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Nature of Management Accounting Characteristics of Management Accounting:
- It is a selective technique. It compiles only the data from balance sheet and profit and loss, which is relevant and useful.
- It is concerned with data not decisions. It can inform but not prescribe.
- It deals with future. It is a kind of planning for the future because decisions are taken for future course of action.
- It examines the cause and effect of relationship. Normally, a profit and loss account will show the amount of profit or loss for the year but does not tell us the reasons for it. Management accounting studies the causes of profit or losses.
- It does not follow rigid rules and formats like financial accounting. The necessary info is provided in the shape of various statements or reports in order to meet the needs of the management. Objectives of Management Accounting:
- To help the management in promoting efficiency.
- To finalize budgets covering all functions of a business.
- To study the actual performance with plan for identifying deviations and their causes.
- To analyze financial statements to enable the management to formulate future policies.
- To help the management at frequent intervals by providing operating statements and short-term financial statements.
- To arrange for the systematic allocation of responsibilities for the implementation of plans and budgets.
- To provide a suitable organization for discharging the responsibilities. Scope of Management Accounting:
- Financial accounting: Related to the recording of business transactions including income, expenditure, inventory movement, assets, liabilities, cash receipts, etc.
- Cost accounting: Costing is a branch of accounting. It is the process of and technique of ascertaining costs. It includes standard costing, marginal costing, differential and opportunity cost analysis.
- Budgeting and forecasting: Covers budgetary control
- It reports financial results to the management
- It provides statistical data to various departments. Functions of Management Accounting:
- It assists in planning and formulating future policies.
- It helps to interpret and analyze the financial information.
- It controls and monitors performance.
- It helps to organize various functions of an organization.
- It offers solution for strategic business problems.
- It coordinates various departmental operations.
- It motivates employees. Functions of management Accountant:
- Collection of data
- Analysis
- Presentation of data
4. Planning: A management accountant plans the entire accounting functions.
5. Controlling: Examines the performance against the set standard and reports it to the management.
6. Reporting: He reports to the management and advises them on future decisions.
- Coordinating: preparation of master budget
- Decision making Standard costing
What is Material Cost Variance? What are its sub-divisions?
Material Cost Variance or Material Total Variance is the Variance in material cost actually incurred on material and the material cost estimated on material. Material Cost Variance can be derived as follows: MCV = (Standard Quantity x Standard Rate) – (Actual Quantity x Actual Rate) Material Cost Variance can be sub-divided as follows: a) Material Rate Variance or Material Price Variance is the variance in the rate or price of material actually spent and the material rate/price estimated. Thus, even if there is no change in quantity consumed, if there is a difference in the total cost, then it is due to the difference in the rate at which material is consumed. Material Rate Variance can be derived as follows:
MRV = Actual Quantity (Standard Price – Actual Price) b) Material Usage Variance is the variance in the usage of material in actual production and the estimated usage of material. Thus, even if there is no change in the rate of material, if there is a change in the total cost, then it is due to the change in consumption of material. Material Usage Variance can be derived as follows: MUV = Standard Rate (Standard Quantity – Actual Quantity) What is Material Usage Variance? What are its sub-divisions? Material Usage Variance is the variance in the usage of material in actual production and the estimated usage of material. Thus, even if there is no change in the rate of material, if there is a change in the total cost, then it is due to the change in consumption of material. Material Usage Variance can be derived as follows: MUV = Standard Rate (Standard Quantity – Actual Quantity) Material Usage Variance can be further sub-divided into: a) Material Mix Variance : The difference between actual quantity of material and revised standard quantity of material is the Material Mix Variance. Revised Standard Quantity is the Actual Quantity of Material divided in the standard raw material ratio. Material Mix Variance can be derived as follows: MMV = Standard Rate (Revised Standard Quantity – Actual Quantity) b) Material Yield Variance : The difference between the actual output and the standard expected output is the Material Yield Variance. There are two methods of calculating Material Yield Variance. They are as follows: Input Method: MYV = (Standard Input – Actual Input) x Average Cost / unit Output Method: MYV = (Actual Output – Standard Output) x Total Cost / unit (Note: Labour Variances can be answered in the same manner as Material Variances. Incase of any doubt or query, please put your queries on: www.sigmaforum.tk ) Marginal Costing What is Marginal Costing? Why is it calculated? The marginal cost of a product is defined as the change in cost that occurs when the volume of output is increased or reduced by one unit. Marginal costing is used to assess whether it is financially feasible to increase manufacturing volume or to calculate the effect of reducing volume, perhaps due to a decline in the market. It is based on variable costs because fixed costs are fixed. They occur and do not change if manufacturing volume changes. Following factors are calculated on the basis of marginal costing: production planning pricing make or buy close-down accept or reject dropping a production line accepting additional order
Write a note on Break Even Point.
