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Cost Management
A Strategic Emphasis

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Cost Management
A Strategic Emphasis Fourth Edition

Edward J. Blocher
University of North Carolina at Chapel Hill
Kenan-Flagler Business School

David E. Stout
Youngstown State University
Williamson College of Business Administration

Gary Cokins
Strategist, Performance Management Solutions
SAS/Worldwide Strategy

Kung H. Chen
University of NebraskaLincoln
School of Accountancy

Boston Burr Ridge, IL Dubuque, IA Madison, WI New York San Francisco St. Louis
Bangkok Bogot Caracas Kuala Lumpur Lisbon London Madrid Mexico City
Milan Montreal New Delhi Santiago Seoul Singapore Sydney Taipei Toronto

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COST MANAGEMENT: A STRATEGIC EMPHASIS

Published by McGraw-Hill/Irwin, a business unit of The McGraw-Hill Companies, Inc., 1221
Avenue of the Americas, New York, NY, 10020. Copyright 2008 by The McGraw-Hill Companies, Inc. All rights
reserved. No part of this publication may be reproduced or distributed in any form or by any means, or stored in a
database or retrieval system, without the prior written consent of The McGraw-Hill Companies, Inc., including, but
not limited to, in any network or other electronic storage or transmission, or broadcast for distance learning.
Some ancillaries, including electronic and print components, may not be available to customers outside the United
States.
This book is printed on acid-free paper.
1 2 3 4 5 6 7 8 9 0 CCW/CCW 0 9 8 7 6
ISBN: 978-0-07-312815-3
MHID: 0-07-312815-5
Editorial director: Stewart Mattson
Executive editor: Tim Vertovec
Developmental editor: Daryl Horrocks
Executive marketing manager: Krista Bettino
Senior media producer: Victor Chiu
Project manager: Bruce Gin
Production supervisor: Gina Hangos
Designer: Cara David
Supplement producer: Ira C. Roberts
Media project manager: Matthew Perry
Cover design: Dave Seidler
Typeface: 10/12 Times Roman
Compositor: Laserwords Private Limited, Chennai, India
Printer: Courier Westford
Library of Congress Cataloging-in-Publication Data
Cost management: a strategic emphasis/Edward J. Blocher . . . [et al.].4th ed.
p. cm.
Includes index.
ISBN: 978-0-07-312815-3 (alk. paper)
MHID: 0-07-312815-5 (alk. paper)
1. Cost accounting. 2. Managerial accounting. I. Blocher, Edward.
HF5686.C8B559 2008
658.15'52dc22
2006017239

www.mhhe.com

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We dedicate this edition . . .

To my wife Sandy, and our children Joseph and

David
Ed Blocher

To my wife Anne, and our children David John

and Kevin Michael
David E. Stout

To my wife Pam Tower, and my mentor Robert

A. Bonsack, a true craftsman in the field of cost
management
Gary Cokins

To my wife Mary, and our children Robert and

Melissa
Kung Chen

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Meet the Authors

Edward J. Blocher is Professor of Accounting at the Kenan-Flagler Business School
at the University of North Carolina. He received his bachelors degree in economics from
Rice University, his MBA degree from Tulane University, and his PhD in accounting from
the University of Texas at Austin. He has been a faculty member at the University of North
Carolina since 1976. He has also been on the faculty of Northwestern University. Professor
Blocher presents regularly on strategic cost management at the national meetings of both the
American Accounting Association and the Institute of Management Accountants.
While he is involved in a number of accounting organizations, Professor Blocher has been
most continually active in the Institute of Management Accountants (IMA), where he is now
a trustee of the IMA/FAR (Foundation for Applied Research). He is a Certified Management
Accountant (CMA), has taught review courses for the CMA exam, and has served on the
Institutes national education committee. He also presents regularly at the annual national
conference of the IMA. Professor Blocher is the author or coauthor of several articles appear-
ing in various journals.
Putting research and teaching into practice is important to Professor Blocher, who has
worked closely with other firms and organizations in developing products, publications, and
teaching materials. He was the principal designer of an accounting analysis system developed
by Financial Audit Systems, Inc. Also, he has worked with Blue Cross and Blue Shield of
North Carolina, the American Institute of CPAs, KPMG Peat Marwick, Grant Thornton, and
the Chancellors Office at the University of North Carolina at Chapel Hill, among others.

David E. Stout is the John S. and Doris M. Andrews Professor of Accounting, Williamson
College of Business Administration, Youngstown State University. Previously, he held the
position of the John M. Cooney Professor of Accounting, College of Commerce & Finance,
Villanova University. David earned his PhD (1982) from the University of Pittsburgh and
teaches primarily in the cost/managerial accounting area. He served previously as editor of
Issues in Accounting Education and serves currently as an associate editor of the Journal
of Accounting Education and as a member of the editorial board of: Issues in Accounting
Education; the Journal of International Accounting, Auditing & Taxation; China Finance and
Accounting Review, and Management Accounting Quarterly/Strategic Finance. In addition, he
serves as a member of the editorial advisory board of Accounting Education: An International
Journal. Professor Stout has published over 60 articles in numerous professional and academic
journals including Advances in Accounting Education, Issues in Accounting Education, the
Journal of Accounting Education, The Accounting Educators Journal, Advances in Accounting
Education, Behavioral Research in Accounting, Educational and Psychological Measurement,
Management Accounting, Management Accounting Quarterly, Financial Practice and
Education, Strategic Finance, and Advances in Accounting. David is past president of the
Teaching and Curriculum (T&C) Section of the AAA, and president-elect of the Academy of
Business Education (ABE).

vi

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Meet the Authors vii

Gary Cokins is a strategist in performance management solutions with SAS, the worlds
largest privately owned software vendor. He is an internationally recognized expert, speaker,
and author in advanced cost management and performance improvement systems. Gary
received a BS degree with honors in Industrial Engineering/Operations Research from Cornell
University in 1971. He received his MBA from Northwestern Universitys Kellogg School of
Management in 1974.
Gary serves on activity-based information committees including CAM-I, APICS, the
Supply Chain Council, the Council for Logistics Management (CLM), the Institute of
Management Accountants (IMA), the American Society for Quality (ASQ), the Purchasing
Management Association of Canada (PMAC), the Institute of Industrial Engineers (IIE),
Association for Management Information in Financial Services (AMI/fs), and the American
Institute of CPAs (AICPA).

Kung H. Chen is the Steinhardt Foundation Professor of Accounting and the Director
of Graduate Programs in the School of Accountancy at the University of Nebraska-Lincoln.
A graduate of National Taiwan University, he earned his MBA degree from West Virginia
University and a PhD from the University of Texas-Austin.
Professor Chen has published his research in various journals, including The Account-
ing Review, Encyclopedia of Accounting, Internal Auditor, Journal of Business Finance and
Accounting, Behavioral Research in Accounting, Journal of Accounting Literature, Advances
in Accounting, Financial Management, and the International Journal of Accounting and has
presented research papers to audiences in several countries including the United States, New
Zealand, Japan, Taiwan, Korea, and China.

