A Conceptual Framework for Managerial Costing Gary Cokins Enterprise Performance Management Specialist, SAS Institute Larry R. White, CMA, CFM, CGFM, CPA

A Conceptual Framework for Managerial Costing Gary CokinsEnterprise Performance Management Specialist, SAS Institute

Larry R. White, CMA, CFM, CGFM, CPA

Executive Director, RCA Institute

Anton van der MerwePrincipal, Alta Via Consulting

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Agenda

• Introduction – Necessity for a Conceptual Framework for managerial costingWhat is a CF? What is managerial costing?Action Needed

• Objective, Scope, Principles– What the framework seeks to achieve Framework OverviewTruth as a foundation

• Concepts and ConstraintsOverviewExplanationAirline Examples to illustrate concepts

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Standard Costing, Project Accounting, Job Order Costing, Economic Value Added TM, Balanced Scorecard, Activity Based Costing, Intellectual Capital, Performance Pyramid, Business Excellence Model, Customer Profitability, Strategic Management Accounting, Strategic Cost Management, Supply Chain Costing, Cash Flow Return on Investment, Business Models, Target Costing, Kaizen Costing, Lean Accounting, Life Cycle Costing, Value Added Analysis, Process Costing, Time-based Activity Based Costing, Value engineering, Stock Options, Micro Profit Centres, Quality Costing, Non-value Added Cost, Human capital, Resource Consumption Accounting, Structural Capital, Relationship Capital, Brand Value, Total Cost of Ownership, Throughput Accounting, Triple Bottom Line, Beyond Budgeting, Risk-adjusted Return on Capital at Risk ……

Here is Part of the Problem.Which managerial accounting system should we use?

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Standard Costing, Project Accounting, Job Order Costing, Economic Value Added TM, Balanced Scorecard, Activity Based Costing, Intellectual Capital, Performance Pyramid, Business Excellence Model, Customer Profitability, Strategic Management Accounting, Strategic Cost Management, Supply Chain Costing, Cash Flow Return on Investment, Business Models, Target Costing, Kaizen Costing, Lean Accounting, Life Cycle Costing, Value Added Analysis, Process Costing, Time-based Activity Based Costing, Value engineering, Stock Options, Micro Profit Centres, Quality Costing, Non-value Added Cost, Human capital, Resource Consumption Accounting, Structural Capital, Relationship Capital, Brand Value, Total Cost of Ownership, Throughput Accounting, Triple Bottom Line, Beyond Budgeting, Risk-adjusted Return on Capital at Risk ……

Here is Part of the Problem.Which managerial accounting system should we use?

Even most cost accountants

do not understand what

the differences are !

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By Dr. Tachai Ono, inventor of the Toyota Production System:

“You have touched on my biggest problem – the thing I have fought against for 40 years. Cost accountants in Japan think just like they do in the Western hemisphere. Exactly. They believe in EOQs; they believe in efficiencies … and in variances. Somehow my system, ‘Just-in-time,’ is at odds with those things. I manufacture things in very small batches. I don’t keep my workers busy all the time producing product. I don’t always run things on the lowest cost machine. That’s at odds with cost accounting rules … the people who are killing you in the Western hemisphere are the people who have copied my system. And I am telling you, my system is at odds with cost accounting rules … I not only kept the cost accountants out of my factories; I tried to keep the knowledge of cost accounting principles out of the minds of my people.”

Fox, R.E., “Coping with Today’s Technology: Is Cost Accounting Keeping Up?”; Cost Accounting for the 90’s: The Challenge of Technological Change; the National Association of Accountants (now www.imanet.org) ; 1986; p. 20.

“My Biggest Problem”

What is a Conceptual Framework?

The boundaries you want to stay within as you build standards or a model.

What Might a CF tell us?• Balance Sheet or Income Statement

focus• Which customer’s information needs

have priority?• Basis of Accounting – i.e. Accrual, Cash,

other6


• IASB/FASB Conceptual Framework

Objective and Qualitative CharacteristicsElements and RecognitionMeasurementReporting EntityPresentation and Disclosure, including Financial Reporting Boundaries

• IPSASB – International Public Sector Accounting Financial Standards Board

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• Statement of Federal Financial Accounting Concepts

SFFAC 1 - Objectives of Federal Financial Reporting

SFFAC 2 - Entity and Display

SFFAC 3 - Management's Discussion and Analysis - Concepts

SFFAC 4 - Intended Audience and Qualitative Characteristics

SFFAC 5, Definitions of Elements and Basic Recognition Criteria for Accrual-Basis Financial Statements

SFFAC 6 - Distinguishing Basic Information, RSI, and OAI

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• What about managerial accounting/costing?Financial Accounting/Reporting Standards provide guidance guidance to meet their goals.Textbooks teach methods to support specific applications

Traditional Standard CostingVariable CostingActivity Based Costing

• Where do you go for the principles to build a better cost model to manage your organization?