Break Even Point is the level of sales required to reach a position of no profit, no loss. At Break Even Point, the contribution is just sufficient to cover the fixed cost. The organisation starts earning profit when the sales cross the Break Even Point. Break Even Point can be calculated either in terms of units or in terms of cash or in terms of capacity utilization. It can be calculated as follows: BEP in units = Fixed Cost / Contribution per unit BEP in cash = Fixed Cost / P.V. Ratio BEP in terms of capacity utilization = BEP in units / Total capacity x 100
3. Profit = Estimated Profit x Cash Received ___
Total Contract Price
4. Profit = Estimated Profit x Cash Received ___ x Cost incurred to date
Total Contract Price Total estimated cost Explain the terms: Contractor: A party who agrees to provide supplies or services in accordance with a valid and legal contract. A contractor executes the work. Contractee: A party who orders supplies or services in accordance with a valid and legal contract. A contractee gives the contract. Running Bill: It is a bill raised by the contractor for periodical payments. Retention Money: It refers to that part of the contract amount which is certified but not paid. Work Certified: It refers to that part of the running bill, which is approved by the architect of the contractee. Work Uncertified: It refers to that part of the running bill, which is rejected by the architect of the contractee. It is always valued at cost. Basic Rate Concept: Basic Rate concept refers to the method in which a fixed rate is maintained for the raw materials throughout the contract irrespective of the fluctuations in the market price of the material. Escalation Clause: Escalation clause is a provision of a contract which calls for an increase in contract price in the event of an increase in certain costs beyond a certain percentage and viceversa. Abnormal Loss: It is the part of the process loss caused due to abnormal circumstances in the factory. For Ex, labour strike, break down of machinery. It is avoidable and controllable by mgmt. Abnormal loss occurs in addition to normal loss. Normal loss: It is part of process cost which is caused under normal circumstances. It is inevitable. Example, weight loss, scrap loss, pilferage. Normal loss is calculated at a certain % of input in unit in respective process. It may have scrap value. Process Costing Write a note on “Inter process profits”. While transferring the outputs of one process to another, the company might add some amount of profits to it. This is to get the actual cost of finished product as, if the company would have bought the inputs for the next process, it would be inclusive of profits. But, at the end of an accounting period, this inter process profit has to be excluded in order to get the real valuation of closing stock. E.g.: Process I: Cost- 10000 Profit- 2000 Transferred Price- 12000 Process II: Inputs from Process I - 12000 Additional Processing cost- 12000 Total Cost incurred - 24000 Sales - 21600 Closing Stock - 2400 Inter-process profit of P-I - 200 Value of Closing Stock - 2200 What is equivalent production? At the end of a financial period, all the stock of a company needs to be assessed. All the partially completed units are valued through the method of equivalent production. The units of production are calculated according to the percentage of completion of processing on the partially completed units. For example, two units that are 50 percent complete are the equivalent of one unit fully completed.
Budgetary Control What is Budgetary Control? What are the steps involved in Budgetary Control? Budgetary control is the management process of using budgets to monitor and control the performance of the organization. This is done by comparing the planned values (in the budget) with the actual values as they occur during the year. A budget has been defined as a financial and quantitative statement prepared and approved prior to a defined period of time, of the policy to be pursued during that period for the purpose of attaining a given objective. The following steps are involved in Budgetary Control:
- Establishment of Budgets: Targets are fixed for each function relating to the responsibilities of individual executives.
