ABC Essentials

1. ABC Essentials Become Familiar with Terminology Emphasize Basic Concepts Behind Activity-Based Cost and ABM Apply concepts thru Class Exercises

2. Managerial Accounting Essentials This introductory course in Managerial Accounting with an emphasis on Activity-Based Cost and Management is based on the textbook, Management Accounting, 2 ed., written by Anthony A. Atkinson, Rajiv D. Banker, Robert S. Kaplan, and S. Mark Young. Concepts and terms from Chapters 1 through 5 plus 9 and 10 will be highlighted for this course. Conventions used throughout the course: - indicates a definition - indicates a key concept or equation

3. Management Accounting Goals • Improve the quality of operations • Lower the cost of operations • Increase the responsiveness of operations for customer needs

4. #1 - Management Accounting Information that Creates Value Differences between financial and management accounting The informational needs of management accounting Activities as the primary focus for measuring and managing performance

5. Basic Features of Accounting

6. Management Accounting System Operational and Financial Data INPUTS PROCESSING Management Accounting Information OUTPUTS

7. Management Accounting The process of identifying, measuring, reporting and analyzing financial as well as operating information for the internal users regarding the economic condition of an organization.

8. Managerial Accounting Internal constituencies Feedback and control Current, future oriented Process driven Financial, operational, physical measures More subjective More drill-down Financial Accounting External constituencies Past performance Historically oriented Rules driven Only financial measures Objective Highly aggregate Comparisons of the Systems

9. The Various Levels for Reporting Senior Executives Upper/ Middle Management Upper/ Middle Management Operational Operational Operational

10. Operational Level • Level of detail • Disaggregate • Types • Inputs used • Outputs produced • Quality of service or production process • Very current • Frequency • Very Frequent

11. Middle/Upper Management • Level of detail • More aggregate • Types • Resources used • Efficiency • Quality of work performed • Profitability • Current and future • Frequency • Frequent

12. Senior Executives • Level of detail • Highly aggregate • Types • Profitability • Market opportunities and threats • Customer loyalty and satisfaction • Technological innovations • Current and future • Frequency • Less Frequent

13. Functions of ABC Operational Control Product Costing Customer Costing Management Control

14. Functions of ABC

15. Foundation of ABC Circa 1920 General Motors Decentralized responsibility Centralized control Flexible budget DuPont Corporation Operating budget Capital budget Return on investment ROI = Operating Income/Investment After 1925, Modern Day Accounting Reporting Standards were established by the Securities Exchange Commission.

16. Flexible Budget A forecast of what expenses should have been, given the actual volume and mix of production and sales. Flexible budgets recast cost targets in the planned or master budget to reflect the actual level of production. This allows comparisons of actual results to targets based on the achieved level of production.

17. Flexible Budgets Budget Timephased Flexible Budget Look Familiar? (Circa 1925…) Dollars Unfavorable Cost Variance Favorable Cost Variance Time Flexible (Time)

18. Cost Performance • Comparison of: • Actuals • Budget • ETC • EV Modern Flexible Budgeting

19. Cost Performance Terms • Data Elements: • Total Budget = Budget at Completion • Budget = Budget to Date • Performance = Performance to Date (EV) • Expenses = Actual Cost to Date • ETC = Estimate to Complete • EAC = Estimate at Completion

20. Cost Performance Terms • Analysis: • CV = Cost Variance • SV = Schedule Variance • VAC = Variance at Completion • SPI = Schedule Performance Index • CPI = Cost Performance Index • IEAC = Independent Estimate At Complete • These calculations are used to analyze the performance of the operation.

21. Cost Performance Calculations

22. Cost Performance Example A fan manufacturer implements cost performance techniques to analyze the progress of the operation. • The Initial Plan for production: • Make 1,000 Fans over 50 days • Steady rate of 20 fans per day • Budgeted cost per fan is $50 • Total project budget is $50,000

23. Cost Performance Example • Status of fans after 10 days: • Budget to Date: $10,000 • Performance to Date: $7,500 • Actual Cost to Date: $9,000 • ETC $2,500 • EAC $11,500 • VAC $1,500 • Schedule Variance: ($2,500) • Cost Variance ($1,500) • SPI .75 (less than one) • CPI .833 • This effort is behind schedule and over budget as indicated by the SV and CV

24. Projecting Revenue and Expenses Sales/Revenue Budget Timephased Flexible Budget Look Familiar? (Circa 1925…) ROI Dollars } Unfavorable Cost Variance } Favorable Cost Variance Time Flexible (Time)

25. Actual Cost Data Elements in ABC Revenues RAC - Revenue at Complete RP - Revenue Planned RBTD - Revenue Billed to Date RCTD - Rev.e Collected to Date CV - Cost Variance (BCWP-ACWP) SV - Schedule Var. (BCWP-BCWS) Profit - RCTD - ACWP Expenses BCWS - Budgeted Cost of Work Scheduled BCWP - Budgeted Cost of Work Performed ACWP - Actual Cost of Work Performed ETC - Estimate to Complete EAC - Est. at Complete Cost vs. Revenue Expenses

26. Service Industries and Companies

27. Activities Represent the “verbs” of a company • Are “Product-Oriented” • Work output will have a discrete unit of measurement • These “verbs” consume an organization’s resources and employees

28. Activity-Based Costing A procedure that measures the costs of objects, such as products, services and customers. Activity-based costing (ABC) first assigns resource costs to the activities performed by the organization. Then activity costs are assigned to the products, customers, and services that benefit from or are creating the demand for the activities.