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Blocher/Stout/Cokins/Chen:
Clarity of vision and the proper perspective can often mean the difference between confusion and
understanding. Viewed up close, the eye chart featured on the cover of Cost Management: A Strategic
Emphasis appears like a normal examination tool. Taken at a distance, though, the message is clear.
Bringing the big picture into focus is a guiding principle not only in this textbook, but also in the busi-
ness of cost management. The function of cost accounting is to organize unclear data and use sound
judgment to supply managers with useful and timely information. The goal of Cost Management is to
provide cost accountants with the tools they need to make this happen.

Cost Management by Blocher, Stout, Cokins, and Chen uses a strategic emphasis to make the connec-
tions between concepts and procedures clear to students. Making students see the relevance of cost
management concepts and procedures, and demonstrating how they will use this information in the
future, is a recurring theme of each chapter.

Once viewed simply as technical experts in accounting methods and procedures, accountants now play
a critical role as participants on multifunctional management teams. Along with the important tradi-
tional cost management methods and procedures, Cost Management provides a context for students
by using a unique strategic framework. This organization helps students gain an understanding of how
learning cost accounting techniques can better serve the company as a whole:

Strategic Framework

Part I: Introduction to Cost Part II: Planning and

Management Decision Making

The introductory chapters develop important strategic

Part II examines how cost estimation, budgeting, and
concepts like strategy development and implementation,
decision making help companies maintain a competitive
the Value Chain, Cost Concepts, the Balanced Scorecard,
advantage
and Activity-Based Costing (ABC)

Part III: Process Costing and Parts IV and V: Operational Control

Cost Allocation and Management Control

Part III examines how process costing and cost Parts IV and V examine performance measurement at the
allocation are used to determine product costs and to operational and managerial level, with the goal of linking
evaluate a companys operations management incentives to strategy

Part VI: Advanced Topics in

Cost Management

Part VI examines three strategically important advanced

areas in cost management: executive compensation,
business valuation, and capital budgeting

viii

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Bringing the Big Picture into Focus for Your Students

REAL-WORLD FOCUS Commodities and Cost Leadership: PCs, Cell Phones,

and Airlines
A commodity is a product or service that is difficult to differentiate and,
as a result, becomes a natural for cost leadership competition. Exam-
ples include building materials, many consumer electronics products,
and many of the things we buy in supermarkets. Thomas L. Friedman,
award-winning columnist and author, has addressed the issue of com-
modities in the current business environment in his new book, The
World Is Flat. One reason the world is flat is because any product or
service that is a commodity will find its low-cost supply anywhere in
the worldwherever there is the lowest cost. Commenting on Indias
growth in outsourcing work from other countries, Friedman notes that
the portion of work that can be digitized is a good candidate for out-
sourcing. He provides examples from the accounting profession (tax
return preparation) and journalism (press releases, company reports);
these activities are being outsourced to the low-cost supplier. The ac-
countant or journalist instead provides value-adding services to the
customer (such as tax planning, financial analysis, and news analy-
sis). Some parts of the work are in effect commoditized.
Other examples of commodities include personal computers
(PCs), cell phones, and airlines. The PC industry, dominated by Dell
Computer, has seen sales rise while profits fall. Dell manages to main-
Real-World Focus. All firms strive to have a competitive
edgefor some it may be low cost, for others it might be high
tain its growth in profits and sales by moving successfully into new
markets (China) and product lines (television sets and digital music
players).
quality or unique product features. Cost Management, 4e
As in the PC industry, where prices have fallen as product per-
formance has risen, prices and cost competition have increased in
the cell phone industry as new manufacturers have entered the mar-
teaches how accounting systems can add value to the
ket and regulatory changes in the United States make it easier for
users to switch providers. organization by providing relevant data for planning, control,
The airline industry continues to move in the direction of the low-
cost carriers, as shown by the trend by the carriers to charge for
once-free items such as pillows, meals, and headsets.
and decision-making. The Real-World Focus boxes take real
Source: Thomas L. Friedman, The World Is Flat: A Brief History of the Twenty-
First Century, Farrar, Straus, and Giroux, New York 2005; Less Friendly Skies,
BusinessWeek, July 11, 2005, p. 16; Pricing Pressure Squeezes Cellphone
companies and demonstrate strategy in action.
Makers World-Wide, The Wall Street Journal, January 15, 2005, p. B1; Dell
Effect Is under Strain as PC Maker Swells, by Gary McWilliams, The Wall
Street Journal, August 17, 2005, p. C1; For Dell, Success in China Tells Tale
of Maturing Market, The Wall Street Journal, July 5, 2005, p. 1; PC Makers:
More Sales, Fewer Profits, BusinessWeek, September 3, 2003, pp. 4647; Pete
Engardio, The Future of Outsourcing, BusinessWeek, January 30, 2006,
pp. 5064.

Cost Management in Action A Case in Competitive Strategy:

Wal-Mart and Target
To augment this coverage, the Blocher team encourages
Wal-Mart and Target are two of the most successful retailers in the 2. Recently Wal-Mart has begun to advertise in the high-fashion maga-

students to further explore real-world companies through United States Wal-Mart bears the slogan, Always Low Prices, while
Target stores say Expect More, Pay Less. If you have shopped at either
zine Vogue. How does this fit the firms strategy, or does it?
3. While customers are pleased with Wal-Marts low prices, there is
of these stores you will likely have formed an opinion about the stores ongoing controversy about the firms negative effect on other retail-

Cost Management in Action boxes. This feature and how they compete.

Required
ers where Wal-Marts are located. For example, the closing of 30 su-
permarkets in Oklahoma City in recent years has been attributed to
Wal-Marts arrival. What are your thoughts on the controversy? Are
poses important questions that make students think critically 1. Based on your experience, explain what you think are the competitive
strategies of these retailers. Are they key competitors, targeting the
the ethical principles and standards of the management accountant
relevant in this context?
same customers? Do you think each firm has adopted the most effec-
about how cost accounting affects management strategy. The tive strategy? Why or why not?

authors then supply their comments for the Cost Management

In areas related to the management accounting function, the Financial Executives Institute
in Action boxes at the end of each chapter. (FEI) provides services much like those provided by the IMA for financial managers, includ-
ing controllers and treasurers.
Because one of the management control responsibilities of the management accountant is
to develop effective systems to detect and prevent errors and fraud in the accounting records,
the management accountant commonly has strong ties to the control-oriented organizations
such as the Institute of Internal Auditors (IIA).

