⏱️Managerial Accounting Unit 2 – Managerial Accounting Fundamentals

What's This Unit All About?

• Managerial accounting focuses on providing financial information to internal users (managers) for decision-making purposes
• Differs from financial accounting which provides information to external users (investors, creditors) for investment and lending decisions
• Emphasizes the future rather than the past helps managers plan and control operations
• Includes cost analysis, budgeting, performance evaluation, and decision-making tools
• Tailored to the specific needs of each organization not bound by strict rules like financial accounting (GAAP)
• Plays a crucial role in helping managers optimize resources, minimize costs, and maximize profits
• Supports strategic planning by providing insights into the financial implications of different business strategies

Key Concepts and Definitions

• Cost a monetary measure of the resources used to achieve a specific objective
• Direct costs can be easily traced to a specific product, service, or department (raw materials, direct labor)
• Indirect costs cannot be easily traced to a specific product, service, or department (rent, utilities, administrative salaries)
  • Allocated to products or services using a rational and systematic method (cost allocation)
• Fixed costs remain constant regardless of changes in activity level (rent, salaries)
• Variable costs change in direct proportion to changes in activity level (raw materials, hourly wages)
• Contribution margin sales revenue minus variable costs
  • Represents the amount available to cover fixed costs and generate profit
• Break-even point the level of sales at which total revenue equals total costs
  • Calculated as: $\text{Break-even Point} = \frac{\text{Fixed Costs}}{\text{Contribution Margin per Unit}}$
• Relevant costs future costs that differ between alternatives and should be considered in decision-making
• Sunk costs past costs that cannot be changed and should be ignored in decision-making

Types of Managerial Accounting

• Cost accounting measures and reports financial and non-financial information related to the costs of acquiring or using resources
  • Includes job order costing, process costing, and activity-based costing (ABC)
• Budgetary control involves preparing budgets, comparing actual results with budgeted amounts, and analyzing variances
  • Includes static budgets, flexible budgets, and rolling budgets
• Performance measurement evaluates the performance of individuals, departments, or the entire organization
  • Includes financial measures (return on investment, residual income) and non-financial measures (customer satisfaction, quality)
• Decision support provides information to help managers make decisions
  • Includes relevant costing, cost-volume-profit analysis, and capital budgeting
• Strategic management accounting provides information to support long-term strategic decisions
  • Includes competitor analysis, value chain analysis, and balanced scorecard

Cost Classification and Behavior

• Manufacturing costs direct materials, direct labor, and manufacturing overhead
  • Included in the cost of inventory until products are sold
• Non-manufacturing costs selling and administrative expenses
  • Expensed in the period incurred not included in inventory
• Product costs direct materials, direct labor, and manufacturing overhead
  • Included in the cost of inventory
• Period costs selling and administrative expenses
  • Expensed in the period incurred
• Mixed costs contain both fixed and variable components (utilities, maintenance)
  • Can be separated into fixed and variable portions using methods like high-low method or regression analysis
• Step costs remain constant within a relevant range but increase or decrease when activity level exceeds the relevant range (supervisor salaries)
• Cost behavior analysis understanding how costs change with changes in activity level
  • Helps managers make decisions, plan, and control operations

Budgeting and Forecasting Basics

• Budget a quantitative expression of a plan of action for a specified period
  • Includes financial budgets (sales, production, cash) and operating budgets (units sold, units produced)
• Master budget a comprehensive set of budgets that includes the operating budget, financial budget, and capital budget
• Static budget a budget prepared for a single level of activity
  • Does not adjust for changes in actual activity level
• Flexible budget a budget that adjusts for changes in activity level
  • Useful for performance evaluation and variance analysis
• Incremental budgeting preparing a budget based on the previous period's budget with adjustments for expected changes
• Zero-based budgeting preparing a budget from scratch, justifying all expenditures
• Participative budgeting involving subordinates in the budgeting process
  • Can increase motivation and commitment but may lead to budgetary slack
• Forecasting predicting future events or conditions
  • Techniques include time series analysis, regression analysis, and qualitative methods (Delphi method)

Decision-Making Tools

• Relevant costing considering only relevant costs and revenues when making decisions
  • Relevant costs and revenues are future costs and revenues that differ between alternatives
• Special order decisions deciding whether to accept a one-time order at a price below the regular selling price
  • Accept if the special order price exceeds the variable cost per unit
• Make or buy decisions deciding whether to make a component in-house or purchase it from an outside supplier
  • Choose the alternative with the lower relevant cost
• Product mix decisions determining the optimal mix of products to produce when there are constraints (limited machine hours, labor hours)
  • Use linear programming or the contribution margin per unit of the constraining factor
• Capital budgeting evaluating long-term investment projects
  • Techniques include net present value (NPV), internal rate of return (IRR), and payback period
• Cost-volume-profit (CVP) analysis examining the relationships among costs, volume, and profit
  • Includes break-even analysis, target profit analysis, and margin of safety

Performance Measurement

• Responsibility accounting a system that measures the performance of each responsibility center (cost center, profit center, investment center)
• Controllable costs costs that can be directly influenced by a manager
  • Used to evaluate a manager's performance
• Non-controllable costs costs that cannot be directly influenced by a manager (allocated corporate overhead)
  • Excluded from performance evaluation
• Return on investment (ROI) a measure of profitability that relates operating income to the assets used to generate that income
  • Calculated as: $\text{ROI} = \frac{\text{Operating Income}}{\text{Average Operating Assets}}$
• Residual income operating income minus a required return on invested capital
  • Encourages managers to invest in projects that exceed the cost of capital
• Balanced scorecard a performance measurement system that includes financial and non-financial measures
  • Perspectives include financial, customer, internal business processes, and learning and growth
• Benchmarking comparing performance to industry standards or best practices
  • Helps identify areas for improvement

Real-World Applications

• Cost reduction identifying and eliminating non-value-added activities (overproduction, waiting, unnecessary processing)
  • Techniques include value engineering, process reengineering, and lean manufacturing
• Pricing decisions setting prices for products or services
  • Consider costs, competition, customer demand, and company objectives
• Outsourcing decisions deciding whether to perform an activity in-house or contract it out to a third party
  • Consider costs, quality, flexibility, and strategic importance
• Performance evaluation evaluating the performance of managers, departments, or the entire organization
  • Use a mix of financial and non-financial measures that align with company strategy
• Continuous improvement a philosophy of constantly seeking ways to improve processes and reduce costs
  • Techniques include kaizen, six sigma, and total quality management (TQM)
• Environmental cost management identifying, measuring, and managing environmental costs
  • Includes waste disposal costs, environmental compliance costs, and eco-friendly product design
• Just-in-time (JIT) inventory management a system that minimizes inventory by producing or purchasing goods only as needed
  • Reduces inventory holding costs and improves quality but requires reliable suppliers and accurate forecasting