29. Activity-Based Management The management processes that use the information provided by an activity-based cost analysis to improve organizational profitability. Activity-based management (ABM) includes performing activities more efficiently, eliminating the need to perform certain activities that do not add value for the customers, improving the design of products, and developing better relationships with customers and suppliers. The goal of ABM is to enable customer needs to be satisfied while making fewer demands on organizational resources.

30. Produce a product Indirect contact with customers Have inventory Quality to build into production process Provide a service, generally no product More direct contact with customers No inventory, per se Quality hard to control in advance Manufacturing vs Service Function Manufacturing Organization Service Organization

31. Continuous Improvement Empowering employees to continually problem-solve and search for ways to improve organizational processes.

32. Employee Empowerment Managers give employees who are closest to operating processes, customers, and suppliers the rights to make decisions. Employees are encouraged to solve problems and devise creative new approaches for performing work and satisfying customers.

33. Employee Empowerment Enables Sharing pertinent financial information with operators allows them to do the following: • Identify the opportunities for significant cost reduction • Set priorities for improvement projects • Make tradeoffs among alternative ways to improve operations • Evaluate proposed investments to improve operations • Assess the consequences of their improvement activities

34. Total Quality Management A philosophy that attempts to eliminate all defects, waste, and activities that do not add value to customers.

35. Balanced Scorecard A multi-dimensional measurement system that translates an organization’s mission and strategy into performance measures.

36. Balanced Business Scorecard Financial Perspective How do we look to our shareholders? Vision & Strategy Customer Perspective How do we look to our customers? Business Process What business processes are the value drivers? Organization Learning Are we able to sustain innovations, change and improvement?

37. The Internal Business Process Post-Sale Service Process Innovation Process Operations Process Identify the Market Create the product/ service offering Build the product/ service Deliver the product/ service Service the Customer Customer Need Identified Customer Need Satisfied

38. Behavioral Implications • Information is never neutral • People react to measurements • People familiar with “old” systems often resist “new” systems • Unexpected actions may result as employees respond to new performance measures Behavioral Implications of Management Accounting Information:

39. Applying the Concepts Difference between Financial & Managerial Accounting Exercise #1 What are the advantages and disadvantages of having separate departments for financial accounting and management accounting?

40. Applying the Concepts Difference between Financial & Managerial Accounting Exercise #1 What are the advantages and disadvantages of having separate departments for financial accounting and management accounting? The principal advantage is that these quite different functions can be performed by employees who are dedicated to their particular tasks. A particular advantage for managerial accountants is not having to follow GAAP. Separate departments may result in information prepared for internal use that may not immediately compatible with external reporting requirements.

41. Applying the Concepts Difference between Financial & Managerial Accounting Exercise #1 (continued) Many German companies have their management accounting department as part of the manufacturing operations group rather than as part of the corporate finance department. These German companies operate two separate accounting departments. One performs financial accounting functions for shareholders and tax authorities; the other maintains and operates the costing system for manufacturing operations.

42. Applying the Concepts Employee Empowerment Exercise #2 Information for Employee Empowerment A U.S. automobile components plant had recently been reorganized so that quality and employee teamwork were to be the guiding principles for all managers and workers. Comments by participants included: Production worker - In the old production environment, we were not paid to think. The foreman told us what to do, and we did it even if we knew he was wrong. Plant Controller - In the traditional factories, the financial system viewed people as variable costs. Our production people are now viewed as problem solvers, not as variable costs.

43. Applying the Concepts Employee Empowerment Exercise #2 1. What information needs did the production workers have in the old environment? 2. What information do you recommend be supplied to the production workers in the new environment that emphasizes quality, defect reduction, problem-solving, and teamwork?

44. Applying the Concepts Employee Empowerment Exercise #2 (continued) 1. What information needs did the production workers have in the old environment? Virtually none, they did what they were told. 2. What information do you recommend be supplied to the production workers in the new environment that emphasizes quality, defect reduction, problem-solving, and teamwork? They need information after each batch: defects, scrap, downtime, etc. They also need information on yields and capacity, trend information, etc.

45. #2 - The Organization The organization as a sequence of activities in a value chain The role of the customer in defining focus The nature of value-added and nonvalue-added activities

46. Value Chain A sequence of activities that creates a good or service in which each step of the sequence should add something that the customer values to the product. Customer Product Activities Activities Activities Activities Activities Activities Activities

47. Key Elements of the Value Chain (4) Administrative Activities Personnel, legal, finance, research, accounting (1) Input Activities Product design, process design, purchasing, receiving, hiring, training (2) Processing Activities Making, moving, storing inspecting (3) Output Activities Selling, shipping service

48. Stakeholders Those people, groups, or institutions who define an organization’s success or who can affect its ability to achieve its objectives.

49. Stakeholders and the Value Chain Domain of Management Accounting the organization’s primary values Stakeholder Objectives: customers employees suppliers owners community Organization Objectives compare actual with plan effects of value chain design on stakeholders other than customers Organization Control effects of customer satisfaction on other stakeholders value chain/process constraints products Customer Satisfaction with Products compare actual with plan process objectives relating to customers Value chain design and operation Process Control

50. Stakeholder Groups • Each group makes contributions to the organization, has requirements the organization must meet, and has an effect on the value chain Employees Community Suppliers Customers Owners