Even if youre on the right track, youll get run over if you just sit there.
Will Rogers

Problem Material. The Blocher team has taken great care to develop problems and cases that effectively
demonstrate the strategic issues presented in each chapter. Included is a variety of exercises and problems that deal
blo28155_ch01.indd 16 6/30/06 7:42:44 PM

with strategic, international, service, and ethics issues. All problems are marked appropriately for easy identification,
including problems that require the use of Excel:

Strategy International Service Ethics Excel

The supplemental Cases and Readings manual challenges

students to think about and use cost management
information in a real-world setting. The longer articles in
Clear and concise exhibits help illustrate basic and complicated
the manual help integrate case studies and articles into
topics throughout the book. blo28155_ch01.indd 19 6/30/06 7:42:45 PM

more detailed discussions about cost management.

y, g p p , y g
packers work full-time on that jacket, the firm could manufacture only 36,000 units of
because of limited capacity on the sewing machine.
The production planner can determine the best production mix by examining all of th
sible production possibilities in the darker shaded area, from 36,000 on the Gale axis to
A where the constraints intersect, and then to the point 22,400 on the Windy axis. The
mix with the highest contribution must be one of these three points: 36,000 of Gale, po
or 22,400 units of Windy. The solution, called the corner point analysis, is obtained by fi
the total contribution at each point and then choosing the point with the highest contrib

EXHIBIT 9.22
Windbreakers Production and 67,200
Sales Possibilities
Two Production Constraints Production constraint for inspection and packaging
Units of Sales for Gale

Sewing Machine and Inspection

36,000 Production constraint for sewing machine

A (4,800 Gale, 20,800 Windy)

24,000
22,400
Units of Sales for Windy

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Whats NEW about the 4th edition of

In this edition, the authors made extensive changes to nearly every chapter. They increased focus on the strategic role of
cost management, both in the text and in the exercises and problems for each chapter. Careful revisions were made in each
chapter to enhance the clarity and exposition, with the goal of presenting the content in a student-friendly manner. Numerous
Real-World Focus items were added or revised in each chapter, along with additional Cost Management in Action boxes. The
Blocher team also made these critical changes for this edition:

New brief exercises (1012 per chapter) provide
a valuable resource for the instructor to ask short
questions, most of which require a short calculation.
These can be used to assess student preparation of
the material or to begin the class discussion with some
focused questions on the chapter material. In contrast
to the questions, the brief exercises focus on calculation;
in contrast to the exercises, brief exercises can be used
in class without prior assignment to the students.
A new supplement, the Excel Solutions Manual, is
provided for all end-of-chapter problems and exercises.
This manual is provided in two versions: an instructor
version (containing both data inputs and solutions)
and a student version (containing data inputs only).
Instructors now have the flexibility to make assignments
where students prepare Excel solutions to any exercise
or problem in the text. Because all input data are
provided to students, data-entry errors on the part
of students are minimizedall students begin each
spreadsheet assignment with the same set of data. At
the instructors discretion, completed spreadsheets can
be printed or posted to the Web for access by students.
A significantly enhanced Test Bank features new
multiple-choice questions and problems linked to
learning objectives and level of difficulty.
New cases are provided for use with the activity-based
casting software of SAS Institute; improvements in the
tutorials and materials have been made for increased
ease-of-use, by students and instructors alike.

New Real-World Focus examples, the strategic role of ABC/M is

Chapter 1
New Real-World Focus examples,
including surveys of current practice
Update of section on ethics for new
IMA Code of Professional Conduct
New self-study question, and new
exercises and problems focusing on
strategy and on ethics
Chapter 2
New Real-World Focus examples,
including surveys of current practice
Enhanced material on implementing
the balanced scorecard (BSC)
New exercises and problems with an
emphasis on strategy and the balanced
scorecard
Chapter 3
Clarification of the discussion on cost
drivers
Coverage of risk preferences removed
from Chapter 3 and now enhanced in
Chapter 17
including an extensive example of
cost terms used in agriculture
New discussion of the cost of capacity
New exercises and problems
Chapter 4
Coverage of departmental overhead
rates moved from Chapter 5; related
exercise and problem material added
on departmental overhead rates
Clarification of accounting for normal
spoilage with the addition of an
example in the text
New Real-World Focus examples
New exercises and problems with a
focus on service industries
Chapter 5
Significant revision to shorten
and focus this chapter; customer
profitability analysis has been
shortened and is now more focused
Coverage of departmental overhead
rates is moved to Chapter 4; learning
objectives are condensed and focused;
enhanced and moved to the front of
the chapter
All new illustrations in the text,
including examples in service and
governmental organizations
New exhibits to clarify the two-stage
procedure under volume-based and
activity-based costing
Several new Real-World Focus
examples, including surveys of current
practice
New coverage of the cost of capacity
and the role of ABC costing in
managing the cost of capacity
Several new exercises and problems,
with a focus on the cost of capacity
New exercises and problems that
include resource-consumption as well
as activity-consumption cost drivers
New coverage of time-driven ABC
costing
New coverage of multiple-activity
ABC costing
New exercises and problems focusing
on strategy, the cost of capacity,
resource consumption cost drivers,
and ethics

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Cost Management?
David E. Stout has joined the Blocher author team for the fourth edition. Dr. Stout brings years of teaching experience
at Rider University, Villanova University, and most recently Youngstown State University, to this new edition.
David earned his PhD degree (1982) from the University of Pittsburgh and teaches primarily in the cost/managerial
accounting area.
Chapter 6
New discussion of simple vs. multiple
linear regression
New coverage of time-series vs.
cross-sectional regression
Several new Real-World Focus
examples
Expanded coverage of the learning
curve, with discussion of the general
learning model
New exercises and problems with
a focus on interpreting regression
results, including those from cross-
sectional regression analysis
Chapter 7
Notation is clarified and changed to
closely correspond with symbols used
in Chapter 6
New Real-World Focus examples
New problems and examples
Expanded coverage of Excels Goal
Seek option for conducting sensitivity
analysis
Clarification of the coverage of
activity-based CVP and multiple-
product CVP
Chapter 8
Completely new set of Real-World
Focus examples
Additional end-of-chapter material
dealing with ethical considerations,
budgeting for not-for-profit
organizations, and sensitivity analysis
Explicit linkage to financial
accounting (accounting for sales
discounts)
Inclusion of additional Excel-based
assignments
blo28155_fm.indd xi
Chapter 9
Updated Real-World Focus examples
New exercises and problems with a
focus on strategy and on applications
in the service industries
Chapter 10
New coverage of quality function
deployment (QFD), including several
illustrations
New and updated Real-World Focus
examples
New exercises and problems with
a focus on strategy and on service
industries
Additional coverage of Takt time
with a new illustration and problem
material
Chapter 11
Additional coverage of backflush
costing with a new illustration and
problem material
New problem material with a focus on
service industries
Chapter 12
New Real-World Focus examples
New problems
Revised Pages
Chapter 13
Expanded introductory discussion
of control systems in general and
operational control systems in
particular
Expanded discussion of the difference
between standard costs and a standard
cost system
Presentation of a general model for
analyzing variable cost variances
(Exhibit 13.7)
Broader mix of end-of-chapter
assignment material (including
additional Excel-based assignments,
ethics, and behavioral considerations)
Movement of journal-entry material to
an appendix
Chapter 14
New discussion of the difference
between the product-costing and
control purposes of standard costs for
factory overhead
Expanded discussion of the variance-
disposition question
New diagrammatical approach for
overhead variance analysis (Exhibits
14.4 and 14.5), and associated end-of-
chapter assignment material
New alternative diagrammatical
approach for overhead variance
analysis (Exhibit 14.18)
Expanded set of Excel-based end-of-
chapter assignment material
Significant expansion of Real-World
Focus items
8/21/06 7:57:22 PM
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Chapter 15 Chapter 17 Chapter 20

