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Modern Techniques in Accounting
Modern Techniques in Accounting
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Management
Robert Kaplan suggests that accountants should become part of their organisations value-added team and participate in the formulation and implementation of strategy.
Internal Environment
Objectives Budgets
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Management salary Clerical salaries Overtime Stationery and consumables IT costs Other costs Total (000) Volume of activity Cost per unit of activity
30 8 3 41 650 63
80 8 12 4 104 2,300 45
40 240 25 45 32 32 414
The total departmental costs are split by function, ie between: activity-related functions (number of customers, orders, export orders and despatches); sustaining functions (sustaining price lists, sales literature, and the department itself).
The significance of a sustaining function is that its cost is unrelated to the volume of any activity; the cost of sustaining functions is fixed.
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Controllability
Users of ABB should carefully consider whether managers are in a position to control activities, or whether they can only control the costs of each activity. For example, quality control procedures may require (say) 5 per cent of production batches to be tested: the number of testings (ie the volume of the activity) is fixed. However, the manager of the testing department is in a position to control: the technicians productivity (by changing the remuneration, degree of motivation, etc); the speed and flexibility of the equipment; and the operating procedures and processes.
All three are described in the terminology as cost-level drivers. Benefits of ABB Costs of activities are highlighted; this may lead to improved decision making. For instance, if salesmen are aware that processing each order costs 45, they may be dissuaded from selling items (value say 50). Resources are allocated on the basis of levels of activity, rather than on an ad hoc basis (eg lets spend 5 per cent more than last year).
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285,000 19 ,000
15 per hour
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Comparison of traditional and ABC unit costs A Traditional ABC Percentage change 15 32.60 117% B 30 17.43 41.9%
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Activity based methods can be extended to develop a system of target costing and target pricing. Managers set a target selling price by reference to their assessment of the market. They then work backwards to calculate what production cost must be achieved in order to earn a desired level of profit. This is the opposite of traditional cost-plus pricing, in which production costs are regarded as a given and managers add a mark-up to arrive at a price that may or may not be acceptable to customers.
Zero-based budgeting
Zero-based budgeting (ZBB) is a cost justification technique first developed by Texas Instruments. It is of particular use in controlling the costs of service departments and overheads. It does not simply look at last years budget and add or subtract a little, but starts from scratch each time a budget is prepared. It is particularly applicable for service cost centres, for non-product costs. ZBB involves: developing decision packages for each company activity; evaluating and ranking these packages; and allocating resources to the various activities accordingly.
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Advantages It establishes minimum requirements for service departments, ranks departments, and allocates resources. It produces a plan to work to when more resources are available. It makes managers think about what they are doing. It can be done annually, quarterly, or when crises are envisaged.
Disadvantages It takes up a good deal of management time and so may not be used every year. It generates a great deal of paper, requires education and training, and results may be initially disappointing. It is costly.
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Backflush accounting
Backflush accounting attempts to replace traditional process costing by focusing on the output of the manufacturing process and then working backwards when allocating costs between cost of goods sold (or finished goods) and stock valuations. Backflush accounting will be relevant where the overall process cycle time is short and levels of materials and WIP are low. Such conditions are likely to occur where a just-in-time approach to production and sales is in force. The backflush accounting system simplifies the accounting records by avoiding the need to trace the movement of materials and WIP through the production processes.
The costs are no longer recorded sequentially with the flow of product along its production route. Instead, the output trigger is going back and pulling costs from inventory : raw materials and work in-process.
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The simplest version of backflush costing is when the trigger point for accounting entries is the manufacture of finished units.
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This approach ignores 1,950 purchases of direct materials and 1,260 of conversion costs. At the end of May, the 50 of direct material purchases has not been placed into production and the same applies to 60 of conversion costs. This approach is only suitable for a JIT production system with no inventory or work in progress. A better system is where there are two trigger points for accounting entries, namely: Trigger point (1) when materials are purchased and Trigger point (2) when goods are sold. The advantages of this system are as follows. It removes the incentive for managers to produce for stock. Managers become more focused on selling units.
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Finished goods From material and inprocess 3,100 To cost of sales (99 x 31) Finished goods stock carried forward
Actual material costs and conversion costs are prompted by the trigger point 1 Finished goods (100kg) are valued at standard cost (31 per kg)
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Finished goods Trigger point 2 is the sale of goods and not their manufacture (99 units x 31) = 3,069. This is made up of direct materials (99 x 19) and conversion costs (99 x 12). Finished goods stock at the end of May is 1 kg valued at 31 standard cost.
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Conversion costs Material purchases Residual variance (W1) 100 units @ 12 (W2) 100 units @ 19 5
The finished goods account is constructed as follows. 1 2 3 4 5 Debit stock brought forward (if appropriate). Debit the finished goods valuation (standard cost) from the materials and in-process account. Credit the value (standard cost) of finished goods transferred to cost of sales. Credit stock losses, free replacements etc (if appropriate). Credit stock carried forward, valued at standard cost.
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