Lecture 3
Introduction to
Management
Accounting
Three main overlapping areas of
accounting activity
Adapted from: Atrill P., (2003) Financial Management for Non-specialists. p2.
Financial Management means planning, organizing, directing
and controlling the financial activities such as procurement and
utilization of funds of the enterprise. It means applying
general management principles to financial resources of the
enterprise.
Management accounting is also called managerial accounting or
cost accounting, is the process of analyzing business costs and
operations to prepare internal financial report, records, and account
to aid managers' decision making process in achieving business
goals.
Financial reporting is the disclosure of financial results and
related information to management and external stakeholders (e.g.,
investors, customers, regulators) about how a company is
performing over a specific period of time.
Purpose of Management Accounting
The Process What is it? Information needs
• First part of the decision • What has happened in
making process. the past.
• Establishing objectives • What might happen in
Planning
and formulating the future.
strategies to achieve
objectives
• Making an informed • Reliable information on
decision different courses of
Decision Making • Choosing between action
alternatives • The consequences of
different options
• Comparing information • Information on control
on actual and planned results
Control results • Plans/ targets
• Pre-emptive in nature • Internally produced
feedback
Strategic, technical and operational
planning
Data and information
Data and information are different.
Information is data which has been
processed in such a way that it is
meaningful to the person who receives it
(for making decisions).
Management Accounting Techniques
Process data into information
An example is costing
Costing: the basics
“Costing is a process of accumulating
different relevant costs which may have
been incurred in relation to
Cost Objects,
Cost Units
Cost Centres
Cost Objects, Units & Centres
A Cost object : any
activity for which a
separate
measurement of
cost is undertaken,
e.g. A product
Cost centre : a Cost unit : a unit
production or
service location, of product or
function, activity or service in
item of equipment relation to
for which costs can
be ascertained e.g.
which costs are
A ward in a hospital. ascertained
Classifying costs
Element Function Nature Behaviour
• Material • Production • Direct • Fixed
• Labour • Non- • Indirect • Stepped
• Expenses production Fixed
• Variable
• Semi-
variable/
fixed
Production Costs
Production costs are those incurred when raw materials are
converted into finished and part-finished goods.
Direct Direct Labour Direct Expenses Variable Fixed
Material Production Production
Overheads Overheads
Material Labour which is Other expenses Overheads Costs which
(Core) directly involved directly involved which vary remains
Which go in making a in making a directly in constant
into making Specific product Specific product proportion whatever the
a Specific or providing a or providing a to the production. It
product and service and service and quantity is usually true
costs can costs can costs can produced. within a given
directly be directly be directly be range and
attributed attributed and attributed and short-
and calculated. calculated. medium term.
calculated.
Non-Production Costs
Non- Production costs are costs not directly associated with the
production processes in a manufacturing organisation.
Administrative Selling Costs Distribution Costs Finance/interest
costs Costs
Cost of running Costs associated Costs of Costs incurred in
general admin with marketing distributing financing an
and taking orders finished products organisation.
Direct and Indirect costs
Direct costs : costs which can be directly identified with a
specific unit or cost centre
Total of direct costs =
Direct Materials + Direct labour + Direct expenses =
Prime Cost
Indirect costs : costs which can not be directly identified
with a specific unit or cost centre
Indirect costs =
Indirect Materials + Indirect labour + Indirect expenses =
Overheads
Cost behaviour – Fixed Costs
A cost that, within certain output and sales revenue limits, is unaffected by
changes in the level of activity.
Stepped Fixed Costs : A fixed cost which is only fixed within a certain level of
activity. Once the upper level is reached, a new level of fixed costs becomes
relevant.
Cost Behaviour – variable cost
The way in which costs vary at different levels of activity
• A cost that varies with the level of activity, e.g. Material cost
Cost behaviour – Semi variable costs
A cost with a fixed and a variable element, e.g. telephone charges with fixed line
rental and charge per call.
Cost behaviour – Hi-low method
Costs are analysed into variable & fixed elements using the
hi-low method.
Step1 :
Select high and low activity levels and their
associated costs.
Step 2 :
Variable Cost per unit
=
Change in Cost / Change in level of activity
Step 3 :
Find fixed cost by substitution
Fixed cost per unit
=
Total cost – (Variable Cost per unit * Number of
units)
Hi-low method - Example
Example
An organisation has the following total costs at
different activity levels
Activity level
(Units) 4 000 6 000 8 000
Total cost
($) 105 000 150 000 190 000
There is a 20% step increase in fixed costs for each
increase in activity level of 5 000 units
Find the total cost of 4 500 units
Solution:
The difference in cost/difference in units
40 000/2 000= £20 per unit is variable cost
So the total variable cost for 6 000 units= 6 000x $20=120 000
Therefore fixed cost =150 000-120 000=30 000
30 000 is after 20% increase, which is 120%
So 100%=30 000/120x100= 25 000
The variable cost for 4 500 units= 4 500 units x$20= 90 000
Total cost =90 000+25 000= 115 000
Calculating Total Cost
Cost Card
£
A cost card for a cost
Direct Material X
object, unit or centre +Direct Labour X
brings together all the +Direct Expenses X
=Prime Cost XXX
costs relating to it.
+ Variable Production Overhead X
=Variable Cost of Production XXXX
+Fixed Production Overhead X
=Total Production Cost XXXXX
+Non-production Overhead X
=Total Cost of a Unit XXXXXX