Significant revision including new
material and a new focus on the
flexible budget; the chapter is now
integrated into the flexible budget
concept used in the prior two
chapters, and there is a new emphasis
on the strategic role of the analysis of
sales performance and productivity
The coverage of strategic profitability
analysis has been removed and
replaced by a framework that is
consistent with the flexible budget
approach
Duplication between Chapters 15 and
13 removed for the new edition
New Real-World Focus examples
New end-of-chapter exercise and
problem material with a focus on the
application of the flexible budget
concept in the analysis of productivity
and sales performance
Chapter 16
Coverage of risk preferences
repositioned to this chapter from
Chapter 3; this material, including
related assignment material, has been
updated and enhanced
New and updated Real-World Focus
examples, including surveys from
practice
New coverage of the role of strategy
in the determination of the cost, profit,
or revenue SBU, with new exhibit to
illustrate the differences across these
responsibility units
Extended coverage of the
implementation of the balanced
scorecard (BSC) for performance
measurement
Chapter 18
New coverage and illustration of the
relationship between the components
of return on assets: return on sales and
asset turnover
Expanded discussion of the strategic
role of capital budgeting
New discussion of the role of the
management accountant in the capital
budgeting process
Reference to the analytic hierarchy
process (AHP) in conjunction with the
capital budgeting process
Consistent with the revisions in
Chapter 19, reorientation of material
to provide greater focus on discounted
cash flow (DCF) decision models
Expanded discussion of the
calculation of the weighted-average
cost of capital (WACC)
Many new Real-World Focus
examples pertaining to the capital
budgeting process
New discussion regarding sensitivity
analysis
Integration of Excel-based financial
formulas for solving capital budgeting
problems

Development of a comprehensive
framework (Exhibit 16.3) for
managing and controlling quality,
which is used to anchor the discussion
of all topics covered in the chapter
New discussion regarding the role
of management accounting in the
management and control of quality
Expanded discussion of nonfinancial
performance indicators
New discussion of Six Sigma,
including implementation issues and
the application of Six Sigma to the
accounting/finance function
Many new Real-World Focus items
New discussion of the application of
COQ to environmental quality
Greatly expanded mix of end-of-
chapter assignment material
Repositioning of Taguchi loss
function analysis to an appendix
xii
New Real-World Focus examples Advanced issues in capital budgeting
analysis are repositioned to an
New exercises and problems with a appendix
focus on economic profit, residual
Expanded discussion of behavioral
income, and EVA
considerations associated with the
New coverage of intangible assets capital-budgeting process
and the use of ROA for innovative
companies
Chapter 19
New and updated Real-World Focus
examples, including surveys from
practice
Updated discussion of reporting
requirements for stock options
Significant revision of the coverage
on business valuation; new focus
on determining the market value of
equity
Expanded coverage of the discounted
cash flow method (DCF) for valuing
a firm

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 Revised Pages

Supplements
For Instructors Instructors Resource CD-ROM (ISBN 0073128163): Contains all essential course
supplements such as the Instructors Resource Manual, Solutions Manual, Test Bank Word
Files, Diploma Test Bank, PowerPoint Presentations, and Excel Solutions Manual. All
instructor supplements are prepared by the authors.

Online Learning Center: www.mhhe.com/blocher4e.

The Instructor Edition of the Cost Management: A Strategic Emphasis, 4e OLC
is password-protected and another convenient place for instructors to access
course supplements. Resources for professors include: the Instructor and Student
Solutions Manual, transparency masters, teaching notes for the casebook, links to
professional resources, sample syllabi, text updates, solutions to the Instructor and
Student Excel Spreadsheets, and solutions to Internet exercises.

For Students
Cases and Readings for use with Cost Management: A Strategic
Emphasis, 4e (ISBN 0073128198): This manual contains an extensive set of longer cases
covering a variety of important topics. These case scenarios put students in situations that
allow them to think strategically and to apply concepts theyve learned in the course. Key
readings have been chosen to give students more background into the evolution of strategic
cost management topics.

Study Guide (ISBN 0073128171): Prepared by Roger Doost (Clemson University),

the Study Guide reviews the highlights of each chapter in Cost Management: A Strategic
Emphasis, 4e and includes a variety of self-study questions for student review. Every chapter
includes short-answer questions organized by learning objective, multiple-choice questions,
and thorough exercises. Suggested answers to all questions and exercises are included.

Online Learning Center: www.mhhe.com/blocher4e. The Student

Edition of the Cost Management: A Strategic Emphasis, 4e OLC contains many tools
designed to help students study including: check figures, text updates, links to professional
resources, chapter overviews, chapter objectives, multiple-choice quizzes, flashcard key term
review, Internet exercises, Excel spreadsheets with data only (for use by students with Excel
assignments), and PowerPoint presentations.

SAS Software: SASs Activity-Based Costing (ABC) software is used worldwide for
performance management functions and analysis. Cost Management fully incorporates SAS
Software in its case material to prepare students for calculating ABC costs, creating cost driver
assignments, and organizing cost information in an electronic environment. Visit the Blocher
OLC today to learn more!

blo28155_fm.indd xiii 8/21/06 7:57:25 PM

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Acknowledgments
Our Sincerest Thanks . . .
In writing this book, we were fortunate to have received extensive feedback from a number of
accounting educators. We want to thank our colleagues for their careful and complete review
of our work. The comments that we received were invaluable in helping us to shape the manu-
script. We believe that this collaborative development process helped us to create a text that
will truly meet the needs of todays students and instructors. We are sincerely grateful to the
following individuals for their participation in the process:
Reviewers for 4e: Olen L. Greer, Southwest Missouri State
Stephen Makar, University of University
WisconsinOshkosh Marvin L. Bouillon, Iowa State University
Michael Flores, Wichita State University Bea Chiang, The College of New Jersey
Jay D. Forsyth, Central Washington Alan B. Czyzewski, Indiana State University
University Judith A. Harris, Nova Southeastern
Jay Holmen, University of University
WisconsinEau Claire Aleecia Hibbets, University of
Jennifer Niece, Assumption College LouisianaMonroe
David R. Honodel, University of Denver Sanford R. Kahn, University of Cincinnati
Dennis Caplan, Oregon State University Mehmet C. Kocakulah, University of
David Eichelberger, Austin Peay State Southern Indiana
University Laura Jean Kreissl, University of
Jerry W. Ferry, University of North Alabama WisconsinParkside
Laurie B. McWhorter, Mississippi State Dan Law, Gonzaga University
University Brian L. McGuire, University of Southern
Randall E. LaSalle, West Chester University Alabama
of Pennsylvania Yaw M. Mensah, Rutgers University
Vidya N. Awasthi, Seattle University Kenneth P. Sinclair, Lehigh University
Bambi Hora, University of Central Larry N. Killough, Virginia Polytechnic
Oklahoma Institute and State University
Jerry Thorne, North Carolina A&T State Sandra S. Lang, McKendree College
University Mike Grayson, Jackson State University

