreal” to another. At a trivial level, this is true, for different people see the same things in different ways. It is also true that, historically, science progressed in some instances by changes in world view, or paradigm (Kuhn, 1996). However, this is a question more of the sociology of science, not of ontology. And taken literally postmodernism is absurd. It leads to the conclusion that there is no such thing as reality.
The prevalence of competing philosophies of science-Popperism, positivism, and postmodernism-provides another reason for there being no universally accepted theory of accounting. There is no universally accepted view of what constitutes reality. Thus one should expect there to be different theories of accounting, each with its cadre of supporters.
There are three purposes for any theory of accounting, and each makes different demands on the theory.
The first is that accounting should provide the best information about a company’s position. Such a theory is prescriptive, in that it suggests how best accountants should ply their trade. Such a viewpoint is said to be normative. A normative theory is one that states what is best practice.
A theory of accounting may also seek to describe what accountants do. Any science must include accurate descriptions. It is logically possible for a researcher to adhere to a descriptive theory yet bemoan the fact that accountants don’t follow what the researcher considers the “correct” (i.e., normative) practice.
There is another aspect to descriptive theories. Until the advent of cheap computers, there was no way that researchers could analyse vast collections of data. Moreover, very often the data were unavailable (Gaffikin), 2008). Computers have changed this. This is another reason for believing there is no universally accepted theory of accounting. A descriptive theory is only as good as the data fed into it. But it is impossible to analyse all the data, only different blocks of data. Different blocks may give rise to different descriptions.
In describing how accountants behave, researchers must gather evidence. But what evidence? And how should researchers gather it? Positivists tend to use quantitative data. These are data that are, supposedly objective, and may be expressed numerically and manipulated statistically. Company sales figures are an example. Postmodernists tend to use qualitative data. These are data that make no claim to objectivity and are difficult to express numerically. The findings of unstructured interviews-emotions, impressions, and so on-are examples of qualitative data. Because of this, even when presented with the same evidence, different researchers may reach different conclusions. This is another reason there is no universally accepted theory of accounting.
A theory of accounting can seek to explain. Such theories are scientific in the Popperian sense, for they may be refuted. It is logically possible for a researcher to believe that Theory 1 is the best explanatory theory, Theory 2 is the best descriptive theory, and Theory 3 is the best normative theory. Thus again there are many theories of accounting. Any researcher may subscribe to three different theories, and do so without being inconsistent.
In practice, the distinction between normative, descriptive, and explanatory theories is blurred. Any theory of one type may have features of the others.
This section considers discusses two example theories.
Theory 1: Positive accounting theory
There are several problems with normative theory. One concerns what to enter. Consider assets. An accountant does not know how much a company’s assets are worth. So the accountant uses one of several indicators (historical cost, for instance). The accountant must also estimate how much assets depreciate. Accountants use algorithms to calculate depreciation-typically, straight line depreciation such that assets become worthless after three years. Such algorithms are only broadly accurate.
Such considerations led Watts and Zimmerman (1978) to develop positive accountancy theory. The theory is in part descriptive, in that it states what real-world accountants do, and in part explanatory, in that it purports to explain why accountants behave in the way they do. The theory says, in effect, that company accounts do not accord with reality. Instead, they accord with what powerful interests (stakeholders, shareholders, managers) want others to see as reality.
The theory makes two assumptions:
Homo economicus. This states three things. First, people are entirely rational. Second, people act only out of self-interest. Third, people act only to maximise their wealth.
The efficient market hypothesis (EMH). This states that, left to its own devices (i.e., if unregulated), the market delivers an optimum price for any good or service. The EMH states that prices accord with all available information.
The reason positive accounting theory makes these assumptions is that, without them, it is difficult to make quantifiable predictions, but with them it is relatively easy. Thus, for example, with them one can predict companies in one particular environment will prefer a different form of accounting from companies in another type of environment. Thus, for example, Watts and Zimmerman (1978) predict that firms whose earnings are increased by general price level adjusted accounting (GPLA) will oppose GPLA, but firms whose earnings are decreased by GPLA will favour it.
But the notion of H. economicus is problematic-some people are unintelligent, some are altruistic, and so on (Lunn, cited in Clark, 2008), The EMH is also contentious. Some economists accept it, others don’t. The EMH is also vague. If the market is efficient, the EMH doesn’t say how long it takes to reach a decision Also, if the EMH were true, arbitrage would be impossible. The best one can say about the assumptions is that they provide an approximation of reality. How good an approximation it is, nobody knows. This is another reason there is no universally accepted theory of accounting. Some people think the assumptions provide a good approximation; some people think they provide a bad one. Fama and French (2004) state that markets can be inefficient and investors can be ill-informed and irrational,
Just as owners, governments, and workers have vested interests, so have Watts and Zimmerman. In their case, they are interested in promoting positive accounting theory. So, in this regard, the theory has a normative aspect. It concerns how accountancy researchers should practice their trade. If all researchers follow Watts and Zimmerman’s diktats, Watts and Zimmerman will become rich. Naturally, all accountancy researchers want to be in Watts and Zimmerman’s position, but the only way for them to do so is to develop a rival theory. This is another reason there is no universally accepted accountancy theory.
Theory 2. Critical accounting theory
Critical accounting theory isn’t really a theory. It’s more a style of criticism. It aims, not only to alter accounting practice, but to change society (Gaffikin, 2008). It is political. Thus, for example, Laughlin (cited in Davis, 2008) states:
A critical understanding of the role of accounting processes and practices and the accounting profession in the functioning of society and organisations with an intention to use that understanding to engage (where appropriate) in changing these processes, practices and the profession.
In this, critical accounting theory is postmodernist.
Postmodernists point to the numerous flaws in positive accountancy theory. They highlight the weaknesses in the concepts of H. economicus and the EMH. They point out that Watts and Zimmerman use rhetorical devices to put the views across. They argue that the methodology and measuring instruments of positivist theories are crude, and so on. Occasionally, they make (or repeat) good points (e.g., the EMH is incorrect) (e.g., Mouck, 1992).
As indicated, postmodernists deny the existence of objective reality. In doing so, they deny the possibility of determining the truth, or worth, of any statement. Thus they deny the truth, or worth, of postmodernism.
This is the problem with postmodernism. If reality is socially constructed, then there cannot be a universally accepted theory, for socially constructed reality differs according to who is doing the constructing. A “true” theory to one postmodernist is a “false” theory to all others.
That is why there is no universally accepted theory of accounting.
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