- Measurement of actual performance.
- Comparison of actual performance with budgeted performance to detect deviation.
- Analysis of the causes of variations and reporting What are the uses of diff budgets? It serves a declaration of policies
Defines the objectives/ targets for executives, at all levels.
Means of coordination of activities Means of communication Facilitates centralised control Helps in planning activities Note: The information provided in this document on each topic is limited. We do not guarantee an inclusion of the whole scope of management accounting or of the whole syllabus of N.M.S.Y.B.M.S. We suggest you to refer to the books recommended by your professor. Cash Budget The cash budget is prepared after the operating budgets (sales, manufacturing expenses or merchandise purchases, selling expenses, and general and administrative expenses) and the capital expenditures budget are prepared. The cash budget starts with the beginning cash balance to which is added the cash inflows to get cash available. Cash outflows for the period are then subtracted to calculate the cash balance before financing. If this balance is below the company's required balance, the financing section shows the borrowings needed. The financing section also includes debt repayments, including interest payments. The cash balance before financing is adjusted by the financing activity to calculate the ending cash balance. The ending cash balance is the cash balance in the budgeted or pro forma balance sheet. Flexible Budgets A budget report is prepared to show how actual results compare to the budgeted numbers. It has columns for the actual and budgeted amounts and the differences, or variances, between these amounts. A variance may be favorable or unfavorable. On an income statement budget report, think of how the variance affects net income, and you will know if it is a favorable or unfavorable variance. If the actual results cause net income to be higher than budgeted net income (such as more revenues than budgeted or lower than budgeted costs), the variance is favorable. If actual net income is lower than planned (lower revenues than planned and/or higher costs than planned), the variance is unfavorable. So higher revenues cause a favorable variance, while higher costs and expenses cause an unfavorable variance. Cost ACCOUNTING:
- In today’s business world, the resources available are very scarce.
- Hence, every business unit must strive hard to obtain maximum output with the available input in order to ensure the optimum utilization of scarce resources.
- The value of input is measured against the value of output.
- In the present era of cut-throat competition, the need to study this subject is growing very fast.
- Every businessman makes a constant effort to improve his/her business.
- Cost accounting is the process of accounting for cost.
- Cost accounting is generally concerned with internal reporting for management requirement.
- Overtime payments
- Benefit of job evaluation
- Continuous employment and job security
- To the Management
- Planning
- Organizing
- Controlling
- Budgeting
- Decision-making
- Pricing
- Evaluation of operating efficiency
- To the creditors
- Can access more information in comparison to Financial accounts
- To ascertain the solvency, profitability
- To the government
- More taxes through higher production
- Useful in preparing import and export policy
- To the society
- Lower prices through cost reduction
- Better quality of products and services Budget: A plan which for a definite period, covers, all phases of operations in the future is known as a business budget. Policies, plans, objectives & goals are formally expressed by it & are laid down in advance for the concern as a whole & for each of its sub-divisions by the top management. Thus an overall budget will be there for the concern comprosed of several sub-budgets which are in the form of departmental budgets. Expense limitations are expressed by the budget in the expense budgets & in the sales budget, revenue goals are expressed & for the purpose of realizing the desired profit objective, these must be attained. Besides, plans relating to items such as levels of inventory, additions to capital assets, plans of production, plans of purchasing, requirements of labour, requirements of cash etc. are expressed by the budget. Thus, for a given period, budget is a formal management plans’ & policies’ statement which can be used in that period as a guide or blue print. The basic elements of a budget are: (a) For a specified period of time, it’s a future plan of activity, (b) Budget can be expressed in monetary or physical units or in both, (c) Before the period during which the budget is supposed to operate, it is prepared i.e. it is prepared in advance. (d) Before the preparation of the budget, it is necessary to lay down the objectives which are required to be attained & the policies which are required to be pursued for the achievement of those objectives. Budgetary Control: Throughout the budget period, the use of budgets & budgetary reports for the purpose of coordinating, evaluating & controlling day-to-day operations according to the goals which are specified by the budget is involved by budgetary control. The mere presentation of budget doesn’t have much value, its real value lies in the aspects of the planning & its utilization during the period for the purposes of control & coordination. Under budgetary control, actual results are constantly checked & evaluated & comparison of actual result is made with the budgeted goals & wherever indicated, corrective action should be undertaken. The following steps are involved in the process of budgetary control: (a) The objectives which are required to be achieved by the business should be defined & specified by budgetary control. (b) For the purpose of ensuring that the desired objectives are accomplished, business plans are needed to be prepared by budgetary control. (c) Budgetary control translates the plans into budgets & relates to particular sections of the budget, the responsibilities of individual executives & managers. (d) Budgetary control constantly compares the actual results with the budget & the differences between the actual & budgeted performance are calculated. (e) For the purpose of establishing the causes, the major differences are investigated by budgetary control. (f) In a suitable form, budgetary control presents the information to the management, relating to variances to individual responsibility.