xiv

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Acknowledgments xv

Previous Edition Reviewers: Brian L. McGuire, University of Southern

K.R. Balachandran, New York University Indiana
Mohamed E. Bayou, School of Cheryl E. Mitchem, Virginia State
ManagementUniversity of University
MichiganDearborn Margaret OReilly-Allen, Rider University
Wayne Bremser, Villanova University Chei M. Paik, George Washington University
Robert J. DePasquale, Saint Vincent College Hugh Pforsich, University of Idaho
Robert W. Duron, Chadron State Shirley Polejewski, University of St. Thomas
College Jenice Prather-Kinsey, University of
Donald C. Gribbin, Southern Illinois MissouriColumbia
University Dennis Shanholtzer, Metropolitan State
Linda Holmes, University of University
WisconsinWhitewater John L. Stancil, Florida Southern College
Norma C. Holter, Towson University Ronald A. Stunda,
Paul Juras, Wake Forest University Birmingham-Southern College
We also want to recognize the special efforts of:
Daniel Flaningan
Keith Folken
Kristin Hawkins
Taylor Henry
Jessie Kinsley
Andrew Stulce
Finally, we are most appreciative of the outstanding assistance and support provided by
the professionals of McGraw-Hill/Irwin: Stewart Mattson, our editorial director, and Tim
Vertovec, Executive Editor, for their guidance; our developmental editor, Daryl Horrocks, for
his invaluable suggestions; Krista Bettino, our marketing manager, for her significant promo-
tional efforts; Bruce Gin, our project manager, for his attention to detail; Cara David, for the
outstanding presentation of the text; Ira Roberts, our supplements coordinator, for his timeli-
ness and accuracy in delivering the support material; and Victor Chiu, our media producer,
and Matthew Perry, our media project manager, for their technical expertise in delivering our
multimedia material. An added thanks to Beth Woods and Alice Sineath for their significant
contributions to the accuracy of our text.
Ed Blocher
David E. Stout
Gary Cokins
Kung Chen

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Brief Contents
PART ONE PART FOUR
Introduction to Cost Management 2 Operational Control 494
1 Cost Management and Strategy: 13 The Flexible Budget and Standard Costing:
An Overview 2 Direct Materials and Direct Labor 494
2 Implementing Strategy: The Balanced 14 The Flexible Budget: Factory Overhead 550
Scorecard and the Value Chain 30 15 The Flexible Budget: Further Analysis of
3 Basic Cost Management Concepts 54 Productivity and Sales 610
4 Job Costing 84 16 The Management and Control of Quality 648
5 Activity-Based Costing and Management 120
PART FIVE
PART TWO Management Control 698
Planning and Decision Making 170 17 Management Control and Strategic
6 Cost Estimation 170 Performance Measurement 698
7 Cost-Volume-Profit Analysis 218 18 Strategic Investment Units and Transfer
Pricing 742
8 Strategy and the Master Budget 254
9 Decision Making with Relevant Costs PART SIX
and a Strategic Emphasis 316 Advanced Topics in Cost Management 784
10 Cost Planning for the Product Life Cycle: 19 Management Compensation, Business Analysis,
Target Costing, Theory of Constraints, and Business Valuation 784
and Strategic Pricing 360
20 Capital Budgeting 818
PART THREE
Process Costing and Cost Allocation 404 PRESENT VALUE TABLES 870
11 Process Costing 404 GLOSSARY 872
12 Cost Allocation: Service Departments and Joint
Product Costs 454 INDEX 882

xvi

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Contents
PART ONE Problems 26
INTRODUCTION TO COST Solution to Self-Study Problem 29
MANAGEMENT 2
Chapter 2 Implementing Strategy: The Balanced
Chapter 1 Cost Management and Strategy: Scorecard and the Value Chain 30
An Overview 2
Strengths-Weaknesses-Opportunities-Threats (SWOT)
The Uses of Cost Management 3 Analysis 31
The Four Functions of Management 4 Execution 33
Strategic Management and Strategic Cost Management 6 Value-Chain Analysis 35
Types of Organizations 6 Value-Chain Analysis in Computer Manufacturing 37
The Contemporary Business Environment 7 The Balanced Scorecard 38
The Global Business Environment 7 The Balanced Scorecard Reflects Strategy 39
Manufacturing Technologies 8 The Strategy Map 40
The New Economy: Use of Information Technology, Expanding the Balanced Scorecard Sustainability 42
the Internet, and E-Commerce 8 Summary 43
Focus on the Customer 8 Key Terms 43
Management Organization 9 Comments on Cost Management in Action 43
Social, Political, and Cultural Considerations 9 Self-Study Problems 44
The Strategic Focus of Cost Management 10 Questions 44
Contemporary Management Techniques 10 Brief Exercises 45
Benchmarking 10 Exercises 45
Total Quality Management 11 Problems 45
Business Process Improvement 11 Solutions to Self-Study Problems 52
Activity-Based Costing and Management 11
Reengineering 11
Chapter 3 Basic Cost Management Concepts 54
The Theory of Constraints 11
Mass Customization 12 Cost Drivers, Cost Pools, and Cost Objects 55
Target Costing 12 Cost Assignment and Cost Allocation: Direct and Indirect
Life-Cycle Costing 12 Costs 55
The Value Chain 12 Cost Drivers and Cost Behavior 58
The Balanced Scorecard 12 Activity-Based Cost Drivers 58
How a Firm Succeeds: The Competitive Strategy 13 Volume-Based Cost Drivers 59
Strategic Measures of Success 14 Structural and Executional Cost Drivers 63
Developing a Competitive Strategy: Strategic Cost Concepts for Product and Service Costing 64
Positioning 15 Cost Accounting for Products and Services 64
Cost Leadership 15 Product Costs and Period Costs 64
Differentiation 16 Manufacturing, Merchandising, and Service Costing 65
Other Strategic Issues 16 Cost Concepts for Planning and Decision Making 68
The Professional Environment of Cost Management 17 Relevant Cost 68
Professional Organizations 17 Attributes of Cost Information for Decision Making 69
Professional Certifications 19 Cost Concepts for Management and Operational
Professional Ethics 20 Control 70
Summary 21 Controllability 70
Appendix A: More about Strategy 22 Summary 70
Key Terms 23 Key Terms 71
Comments on Cost Management in Action 23 Comments on Cost Management in Action 71
Self-Study Problem 24 Self-Study Problem 71
Questions 24 Questions 72
Brief Exercises 25 Brief Exercises 72
Exercises 25 Exercises 73 xvii

