Decision Making
Good decision making is rarely done by intuition. Consistently good decisions result from diligent accumulation and evaluation of information. Managerial accounting provides the information needed to fuel the decision-making process. Managerial decisions can be categorized according to three interrelated business processes: planning, directing, and controlling. Correct execution of each of these activities culminates in the creation of business value. Conversely, failure to plan, direct, or control is a road map to failure.
The central theme is this: (1) business value results from good decisions, (2) decisions must occur across a spectrum of planning, directing, and controlling activities, and (3) quality decision making can only consistently occur by reliance on information.
A business must plan for success. What does it mean to plan? It is about deciding on a course of action to reach a desired outcome. Planning must occur at all levels. First, it occurs at the high level of setting strategy. It then moves to broad-based thought about how to establish an optimum “position” to maximize the potential for realization of goals. Finally, planning must give thoughtful consideration to financial realities/constraints and anticipated monetary outcomes (budgets). A business organization may be made up of many individuals. These individuals must be orchestrated to work together in harmony. It is important that they share and understand the organizational plans. In short, “everyone needs to be on the same page.” As such, clear communication is imperative.
Strategy
A business should invest considerable time and effort in developing strategy. Employees, harried with day-to-day tasks, sometimes fail to see the need to take on strategic planning. It is difficult to see the linkage between strategic endeavors and the day-to-day corporate activities associated with delivering goods and services to customers. But, strategic planning ultimately defines the organization. Specific strategy setting can take many forms, but generally includes elements pertaining to the definition of core values, mission, objectives, and sustainability.
Core Values — An entity should clearly consider and define the rules by which it will play. Core values can cover a broad spectrum involving concepts of fair play, human dignity, ethics, employment/promotion/compensation, quality, customer service, environmental awareness, and so forth. If an organization does not cause its members to understand and focus on these important elements, it will soon find participants becoming solely “profit-centric.” This behavior leads to a short-term focus and potentially dangerous practices that may provide the seeds of self-destruction. Remember that management is to build business value by making the right decisions, and decisions about core values are essential.
Budgets
A necessary planning component is budgeting. Budgets outline the financial plans for an organization. There are various types of budgets. A company’s budgeting process must take into account ongoing operations, capital expenditure plans, and corporate financing.
Operating Budgets — A plan must provide definition of the anticipated revenues and expenses of an organization, and more. Operating budgets can become fairly detailed. The process usually begins with an assessment of anticipated sales and proceeds to a detailed mapping of specific inventory purchases, staffing plans, and so forth. These budgets oftentimes delineate allowable levels of expenditures for various departments.
Capital Budgets — The budgeting process must also contemplate the need for capital expenditures relating to new facilities and equipment. These longer-term expenditure decisions must be evaluated logically to determine whether an investment can be justified and what rate and duration of payback is likely to occur.
Financing Budgets — A company must assess financing needs, including an evaluation of potential cash shortages. These estimates enable companies to meet with lenders and demonstrate why and when additional financial support may be needed.
The budget process is quite important (no matter how tedious the process may seem) to the viability of an organization. Several of the subsequent chapters are devoted to the nature and elements of sound budgeting.
Directing
There are many good plans that are never realized. To realize a plan requires the initiation and direction of numerous actions. Often, these actions must be well coordinated and timed. Resources must be ready, and authorizations need to be in place to enable persons to act according to the plan. By analogy, imagine that a composer has written a beautiful score of music. For it to come to life requires all members of the orchestra, and a conductor who can bring the orchestra into synchronization and harmony. Likewise, the managerial accountant has a major role in moving business plans into action. Information systems must be developed to allow management to maneuver the organization. Management must know that inventory is available when needed, productive resources (people and machinery) are scheduled appropriately, transportation systems will be available to deliver output, and so on. In addition, management must be ready to demonstrate compliance with contracts and regulations. These are complex tasks which cannot occur without strong information resources provided by management accountants.
Managerial accounting supports the “directing” function in many ways. Areas of support include costing, production management, and special analysis.
Costing
A strong manager must understand how costs are captured and assigned to goods and services. This is more complex than most people realize. Costing is such an extensive part of the management accounting function that many people refer to management accountants as “cost accountants.” But, cost accounting is only a subset of managerial accounting applications.
Cost accounting can be defined as the collection, assignment, and interpretation of cost. Subsequent chapters introduce alternative costing methods. It is important to know the cost of products and services. The ideal approach to capturing costs is dependent on what is being produced.
Costing Methods — In some settings, costs may be captured by the job costing method. For example, a custom home builder would likely capture costs for each house constructed. The actual labor and material would be tracked and assigned to that specific home (along with some amount of overhead), and the cost of each specific home can be expected to vary.
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