(g) In order to avoid a repetition of any over-expenditure or wastage, management takes corrective actions. Alternatively, where due to the change in circumstances, the budgeted targets cannot be achieved, the budget is revised. Difference between Budget, Budgeting & Budgetary control: Individual objectives of a department etc. are indicated by budget, whereas the act of setting the budgets is known as budgeting. All are embraced by budgetary control & also the science of planning the budgets themselves & as an overall management tool, the utilization of such budgets, for the purpose of business planning & control are included in budgetary control. Thus, the term by budgetary control is wider in meaning & both budget & budgeting are included in by budgetary control. Objectives of Budgetary Control: The objectives of budgetary control are: (1)Compel for planning: As management is forced to look ahead, responsible for setting of targets, anticipating of problems & giving purpose & direction to the organization, this feature is the most important feature of budgetary control. (2)Communication of ideas & plans: Communication of ideas & plans to everyone is effected by budgetary control. In order to make sure that each person is aware of what he is supposed to do, it is necessary that there is a formal system. (3)Coordinating the activities: The budgetary control coordinates the activities of different departments or sub-units of the organization. The coordination concept implies, for example, on production requirements, the purchasing department should base its budget & similarly, on sales expectations, the production budget should in turn be4 based. (4) Establishing a system of control: A system of control can be established by having a plan against which progressive comparison can be made of actual results. (5) Motivating employees: Employees are motivated for improving their performances by budgetary control. Requisites of an effective system of budgetary control: (a) There should be a clearly defined organizational structure where are area of responsibility is emphasized. (b) Within the budgeting process, the employees should participate. (c) For the purpose of relying the measurement of performance, there should be adequate accounting records & procedures. (d) Budgetary control needs to be flexible, so that the plans & objectives may be revised. (e) An awareness of the uses of the budgetary control system should be spread by the management. (f) An awareness regarding the problems of budgetary control & especially the individual’s reactions to budgets should be spread by the top management. Advantages of Budgetary control: The advantages of budgetary control system are as follows: (1) The objectives of the organization as a whole & the results which should be achieved by each department within this overall framework are defined by the budgetary control. (2) When there is a difference between actual results & budget, then the extent by which actual results have exceeded or fallen short of the budget is revealed by the budgetary control. (3) The variances or other measures of performance along with the reasons of difference between the actual results with those from budgeted is indicated by the budgetary control. Also, the magnitude of differences is established by it. (4) As the budgetary control reports on actual performance along with variances & other measures of performance; for correcting adverse trends, a basis for guiding executive action is provided by it. (5) A basis by which future budget can be prepared or the current budget can be revised is provided by the budgetary control. (6) A system whereby in the most efficient way possible the resources of the organization are being used is provided by the budgetary control. (7) The budgetary control indicates how efficiently the various departments of the organization are being coordinated. (8) Situations where activities & responsibilities are decentralized, some centralizing control is provided by the budgetary control. (9) The budgetary control provides means by which the activities of the organization can be stabilized, where the organization’s activities are subject to seasonal variations.
