Managerial Accounting

QUESTION 1:

Success of any organization depends upon the decisions their managers take. This is more prominent in manufacturing concerns. In simple terms this would mean that manufacturing companies in order to compete in a competitive environment should possess managers who make sound and correct decisions. In some circumstances, managerial decision based on conventional approaches may not drive organization to its success. Variance analysis is an area considered misleading for managerial accounting purposes when applied in traditional circumstances. Traditional approach to variance analysis considers only the number of unit produced as the sole driver of cost. This represents that cost categorized as fixed or variable is with respect to volume based drivers, as result variable costs only increases as the number of unit increases. In modern times the use of Activity Based Costing (ABC) for variance analysis purposes has increased. This approach realizes the need for numerous cost drivers linked with the respected activity performed.

Return on investment is another way of mapping profits against the capital invested by the investors. The purpose of the term is to measure the rate of return provided or the capability of providing the required amount of return by the investors. The ROI provides a relevant outlook of the level of profitability of the investment assets tied up in the enterprise. This performance measure on the other hand has also been subject to criticism. Its denominator represents the capital employed which is the total equity and liability. The measure is criticized as the ROI increases artificially based on the depreciation of assets made part of capital employed figure. This means that the older the assets gets, the higher the ROI will be. Therefore ROI becomes irrelevant in some cases and is not considered as a complete measure. (Hirshleifer, J. 1956)

The term Economic Value Added or EVA is referred to a measure of firm's economic profits. The term added value represents the excessive value created then the required return by an organizations shareholder. In simple terms EVA is the surplus earned by the company after deducting the cost of financing the firm's capital employed. As performance measures approaches along similar lines include residual income and residual cash flow. It is suggested that the EVA is a very similar approach to RI, but under certain definitions there may be minor technical differences between both. All the approaches mentioned above are nothing but the traditional idea of profits and revenues. The comfort of having a separate and precise measure such as the EVA is that it leaves very little room for dubious accounting treatments and other creative accounting techniques, which in past allowed entity's such as Enron to report profit when in reality they had approached liquidation. Creative accounting is one of the reasons why shareholders have lost faith in these performance measures. Slack can easily be built into these measures and can be used to report things as the management deems fit. (Mouritsen, J. 1998)

All the approaches discussed above are in some manner a measure for performance ...