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Six Eras of Managerial Accounting

20,000 BC 1492 1910 1930 1980 2015

Ancient

Medieval

Industrial

RegulatoryCompliance

Consumer

PredictiveAnalytics

StageOf

CostingMaturity

A shift of emphasis

from a historical

to a predictive

view of strategy

and operations

precious metal and

paper money piles,

ultimately leading to

double-entry

bookkeeping (Luca Pacioli, 1492).

standard cost

accounting (to reflect Frederick Winslow Taylor’s

manufacturing

scientific methods,

1910)

The USA’s Great

Depression

resulted in

regulatory reforms

to protect

investors (1930s).

“Causal” cost

tracing of increasingly diverse types of

products, services, channels

and customers

Rocks and stone piles.

Methods

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Roots in Accounting Profession

1920

1980

1935

2008

MA’s Golden Age

Roots in Other Disciplines

RCA

ABC

GPK

TD-ABC

Std. Costing

Production Scheduling

Lean Thinking Lean Acc

Production Method Centric

Accounting Method Centric

Principle-based

Theory of Constraints

Moving Beyond Methods

Conceptual Framework for Managerial Costing

ObjectiveScopeQualitative Characteristics

PrinciplesConceptsConstraints

Framework in OperationCall to ActionAppendix: Truth in Managerial Costing

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What is Managerial Costing?

• Statement of Federal Financial Accounting Standard 4, Para 42: Managerial cost accounting, therefore, is the servant of both budgetary and financial accounting and reporting because it assists those systems in providing information. Also, it provides useful information directly to management.

• Cost Accounting Tool for Financial Reporting

• Management Accounting Activities of Professional Accountants in Business

• Managerial Costing Tool for Managerial Decision Support

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Managerial Costing

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Accounting Treatments and Behavior of Capacity (expenses)

NowPast Future

Descriptive

Predictive

unused

used

sunk

Unavoidable Costs

Avoidable Costs

Traceable to products, channels, customers, sustaining

unused

The shift to predictive accounting

Statement of Federal Financial Accounting Standards #4, Figure 1

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Costs from Sales & Marketing are not Products

Indirect expenses

Distribution, Sales & Marketing

Sales, general, and administration (S,G&A)

Customer +

Direct material,Direct labor &

Equipment

Channel +

Product

Statement of Federal Financial Accounting Concepts # 1

FULL COSTING: 198 Full assignment of all costs of a period, including general and administrative expenses and all other indirect costs, is an important basis for measuring cost of service. However, full cost is not necessarily the relevant cost for making all decisions. For example, incremental cost is more appropriate for many kinds of decisions, while opportunity cost is more appropriate for others. Similarly, cost that is controllable at a given management level is more appropriate for most evaluations of the performance of those managers. Accordingly, accounting systems should permit the calculation of the relevant costs needed for a range of decisions, as determined by the specific situation, and financial reports should reflect costs suitable to the purpose intended.

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Framework in OperationCall to ActionAppendix: Truth in Managerial Costing

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Agenda

• Introduction – Necessity for a Conceptual Framework for managerial costing

What is a CF?

What is managerial costing?

Call to Action

• Objective, Scope, Principles– What the framework seeks to achieve

Framework Overview

Truth as a foundation

• Concepts and ConstraintsOverview

Explanation

Airline Examples to illustrate concepts

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What is the Objective of Managerial Costing?

• What differentiates FA info from MA info?

• Target customer for Managerial Costing Info?

• Most important result of Managerial Costing Info?

• • What do managers make decisions about, what drives cost?

Statement of ObjectiveManagerial Costing Conceptual Framework

• The objective of managerial costing is to:

Provide a monetary reflection of the utilization of business resources and Provide cause and effect insights into past, present, or future enterprise economic activities.

• Managerial costing aids managers:In their analysis and decision making and Supports optimizing the achievement of an enterprise’s strategic objectives.

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What is the Scope of MC?

• What Managerial Costing must achieve the stated objective?

• What would be “out of scope”?

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Scope StatementsManagerial Costing Conceptual Framework

• Provide managers and employees with an accurate, objective cost model of the organization and cost information that reflects the use of the organization’s resources.

• Present decision support information in a flexible mold that caters to the timeline and insights needed for internal decision makers.

• Provide decision makers insight into the marginal/incremental aspects of the alternatives they are considering.

• Model quantitative cause and effect linkages between outputs and the inputs required to produce and deliver final outputs.

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Scope StatementsManagerial Costing Conceptual Framework

• Accurately values all operations (support and production) of an entity (i.e. the supply and consumption of resources) in monetary terms.

• Provides information that aids in immediate and future economic decision making for optimization, growth, and/or attainment of enterprise strategic objectives.

• Provides information to evaluate performance and learn from results.

• Provides the basis and baseline factors for exploratory and predictive managerial activities

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Qualitative CharacteristicsManagerial Costing Conceptual Framework

• Principles• Concepts• Constraints

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Foundation of Principles

• What must form the foundation for a set of principles?

Truth

• What is “True Cost”?

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Foundation of Principles

Correspondence Definition of TruthTruth corresponds to facts.

Resources in operation create a factual situation.