Implicit costs are a part of opportunity cost. They are the theoretical costs ie., they are not recognised by the accounting system and are not recorded in the books of accounts but are very important in certain decisions. They are also called as the earnings of those employed resources which belong to the owner himself. Implicit costs are also called as "Imputed costs". Examples: Rent on idle land, depreciation on dully depreciated property still in use, interest on equity capital etc. (G) Book Cost Book costs are those business costs which don't involve any cash payments but a provision is made in the books of accounts in order to include them in the profit and loss account and take tax advantages, like provision for depreciation and for unpaid amount of the interest on the owners capital. (H) Out Of Pocket Costs Out of pocket costs are those costs are expenses which are current payments to the outsiders of the firm. All the explicit costs fall into the category of out of pocket costs. Examples: Rent Payed, wages, salaries, interest etc (I) Accounting Costs Accounting costs are the actual or outlay costs that point out the amount of expenditure that has already been incurred on a particular process or on production as such accounting costs facilitate for managing the taxation need and profitability of the firm. Examples: All Sunk costs are accounting costs (J) Economic Costs Economic costs are related to future. They play a vital role in business decisions as the costs considered in decision - making are usually future costs. They have the nature similar to that of incremental, imputed explicit and opportunity costs. (K) Direct Cost Direct costs are those which have direct relationship with a unit of operation like manufacturing a product, organizing a process or an activity etc. In other words, direct costs are those which are directly and definitely identifiable. The nature of the direct costs are related with a particular product/process, they vary with variations in them. Therefore all direct costs are variable in nature. It is also called as "Traceable Costs" Examples: In operating railway services, the costs of wagons, coaches and engines are direct costs. (L) Indirect Costs Indirect costs are those which cannot be easily and definitely identifiable in relation to a plant, a product, a process or a department. Like the direct costs indirect costs, do not vary ie., they may or may not be variable in nature. However, the nature of indirect costs depend upon the costing under consideration. Indirect costs are both the fixed and the variable type as they may or may not vary as a result of the proposed changes in the production process etc. Indirect costs are also called as Non-traceable costs. Example: The cost of factory building, the track of a railway system etc., are fixed indirect costs and the costs of machinery, labour etc. Definition of 'Suspense Account' In accounting, the section of a company's books where unclassified debits and credits are recorded. The suspense account temporarily holds unclassified transactions while a decision is being made as to their classification. Transactions in the suspense account will still appear in the general ledger, giving the company an accurate indication of how much money it has. In investing, a suspense account is a brokerage account where an investor places cash or short-term securities temporarily while deciding where to invest them for a longer term. Concept of conservatism and materiality concept The concept of conservatism, also known as the concept of prudence, is often stated as “anticipate no profit and provide for all possible losses”. In other words, the accountant is expected to follow a cautious approach. He should record lowest possible value for the assets and revenues and the highest possible value for the liabilities and expenses. According to this concept, revenues or gains should be recognized only when they are realized in the form of cash or assets (usually legally enforceable debts) the ultimate cash realization of which can be assessed with reasonable certainty. Further, provision must be made for all known liabilities, expenses and losses whether the amount of these is known with certainty or is at best an estimate in the light of the information available. The probable losses in respect of all contingencies should also be provided for. A contingency is a condition or a situation, the ultimate outcome of which can be either gain or loss and cannot be determined accurately at present. It will be known only after the event has occurred (or has not
occurred). For example, a customer has filed a suit for damages against the company in a court of law; Whether the judgment will be favorable or unfavorable to the company cannot be determined in an exact manner. Hence, it will be prudent to provide for likely loss in the financial statements. As a consequence of the application of this concept, net assets are more likely to be understood than overstated and income is more likely to be overstated than understood. Based on this concept it is the widely advocated practice of valuing inventory (stock of goods left unsold) at cost or market price whichever is lower. It should be stated that the logic of this convention has been under stress recently and it has been challenged by many writers on the ground that it stands in the way of fair determination of profit and the disclosure of true and fair financial position of the business enterprise. The concept is not applied as strongly today as it used to