Intermediate management Accounting
Hoorcollege 1 31 Augustus
Standard economic assumption:
Shareholders want profit; goals of managers/employees are in conflict with this goal; people
act self-interested
- Hidden information: Agents (employees) have insights in own productivity level, firm
specific information à Misrepresentation of that information (e.g. people extract extra
budget for their own department)
- Hidden action: Agents (employees) may underperform because the firm cannot
always see their performance. Likewise owners are also unable to observe
actions of managers
Davila and Foster (2005)
General findings about management accounting systems:
1. MAS (need to) grow over a firm’s life cycle
2. (cash) budgets are the earliest system adopted
3. MAS depend on various firm characteristics
• CEO: experience and beliefs
• # employees
• Venture capitalist presence
4. Positive association between adoption of budgets and firm performance (CAUSALITY?)
Why do managers persist in using inferior accounting data to make decisions?
Economic darwinism: If system survives: benefits > costs over long run
à Inaccurate costing, simple cost drivers sometimes beneficial (Dearman & Shields,
1983)
à Conflicting goal; e.g. tax issue, important behavioral cost consequence
≠ Optimal; not econ. Efficient
Better systems may exist, but have not yet been discovered. Some systems are legitimate
(reach consensus) for different stakeholders (Meyer and Rowan 1977)
Evolution depends on
- Nature of competition, strategic orientation (Krishnan 2005; Sandino 2007)
- CEO/ CFO style (Naranjo-Gil et al. 2009)
- Age, maturity of the company (Davila and Foster, 2005)
- New trends: EVA, BSC, …
, Hoofdstuk 2 the nature of costs
Cost: amount of resources sacrificed or forgone to achieve a precise objective
Cost function: costs vary:
- over time
- over units produced
Accounting cost: C(Q) = FC + VC * (Q)
In general, no linear relation
Marginal cost: cost of producing 1 additional unit
MC = d(TC)/dQ
average cost per unit = TC/Q
Sunk cost (fixed or variable): expenditures incurred in the past that cannot be recovered
Committed cost: costs to be incurred in the future, but will be incurred
Relevant cost: costs to be considered in decision-making
Step costs vs. mixed costs
- Step costs: expenditures fixed over a range of output levels
- Mixed costs: costs that cannot be classified as being purely fixed or purely variable
Opportunity cost: benefit foregone as a result of doing one action instead of another
Valuation of intangible aspects (real options valuation)
Opportunity set (alternative actions) is determining the costs
E.g. Consider various job offers
Opportunity cost ó accounting expense
Opportunity cost Accounting expense
Sacrifice of the best alternative for a given Cost incurred to generate a revenue
action
Measured in cash (equivalents) Costs actually consumed (after decision
à approximations to estimate OC making
Include tangible and intangible assets Historical cost valuation (recorded in
monetary terms
Estimates for future benefits Backward looking
Decision making Decision control
Costs relevant for decision making:
- past costs are always irrelevant: sunk costs, committed costs, past variable costs
- not all future costs are relevant: only those which vary with decisions
excess capacity as an opportunity cost
note: production line cannibalization
(e.g. introduction new product à competition with other products)
Hoorcollege 1 31 Augustus
Standard economic assumption:
Shareholders want profit; goals of managers/employees are in conflict with this goal; people
act self-interested
- Hidden information: Agents (employees) have insights in own productivity level, firm
specific information à Misrepresentation of that information (e.g. people extract extra
budget for their own department)
- Hidden action: Agents (employees) may underperform because the firm cannot
always see their performance. Likewise owners are also unable to observe
actions of managers
Davila and Foster (2005)
General findings about management accounting systems:
1. MAS (need to) grow over a firm’s life cycle
2. (cash) budgets are the earliest system adopted
3. MAS depend on various firm characteristics
• CEO: experience and beliefs
• # employees
• Venture capitalist presence
4. Positive association between adoption of budgets and firm performance (CAUSALITY?)
Why do managers persist in using inferior accounting data to make decisions?
Economic darwinism: If system survives: benefits > costs over long run
à Inaccurate costing, simple cost drivers sometimes beneficial (Dearman & Shields,
1983)
à Conflicting goal; e.g. tax issue, important behavioral cost consequence
≠ Optimal; not econ. Efficient
Better systems may exist, but have not yet been discovered. Some systems are legitimate
(reach consensus) for different stakeholders (Meyer and Rowan 1977)
Evolution depends on
- Nature of competition, strategic orientation (Krishnan 2005; Sandino 2007)
- CEO/ CFO style (Naranjo-Gil et al. 2009)
- Age, maturity of the company (Davila and Foster, 2005)
- New trends: EVA, BSC, …
, Hoofdstuk 2 the nature of costs
Cost: amount of resources sacrificed or forgone to achieve a precise objective
Cost function: costs vary:
- over time
- over units produced
Accounting cost: C(Q) = FC + VC * (Q)
In general, no linear relation
Marginal cost: cost of producing 1 additional unit
MC = d(TC)/dQ
average cost per unit = TC/Q
Sunk cost (fixed or variable): expenditures incurred in the past that cannot be recovered
Committed cost: costs to be incurred in the future, but will be incurred
Relevant cost: costs to be considered in decision-making
Step costs vs. mixed costs
- Step costs: expenditures fixed over a range of output levels
- Mixed costs: costs that cannot be classified as being purely fixed or purely variable
Opportunity cost: benefit foregone as a result of doing one action instead of another
Valuation of intangible aspects (real options valuation)
Opportunity set (alternative actions) is determining the costs
E.g. Consider various job offers
Opportunity cost ó accounting expense
Opportunity cost Accounting expense
Sacrifice of the best alternative for a given Cost incurred to generate a revenue
action
Measured in cash (equivalents) Costs actually consumed (after decision
à approximations to estimate OC making
Include tangible and intangible assets Historical cost valuation (recorded in
monetary terms
Estimates for future benefits Backward looking
Decision making Decision control
Costs relevant for decision making:
- past costs are always irrelevant: sunk costs, committed costs, past variable costs
- not all future costs are relevant: only those which vary with decisions
excess capacity as an opportunity cost
note: production line cannibalization
(e.g. introduction new product à competition with other products)