Example

• More Accounting Transactions – 12,000/yr• Finance Operations Center:

Personnel Cost $30,000,000Operating Cost $15,000,000Transactions/year: 3,000,000

Calculated Full Cost: $15/transaction X 12,000 = $180,000

Judgmental Marginal Cost: 1 Accounting Technician = $50,000

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PrinciplesQualitative Characteristics

• Causality The relation between a managerial objective’s quantitative output and the input quantities that must be, or must have been, consumed if the output is to be achieved.

• Analogy: The use of causal insights to infer past or future outcomes.

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Principles & Concepts Qualitative Characteristics

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Framework in OperationCall to ActionAppendix: Truth in Managerial Costing 32

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Agenda

• Introduction – Necessity for a Conceptual Framework for managerial costing

What is a CF?

What is managerial costing?

Call to Action

• Objective, Scope, Principles– What the framework seeks to achieve

Framework Overview

Truth as a foundation

• Concepts and ConstraintsOverview

Explanation

Airline Examples to illustrate concepts

Modeling ConceptsQualitative Characteristics

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• Resource: A definitive component of an enterprise acquired to generate future benefits.

• Managerial Objective: A specific result or outcome of the application or provision of resources, which management chooses to monitor for the purpose of enabling one or more managerial activities.

• Cost: A monetary measure of (1) consuming a resource or its output to achieve a specific managerial objective, or (2) making a resource or its output available and not using it.

• Responsiveness: The correlation between a particular managerial objective’s output quantity and the input quantities required to produce that output.

• Traceability: A characteristic of an input unit that permits it to be identified in its entirety with a specific managerial objective on the basis of verifiable transaction records.

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• Capacity: The potential for a resource to do work.

• Work: A measure of the specific nature of units of resource output.

• Attributability: The responsiveness of inputs to decisions that change the provision and/or consumption of resources.

• Homogeneity: A characteristic of one or more resources or inputs of similar technology or skill that allow for their costs to be governed by the same set of determinants and in an identical manner.

• Integrated Data Orientation: Information about an organization's economic resources, events, and their corresponding monetary values free from traditional accounting artifacts (such as that available in a general ledger), which allows for the aggregation of elementary data elements and their values for any purpose .

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Modeling ConceptsFundamentals

• Managerial Objective

• Resources

• Capacity

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• Reason to engage resources

• Element• Source of all cost (and

revenue)

• The most you can get from a resource.

Capacity

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Modeling ConceptsDescriptive

• Homogeneity

• Cost

• Traceability

• Work

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• Similarity of resources

• Measure of economic sacrifice

• Connection between resource & managerial objective.

• Analytical perspective

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Modeling ConceptsInnovations

Fire Inspectors

Fire Investigators

Fire Stations

Training Center

Internal Affairs

Fire Chief/Staff

Bldg Space

IT Support

Motor Pool

HR & Pay

Procurement

Inspections

Investigations

Readiness

Fire SafetyMission Man-Hrs

Product/Services

ResultsSegment

Weak CausalRelation

Idle/Excess Capacity

Attributability


4141

Traditional Principle of Variability: Total Cost to Total Volume

Responsiveness

ResponsivenessTraditional Approach

Integrated Data Orientation

4242


Information Use ConceptsQualitative Characteristics

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Information Use Concepts Avoidability

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Operational

Fixed Variable

Decision Support

UnavoidableAvoidable

Opportunity Cost

“Relevant Range”

Can be Modeled Basis for Action

Divisibility of Resource Information


• Divisibility

• Interdependence

• Interchangeability

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• Association between resource and managerial objective

• Range of resources and costs impacted by a decision

• Impact of substituting Resources


• Avoidability: A characteristic of an input that allows for the input (and hence its costs) to be eliminated as a result of a decision.

• Divisibility: A characteristic of a resource that allows it to be associated in its entirety with the change in a managerial objective’s output resulting from a decision.

• Interdependence: A relation between managerial objectives which occur because of a decision to use resources to achieve one objective that affects the amount or quality of resources required to achieve other objectives.

• Interchangeability: An attribute of any two or more resources or resource outputs that can be substituted for each other without affecting the costs of the other resources that are required to carry out the activities to which the interchangeable resources are devoted.

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ConstraintsQualitative Characteristics

Cost Modeling Constraints

• Objectivity: A characteristic of a cost model that show it to be free of any biases.

• Accuracy: The degree to which MA information reflects the intended concepts modeled.

• Verifiability: A characteristic of modeling information that leads independent reviewers to arrive at similar conclusions.

• Measurability: A characteristic of a causal relationship enabling it to be quantified with a reasonable amount of effort.

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Information Use Constraints

• Impartiality: The unbiased consideration of all resource application alternatives.

• Congruence: The interdependence of individual managerial actions to attempt to achieve both individual and enterprise objectives in an optimal manner.

Cost Modeling Constraints

• Materiality: A characteristic of cost modeling that would

allow for simplification without

compromising managers’ decision making

needs.

Questions?

Thank You

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Larry R. WhiteResource Consumption Accounting Institute757 288 [email protected]

Gary CokinsSAS [email protected]

Anton van der MerweAlta Via Consulting877 258 [email protected]

Documents

A Conceptual Framework for Managerial Costing Gary Cokins Enterprise Performance Management Specialist, SAS Institute Larry R. White, CMA, CFM, CGFM, CPA