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xviii Contents

Problems 78 Activity-Based Management 130

Solution to Self-Study Problem 82 What Is Activity-Based Management? 130
Activity Analysis 131
Chapter 4 Job Costing 84 Value-Added Analysis 131
Activity-Based Costing/Management (ABC/M)
Product Costing Systems 84
Applications 133
Cost Accumulation: Job or Process Costing? 85
ABC/M in Manufacturing: Industrial Air Conditioner
Cost Measurement: Actual, Normal, or Standard Costing 85
Units 133
Overhead Assignment under Normal Costing: Volume-Based
ABC/M Application in the Service Industry: A Retirement
or Activity-Based? 85
and Assisted Living Community 135
The Strategic Role of Product Costing 86
ABC/M Applications in Government 136
Job Costing: The Cost Flows 86
Customer Profitability Analysis 138
Direct Materials Costs 87
Customer Cost Analysis 139
Direct Labor Costs 89
Customer Profitability Analysis 140
Factory Overhead Costs 91
Customer Value Assessment 141
Actual Costing 91
Implementation Issues 142
Normal Costing 91
Multiple-Stage Activity-Based Costing 143
The Application of Factory Overhead in Normal
Time-Driven Activity-Based Costing 143
Costing 93
Summary 144
Cost Drivers for Factory Overhead Application 93
Key Terms 144
Applying Factory Overhead Costs 93
Comments on Cost Management in Action 145
Departmental Overhead Rates 94
Self-Study Problem 145
Disposition of Underapplied and Overapplied Overhead 96
Questions 146
Job Costing in Service Industries 97
Brief Exercises 146
Operation Costing 98
Exercises 147
Summary 100
Problems 153
Appendix A: Spoilage, Rework, and Scrap in Job
Solution to Self-Study Problem 167
Costing 101
Key Terms 103
Comments on Cost Management in Action 103 PART TWO
Self-Study Problem 103 PLANNING AND DECISION MAKING 170
Questions 104
Brief Exercises 104 Chapter 6 Cost Estimation 170
Exercises 105
Strategic Role of Cost Estimation 170
Problems 108
Using Cost Estimation to Predict Future Costs 171
Solution to Self-Study Problem 118
Using Cost Estimation to Identify Cost Drivers 171
Six Steps of Cost Estimation 172
Chapter 5 Activity-Based Costing
Step 1: Define the Cost Object to Be Estimated 172
and Management 120 Step 2: Determine the Cost Drivers 172
The Strategic Role of Activity-Based Costing 120 Step 3: Collect Consistent and Accurate Data 172
Role of Volume-Based Costing 121 Step 4: Graph the Data 172
Activity-Based Costing 122 Step 5: Select and Employ the Estimation Method 173
Resources, Activities, Resource Consumption Cost Drivers, Step 6: Assess the Accuracy of the Cost Estimation 173
and Activity Consumption Cost Drivers 122 Cost Estimation Methods 173
What Is Activity-Based Costing? 122 An Illustration of Cost Estimation 173
The Two-Stage Cost Assignment Procedure 123 High-Low Method 173
Steps in Developing an Activity-Based Costing System 124 Work Measurement 176
Step 1: Identify Resource Costs and Activities 124 Regression Analysis 176
Step 2: Assign Resource Costs to Activities 125 Using Spreadsheet Software for Regression Analysis 182
Step 3: Assign Activity Costs to Cost Objects 126 Data Requirements and Implementation Problems 183
Benefits and Limitations of Activity-Based Costing 126 Data Accuracy 183
Benefits 126 Selecting the Time Period 183
Limitations 127 Nonlinearity Problems 184
A Comparison of Volume-Based and Activity-Based Summary 185
Costing 128 Appendix A: Learning Curve Analysis 186
Volume-Based Costing 128 Appendix B: Regression Analysis 189
Activity-Based Costing 129 Key Terms 195

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Contents xix

Comments on Cost Management in Action 195 Master Budget 263

Self-Study Problem 196 Sales Budget 263
Questions 197 Manufacturing Budgets 265
Brief Exercises 198 Merchandise Purchases Budget 269
Exercises 199 Selling and General Administrative Expense Budget 271
Problems 202 Cash Receipts (Collections) Budget 272
Solutions to Self-Study Problems 214 Cash Budget 272
Budgeted Income Statement 274
Chapter 7 Cost-Volume-Profit Analysis 218 Budgeted Balance Sheet 274
Budgeting in Service Companies and International Firms,
Cost-Volume-Profit Analysis 218
and Not-for-Profit Organizations 276
Contribution Margin and Contribution Income Statement 219
Budgeting in Service Industries 276
Strategic Role of CVP Analysis 220
Budgeting in Not-for-Profit Organizations 278
CVP Analysis for Breakeven Planning 222
Budgeting in International Settings 278
Equation Method: For Breakeven in Units 222
Alternative Budgeting Approaches 279
Equation Method: For Breakeven in Dollars 222
Zero-Base Budgeting (ZBB) 279
Contribution Margin Method 223
Activity-Based Budgeting (ABB) 280
CVP Analysis for Profit Planning 225
Kaizen (Continuous Improvement) Budgeting 281
Revenue Planning 225
Computer Software in Budgeting and Planning 282
Cost Planning 225
Ethical and Behavioral Issues in Budgeting 284
Including Income Taxes in CVP Analysis 228
Ethics in Budgeting 284
CVP Analysis for Activity-Based Costing 229
Goal Congruence 284
Sensitivity Analysis of CVP Results 231
Difficulty Level of the Budget Target 285
What-If Analysis of Sales: Contribution Margin
Authoritative or Participative Budgeting? 286
and Contribution Margin Ratio 231
Role of the Budget Department or Controller 286
Margin of Safety 231
Summary 287
Operating Leverage 232
Key Terms 287
CVP Analysis with Two or More Products 234
Comments on Cost Management in Action 287
CVP Analysis for Not-for-Profit Organizations 236
Self-Study Problems 288
Assumptions and Limitations of CVP Analysis 236
Questions 289
Linearity and the Relevant Range 236
Brief Exercises 290
Identifying Fixed and Variable Costs for CVP Analysis 236
Exercises 291
Summary 238
Problems 299
Key Terms 239
Solutions to Self-Study Problems 313
Comments on Cost Management in Action 239
Self-Study Problem 239
Questions 239 Chapter 9 Decision Making with Relevant Costs
Brief Exercises 240 and a Strategic Emphasis 316
Exercises 240
The Decision-Making Process 317
Problems 242
Relevant Cost Analysis 318
Solution to Self-Study Problem 253
Relevant Cost Information 318
Batch-Level Cost Drivers 319
Chapter 8 Strategy and the Master Budget 254
Fixed Costs and Depreciation 320
Role of Budgets 255 Other Relevant Information: Opportunity Costs 320
Strategy, the Long-Term Plan, and the Master Strategic Cost Analysis 321
Budget 256 Special-Order Decisions 322
Importance of Strategy in Budgeting 256 Cost Analysis 322
Formulation of Strategy 258 Strategic Analysis 323
Strategic Goals and Long-Term Objectives 258 Is TTS Now Operating at Full Capacity? 323
Short-Term Objectives and the Master Budget 258 Excessive Relevant Cost Pricing 324
Budgeting Process 260 Other Important Factors 325
Budget Committee 260 Make, Lease, or Buy Decision 325
Budget Period 261 Cost Analysis 325
Budget Guidelines 262 Strategic Analysis 327
Initial Budget Proposal 262 Sell Before or After Additional Processing 327
Negotiation, Review, and Approval 262 Cost Analysis 327
Revision 263 Strategic Analysis 328

