1.5 Study & Review

Explain how management accounting is a competitive tool.

Good companies experiment with their internal information systems in order to generate better data allowing them to make better decisions than their competitors are making.

Understand the essential differences between management accounting and financial accounting.

Management Accounting Financial Accounting
Variability Across Companies Unique competitive tool Uniform across companies (generally accepted accounting principles)
Type of Data Both financial and nonfinancial data Restricted to financial data
Availability of Data Data usually kept secret within the company Data often made public
Use of Data Used for internal planning, control, and evaluation Used primarily by investors and creditors in deciding whether to provide capital to the company

Recognize and understand the common terms and concepts used in management accounting.

Decision Context

• Given the cost structure, will sales be high enough to break even?

 Fixed cost—A cost that doesn't change based on changes in the level of sales or production. Variable cost—A cost that changes directly with changes in the level of sales or production.
• How much will profits change with a given change in sales?
• What is the cost per unit to make a product? Product cost—A cost incurred as part of the production process. Operationally, these are the costs incurred in the factory. These costs are first reported as an asset (inventory) and then as an expense (cost of goods sold) when the product is sold. Period cost—A cost incurred outside the factory or production facility. These costs are reported as an expense in the period in which they are incurred.
• Should we stop making a certain product?

• Should we close down a certain business segment? 		Direct cost—A cost that is created by a particular product or segment that is being analyzed. If a product or segment is dropped, the direct costs created by that product or segment will disappear. Indirect cost—A cost that is assigned to a particular product or segment but that is not actually caused by that product or segment. If a product or segment is dropped, the indirect costs assigned to that product or segment will remain.
• Should we do Action A (where Action A can be dropping a product line, firing an employee, taking a special order, etc.)? Differential cost—A future cost that can be changed by a decision made now. Sunk cost—A past cost that cannot be changed by any decision made now.
• Should we do Action A (where Action A can be dropping a product line, firing an employee, taking a special order, etc.)? Out-of-pocket cost—Cost that involves the outlay of cash or the use of some other asset (such as equipment). Opportunity cost—The benefits not received because of actions NOT taken.

Types of Product Cost:

  • Direct materials—The cost of the primary raw materials used in production. For example, in producing french fries, the direct materials cost is the cost of the potatoes.

  • Direct labor—The cost of the wages of the workers who are assembling the direct materials into the finished product. In producing an automobile, the direct labor cost is the cost of the auto workers on the assembly line.

  • Manufacturing overhead—All factory costs that are not direct materials or direct labor. Examples are factory supervisor salaries, factory building depreciation, and miscellaneous indirect materials such as glue or screws.

Discuss the need for ethics in management accounting and describe the ethical principles that apply to this profession.

  • The chief accountant in most organizations is the controller.

  • Those persons involved with creating management accounting information will occasionally confront ethical issues inside the organization.

  • The Institute of Management Accountants (IMA) provides guidance on ethical professional practice to help professionals involved in management accounting processes.

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