be in the past. In any case, conservatism must be applied rationally as over conservatism may result in misrepresentation. Materiality concept: There are many events in business which are trivial or insignificant in nature. The cost of recording and reporting such events cannot be justified by the usefulness of the information derived. Materiality concept holds that items of small significance need not be given strict theoretically correct treatment. For example, a stapler costing around $2 may last for three years; however, the efforts involved in allocating its cost over the three year period is not worth the benefit than can be derived from this operation. Since the item obviously is immaterial when related to overall operations, the cost incurred on it may be treated as the expense of the period in which it is acquired. Some of the stationery purchased for office use in any accounting period may remain unused at the end of that period. In accounting, the amount spent on the entire stationery would be treated as expense of the period in which the stationery was purchased, notwithstanding the fact that a small part of it still lies in stock. The value (or cost) of the stationery lying in stock would not be treated as an asset and carried forward as a resource to the next period. The accountant would regard the stock lying unused as immaterial and hence, the entire amount spent on stationery would be taken as the expense of the period in which such expense was incurred. What is a Common-Size Statement? The common-size statement is a financial document that is often utilized as a quick and easy reference for the finances of a corporation or business. Unlike balance sheets and other financial statements, the common-size statement does not reflect exact figures for each line item. Instead, the structure of the common size statement uses a common base figure, and assigns a percentage of that figure to each line item or category reflected on the document. A company may choose to utilize financial statements of this type to present a quick snapshot of how much of the company’s collected or generated revenue is going toward each operational function within the organization. The use of a common-size statement can make it possible to quickly identify areas that may be utilizing more of the operating capital than is practical at the time, and allow budgetary changes to be implemented to correct the situation. The common size statement can also be a helpful tool in comparing the financial structures and operation strategies of two different companies. The use of percentages in the common size statements removes the issue of which company generates more revenue, and brings the focus on how the revenue is utilized within each of the two businesses. Often, the use of a common-size statement in this manner can help to identify areas where each company is utilizing resources efficiently, as well as areas where there is room for improvement. Common-size statements can be prepared for any review period desired. Companies that choose to make use of financial statements of this type may choose to utilize this format for quarterly, semi-annual, or annual reviews. When there is concern about operational costs, the common-size statement may be prepared on a more frequent basis, such as monthly. Because the common-size statement is very easy to read and does not necessarily contain information that would be considered proprietary, the format can often be employed as part of general information that is released to the public. Zero Based Budgeting (ZBB)
- Start each budget period afresh-not based on historical data
- Budgets are zero unless managers make the case for resources-the relevant manager must justify the whole of the budget allocation
- It means that each activity is questioned as if it were new before any resources are allocated to it.
To Gross Loss To Salaries To Rent To Rent and Rates To Discount Allowed To Commission Allowed To Insurance To Bank Charges To Legal Charges To Repairs To Advertising To TradeExpenses To Office Expenses To Bad Debts To Traveling Expenses To Etc., Etc. To Net Profit (transferred to capital account of the trader) xxxx xxxx xxxx xxxx xxxx xxxx xxxx xxxx xxxx xxxx xxxx ex. xxxx xxxx xxxx xxxx xxxx By Gross Profit By Interest Received By Discount Received By Commission Received By Other Receipts By Etc., Etc. By Net Loss (transferred to capital account of the trader) xxxx xxxx xxxx xxxx xxxx xxxx xxxx Why cash book show debit balance? Cash Account is a real account and also the asset of company and assets have normally debit balance according to basic accountingrules. So debit balance of cash means we have positive amount in cash account and will be shown as asset in balance sheet. But banks also provide overdraft facilities as well in this case we have normally credit balance of cash which means that we have negative balance in cash account and so it is liability of company to clear bank overdraft and make cash balance debit again bcoz cash a/c is real a/c and our asset. assets have normally debit balance according to basic accounting rules. So debit balance of cash means we have positive amount in. if cash book show negative balance then it will not remain our asset. it will be our liability..... When the rule of "debit what comes in and credit what goes out " is followed in cash book,it cannot show credit balance since you cannot spend more than the receipt ie.,what goes out can not be more than what comes in. Therefore cash book show debit balance.