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xx Contents

Profitability Analysis 329 Questions 385

Profitability Analysis: Keep or Drop a Product Line 329 Brief Exercises 385
Strategic Analysis 330 Exercises 386
Profitability Analysis: Evaluating Programs 331 Problems 391
Profitability Analysis: Service and Not-for-Profit Solution to Self-Study Problem 401
Organizations 331
Multiple Products and Limited Resources 332 PART THREE
Case 1: One Production Constraint 332 PROCESS COSTING AND COST
Case 2: Two or More Production Constraints 333 ALLOCATION 404
Behavioral and Implementation Issues 335
Consideration of Strategic Objectives 335 Chapter 11 Process Costing 404
Predatory Pricing 335
Replacement of Variable Costs with Fixed Costs 336 Characteristics of Process Costing Systems 405
Proper Identification of Relevant Factors 336 Equivalent Units 405
Summary 337 Flow of Costs in Process Costing 406
Appendix A: Linear Programming and the Product Mix Steps in Process Costing 407
Decision 337 Process Costing Methods 408
Key Terms 340 Illustration of Process Costing 408
Comments on Cost Management in Action 340 Weighted-Average Method 409
Self-Study Problems 340 First-In, First-Out (FIFO) Method 412
Questions 341 Comparison of Weighted-Average and FIFO Methods 419
Brief Exercises 341 Process Costing with Multiple Departments 419
Exercises 342 Transferred-In Costs 420
Problems 346 Weighted-Average Method 420
Solutions to Self-Study Problems 358 The FIFO Method 422
Journal Entries for Process Costing 425
Chapter 10 Cost Planning for the Product Life Implementation and Enhancement of Process Costing 426
Activity-Based Costing and the Theory of Constraints 426
Cycle: Target Costing, Theory of Constraints,
Just-in-Time Systems and Backflush Costing 427
and Strategic Pricing 360
Summary 428
Target Costing 362 Appendix A: Spoilage in Process Costing 428
Value Engineering 363 Key Terms 432
Target Costing and Kaizen 365 Comments on Cost Management in Action 432
An Illustration: Target Costing in Health Product Self-Study Problems 432
Manufacturing 366 Questions 433
An Illustration Using Quality Function Deployment (QFD) 367 Brief Exercises 434
Benefits of Target Costing 368 Exercises 434
The Theory of Constraints 369 Problems 437
The Use of the Theory of Constraints Analysis in Health Solutions to Self-Study Problems 448
Product Manufacturing 370
Steps in the Theory of Constraints Analysis 370 Chapter 12 Cost Allocation: Service Departments
Theory of Constraints Reports 375 and Joint Product Costs 454
Activity-Based Costing and the Theory of Constraints 375
The Strategic Role of Cost Allocation 455
Life-Cycle Costing 376
The Ethical Issues of Cost Allocation 456
The Importance of Design 377
Cost Allocation to Service and Production
The Use of Life-Cycle Costing in a Software Firm 378
Departments 456
Strategic Pricing Using the Product Life Cycle 379
Departmental Approach 457
Pricing Using the Cost Life Cycle 379
Cost Allocation in Service Industries 468
Strategic Pricing for Phases of the Sales Life Cycle 381
Joint Product Costing 470
The Use of the Sales Life Cycle in Computer
Methods for Allocating Joint Costs to Joint Products 471
Manufacturing 381
Summary 475
Summary 382
Appendix A: By-Product Costing 475
Appendix A: Using the Flow Diagram to Identify
Key Terms 478
Constraints 382
Comments on Cost Management in Action 478
Key Terms 384
Self-Study Problem 478
Comments on Cost Management in Action 384
Questions 478
Self-Study Problem 384

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Contents xxi

Brief Exercises 479 Fixed Overhead Cost Analysis 555

Exercises 480
Problems 481
Solution to Self-Study Problem 492
PART FOUR
OPERATIONAL CONTROL 494
Chapter 13 The Flexible Budget and Standard
Costing: Direct Materials and Direct Labor 494
Management Accounting and Control Systems
Evaluating Operating Performance 495
Effectiveness 495
Standard Costs 497
Standard Costs versus a Standard Cost System
Types of Standards 498
Selection of Standards 499
Sources of Standards 499
Standard-Setting Procedures 501
Establishing Standard Costs 501
Standard Cost Sheet 502
Flexible Budgets and Operational Control
The Flexible Budget 504
Assessing Efficiency 505
Breakdown of the Total Flexible Budget Variance 507
Selling Price Variance 508
Variable Cost Flexible Budget Variances 508
Further Analysis of the Total Variable Cost Flexible Budget
Variance 509
General Model for Analysis of Variable Cost
Variances 509
Direct Materials Variances 510
Direct Labor Variances 513
Timing of Variance Recognition 515
Effect of the New Manufacturing Technology
Behavioral and Implementation Issues 516
Summary 517
Appendix A: Recording Cost Flows and Variances
in a Standard Cost System 519
Key Terms 522
Comments on Cost Management in Action 522
Self-Study Problems 523
Questions 524
Brief Exercises 525
Exercises 526
Problems 534
Solutions to Self-Study Problems 547
Chapter 14 The Flexible Budget: Factory
Overhead 550
Standard Overhead Costs: Planning versus Control 551
Variance Analysis for Factory Overhead Costs 552
Variable Overhead Cost Analysis 552
Interpretation and Implications of Variable Overhead
Variances 554
Interpretation of Fixed Factory Overhead Variances 558
Alternative Analyses of Factory Overhead Variances 559
Summary of Factory Overhead Variances 561
Recording Standard Factory Overhead Costs 562
Journal Entries and Variances for Factory Overhead
Costs 562
Variance Disposition 563
Standard Costs in Service Organizations 565
Overhead Variances in ABC Systems 568
ABC-Based Flexible Budgets for Control 569
495 Investigation of Variances 572
Type of Standard 572
Expectations of the Organization 572
Magnitude, Pattern, and Impact of a Variance 572
497 Causes and Controllability 573
Company Practices 576
Summary 576
Appendix A: Variance Investigation Decisions Under
Uncertainty 578
Key Terms 580
Comments on Cost Management in Action 580
504 Self-Study Problems 581
Questions 582
Brief Exercises 583
Exercises 583
Problems 593
Solutions to Self-Study Problems 606
Chapter 15 The Flexible Budget: Further Analysis
of Productivity and Sales 610
The Strategic Role of the Flexible Budget in Analyzing
Sales and Productivity 610
Analyzing Productivity 612
Partial Productivity 613
516 Total Productivity 618
Analyzing Sales: Comparison with the Master
Budget 619
Sales Volume Variance Decomposed: Sales Quantity
and Sales Mix Variances 620
Sales Quantity Variance Decomposed: Market Size
and Market Share Variances 624
Analyzing Sales: Comparison with Prior Year
Results 627
Analysis of Selling Price and Volume Variances 628
Analysis of Mix and Quantity Variances 629
Analysis of Variable Cost Variances 629
Summary 630
Key Terms 631
Comments on Cost Management in Action 631
Self-Study Problems 631
Questions 632
Brief Exercises 633
Exercises 634
Problems 636
Solutions to Self-Study Problems 634

