How To Rejuvenate A Mature Bus Essay

This essay has a total of 2395 words and 12 pages.

How To Rejuvenate A Mature Bus

The last two decades has seen a revolution in management accounting theory and practice
due to the challenges of the competitive environment in the 1980s. Kaplan and Johnson
(1987) identified the failings and obsolescence of existing cost and performance
measurement systems which led to re-examination of traditional cost accounting and
management control systems. Conventional financial and management accounting methods have
developed primarily as a result of corporate legislation in the 1930s forcing companies to
provide externally published financial accounts.

Management accounting is primarily focused as a decision making tool for running a
business, hence they require more flexibility. According to Kaplan management accounts
have become a subset of financial accounts and that they reflect more on the external
rather than internal requirements of the company. Most of the managerial decision-making
and control systems in use in the late 1980s were described by Johnson and Kaplan as
stagnant. As a result, they went onto research in new accounting systems raising the
profile of internal accounting systems by use of financial and non-financial measures
although their work was seen as controversial by Drury but is now considered of key
importance to manufacturing industries aiming to become world class. This essay aims to
discuss the ways in which new management accounting techniques can bring life into mature
businesses, in particular those using non-financial measures.

Most companies still use the same cost accounting and management control systems that were
developed decades ago in a competitive environment drastically different from today. These
systems have major drawbacks described below:

,h They distort product costs i.e. absorption of production overheads into product costs
for the purpose of stock valuation. The external financial reporting process was purely
driving this allocation of overheads for stock valuation.

,h They do not produce the key non-financial data required for effective and efficient
operations, hence they are of little help to operating managers¡¦ seeking to reduce
costs and improve productivity.

,h The data produced reflected on external reporting requirements far more than the
reality of the new manufacturing environment.

,h Failure to provide accurate product costs as they were distributed by simplistic and
arbitrary measures usually direct labour based.

,h The short term profit pressures led to a decline in long term investment.

These poorly designed or outdated systems can distort the realities of manufacturing
performance. As companies become more efficient by using new technologies, labour costs
are accounting for a smaller proportion of a company¡¦s overall cost, hence the
allocation of overheads to labour hours will become irrelevant and counter-productive to
the company¡¦s operations.

The most enduring management accounting innovation was the return on investment (ROI)
measure which provided an overall measure of the financial performance of each operating
units or the entire company. The ROI, initially developed by Du Pont and General Electric
in the early 20th century, came about due to the excessive focus on achieving short-term
financial performance. As ROI control was introduced, managers aimed to achieve good
performance by making operating and investment decisions on developing new and better
products/processes, increasing sales and reducing operating costs. But it later became
evident that during hard times, when sales were decreasing and operating costs were
increasing, ROI targets could still be achieved through financial entrepreneurship by
reducing discretionary expenses and exploiting accounting conventions. The creation of
wealth through these activities will not help companies survive as world-class

Problems of ROI are only surfacing now because of:
,h the difference in size of organisations, changes in the competitive environment and the rapid movement of technology
,h less pressure for short-term financial performance in the last two decades
,h current managers have little knowledge of their organisation¡¦s technology hence they
rely on creating value through accounting activities

Cooper and Kaplan introduce the Activity Based Costing (ABC) systems for manufacturing
expenses as a replacement for traditional cost allocation systems. ABC is an internal
accounting system designed to track overheads to cost units. ABC attempts to track
overhead costs to units as accurately as possible hence the concept of the cost driver is
essential to this system. A cost driver is a unit measure of a particular overhead that
can be assigned to a user of that overhead. For example, in attempting to allocate
administration overheads to products, the cost driver may be the number of invoices
generated for that product. Hence the product generating most invoices will acquire the
largest share of the administration overhead. There does not have to be one driver per
overhead. There can be more drivers per overhead if they are relevant to the organisation.
The ABC model is shown below:

A more accurate means of allocating overheads means that product costs can now be more
accurately assessed. ABC analysis allows companies to discover profitable products that
have not been properly exploited because the correct costs had not been appreciated. If
unit costs are based on budgeted capacity rather than actual, ABC highlights excess
capacity because only consumed capacity is allocated via cost drivers. Hence there is a
now a measure of excess capacity. This takes away the focus of meeting budgets at all
costs and instead focuses on continuous improvement.

Product costing is not the only use of ABC. By finding appropriate drivers and cost units,
overheads can be assigned to anything that uses them. This allows sales and marketing
costs to be assigned both to the products and customers. Traditional systems do not take
into account costs generated by customers. For organisations concerned with customer
focus, ABC will give valuable insights into customer behaviour. The other benefits of
using ABC are its focus on continuous improvement, its measurement of activities at the
process level, its provision of accurate cost data including those generated by the
customers, and it is geared for the medium term (3-5 years).

An extension of ABC is Activity Based Management (ABM), where using the cost drivers, a
deeper understanding of the process is enabled. By measuring activity and costs, ABM has a
system to monitor continuous improvement and manages a business from a process perspective
rather than a departmental one. Therefore it can make decisions based on accurate process
level information.

A greater understanding of factors critical to the success of manufacturing organisations
is needed. Accounting researchers can play a critical role in this effort by attempting to
develop non-financial measures of manufacturing performance like quality, productivity,
inventory innovation and workforce . A particular challenge is to de-emphasise focus on
short-term financial measures and develop indicators that are more consistent with
long-term competitiveness and profitability. The challenge of improving a firm¡¦s
manufacturing performance is particularly relevant to managerial accountants as they are
supposed to provide information for planning and decision making. Therefore, measurement
systems for today¡¦s manufacturing operations must consider the following non-financial
indicators of manufacturing performance:

Quality is emerging as perhaps the most important factor if companies are trying to excel
as world-class competitors. U.S. firms typically inspect quality into products whereas
Japanese manufacturing is dedicated to eliminating all product defects. Quality is planned
and thought into the product at all stages of manufacture including design and supplier
specifications. Further commitment is required in training employees, maintenance of
equipment and integrating with suppliers. With this embedded into the processes the goal
of achieving zero defects can be achieved. Executives claim that manufacturing costs
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