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xxii Contents

Chapter 16 The Management and Control Problems 687

of Quality 648 Solutions to Self-Study Problems 696

The Strategic Importance of Quality 649 PART FIVE

Baldrige Quality Award 649
ISO 9000 and ISO 14000 649
MANAGEMENT CONTROL 698
Quality and Profitability: Conceptual Linkage 650
Empirical EvidenceDoes TQM Matter? 651
Chapter 17 Management Control and
Accountings Role in the Management and Control of Strategic Performance Measurement 698
Quality 652 Performance Evaluation and Control 699
Chapter Preview 652 Operational Control versus Management Control 699
Total Quality Management (TQM) 652 Objectives of Management Control 699
The Meaning of Quality 652 Employment Contracts 700
Characteristics of Total Quality Management 654 Design of Management Control Systems for Motivation
The Need for a New Accounting System 654 and Evaluation 702
Comprehensive Framework for Managing and Controlling Informal Control Systems 703
Quality 654 Formal Control Systems 704
Knowledge of Business Processes 654 Strategic Performance Measurement 704
Role of the Customer 655 Decentralization 704
Financial Component 656 Types of Strategic Business Units 705
Nonfinancial Performance Indicators 656 The Balanced Scorecard 706
Feedback Loops 656 Cost Strategic Business Units 706
Relevant Cost Analysis 656 Strategic Issues Related to Implementing Cost SBUs 706
Link to Operations Management 656 Implementing Cost SBUs in Departments 708
Breadth of the System 656 Outsourcing Cost SBUs 710
Setting Quality-Related Expectations 657 Cost Allocation 710
Setting Quality Expectations: A Six Sigma Approach 657 Revenue Strategic Business Units 711
Setting Quality Expectations: Goalpost versus Absolute Profit Strategic Business Units 712
Conformance Standards 659 Strategic Role of Profit SBUs 712
Goalpost Conformance 659 The Contribution Income Statement 713
Absolute Quality Conformance 660 Variable Costing versus Full Costing 714
Goalpost or Absolute Conformance? 660 Strategic Performance Measurement and the Balanced
Financial Measures and Costs of Quality 661 Scorecard 716
Relevant Cost Analysis 661 Management Control in Service Firms and Not-for-Profit
Cost of Quality (COQ) Reporting 662 Organizations 720
Quality Cost Reports 664 Summary 722
Data Definition, Sources, and Collection 664 Key Terms 722
Report Format 665 Comments on Cost Management in Action 722
Illustration of a Cost of Quality Report 665 Self-Study Problem 723
COQ and Activity-Based Costing (ABC) 666 Questions 723
Nonfinancial Quality Indicators 666 Brief Exercises 724
Internal Nonfinancial Quality Metrics 666 Exercises 725
External (Customer Satisfaction) Quality Metrics 667 Problems 727
Role of Nonfinancial Performance Measures 667 Solution to Self-Study Problem 740
Detecting and Correcting Poor Quality 668
Detecting Poor Quality 668
Chapter 18 Strategic Investment Units
Taking Corrective Action 670
and Transfer Pricing 742
Summary 673
Appendix A: Taguchi Quality Loss Functions 673 Part One: Strategic Investment Units 743
Key Terms 676 The Strategic Role of Investment Units 743
Comments on Cost Management in Action 677 Return on Investment 744
Self-Study Problems 677 ROI Equals Return on Sales Times Asset Turnover 744
Questions 678 Illustration of Evaluation Using Return on Investment 744
Brief Exercises 679 Use of Return on Investment 747
Exercises 680 Strategic Issues in Using Return on Investment 751

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Residual Income 753 Summary 801

Limitations of Residual Income 754 Key Terms 801
Economic Value Added 755 Comments on Cost Management in Action 801
Using Average Total Assets 755 Self-Study Problems 802
Part Two: Transfer Pricing 756 Questions 802
When Is Transfer Pricing Important? 756 Brief Exercises 803
Objectives of Transfer Pricing 757 Exercises 803
International Transfer Pricing Objectives 757 Problems 807
Transfer Pricing Methods 758 Solutions to Self-Study Problems 816
Choosing the Right Transfer Pricing Method 758
International Tax Issues in Transfer Pricing 761 Chapter 20 Capital Budgeting 818
The Arms-Length Standard 761
Advance Pricing Agreements 762 Strategy and the Capital Budgeting Process 819
Summary 763 Underlying Nature of Capital Expenditures 819
Key Terms 763 Organizational Strategy and the Nature of Capital
Comments on Cost Management in Action 763 Investment Analysis 819
Self-Study Problems 764 Effect of Capital Expenditures on Strategic Cost Drivers 820
Questions 764 Chapter OverviewWhere Are We Headed? 821
Brief Exercises 764 The Role of Accounting in the Capital Budgeting
Exercises 765 Process 821
Problems 771 Linkage to Master Budget 821
Solutions to Self-Study Problems 782 Linkage to the Balanced Scorecard (BSC) 821
Generation of Relevant Financial Data for Decision-Making
Purposes 823
PART SIX Conducting Post-Audits 823
ADVANCED TOPICS IN COST Identification of Relevant Cash-Flow Data for Capital
MANAGEMENT 784 Expenditure Analysis 824
Why Focus on Cash Flows? 824
Cash FlowsA Framework for Analysis 825
Chapter 19 Management Compensation, Business
Sample Data Set: Mendoza CompanyEquipment Replacement
Analysis, and Business Valuation 784
Decision 825
Part One: Management Compensation 784 Determining After-Tax Cash Flows for Capital Investment
Types of Management Compensation 785 Analysis 827
Strategic Role and Objectives of Management RecapCash Flow Information for the Mendoza Company
Compensation 786 Investment Proposal 832
Design the Compensation Plan for Existing Strategic Discounted Cash Flow (DCF) Capital Budgeting
Conditions 786 Decision Models 832
Risk Aversion and Management Compensation 786 Types of Capital Budgeting Decision Models 832
Ethical Issues 787 DCF Models: Specifying the Discount Rate 832
Objectives of Management Compensation 787 Estimating the WACC 834
Bonus Plans 788 Net Present Value (NPV) Decision Model 836
Bases for Bonus Compensation 788 Internal Rate of Return (IRR) Decision Model 837
Bonus Compensation Pools 790 Comparison of NPV and IRR Methods: Which to Use? 839
Bonus Payment Options 790 Sensitivity Analysis 839
Tax Planning and Financial Reporting 792 What-If Analyses 839
Management Compensation in Service Firms 793 Scenario Analysis 841
Part Two: Business Analysis and Business Monte Carlo Simulation 841
Valuation 794 Other Capital Budgeting Decision Models 842
Business Analysis 795 Payback Period 842
The Balanced Scorecard 795 Accounting (Book) Rate of Return 844
Financial Ratio Analysis 795 Behavioral Issues in Capital Budgeting 846
Business Valuation 798 Common Behavioral Problems: Cost Escalation,
The Discounted Cash Flow Method 798 Incrementalism, and Uncertainty Intolerance 846
Multiples-Based Valuation 800 Goal-Congruency Issues 847
Enterprise Value 800 Addressing the Goal-Congruency Problem 847

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xxiv Contents

Summary 848 Problems 858

Appendix A: DCF Models: Some Advanced Solution to Self-Study Problem 866
Considerations 848
Key Terms 851
Present Value Tables 870
Comments on Cost Management in Action 851
Self-Study Problem 852 Glossary 872
Questions 853
Index 882
Brief Exercises 854
Exercises 855

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Cost Management
A Strategic Emphasis

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