_—_"—~>S—s—s—s—_ie—eheteee CHAPTER 3 , RARY BUSINESS ENVIRONMENT AND CONTEATEGIC FOCUS OF COST MANAGEMENT CONTEMPORARY BUSINESS EI mre business environment in recent years has been characterized by increasing competition and relentless drive for continuous improvement. These changes seude (1) an increase in global competition; (2) advances in manufacturing technologies: (3) advances in information technologies, the Internet, and ¢- commerce; (4) @ greater focus on the customer; (5) new forms of management son; and (6) changes in the social, political, and cultural environment ‘of business. As businesses turned global and product lines expanded, operations have become more complex, forward-looking companies saw a tremendous need for management oriented data that was separate from financial-oriented data. NVIRONMENT Corporate executives are now using cost data to chart successful futures for their companies. Adapting management accounting system to betiéf meet management's needs for information is crucial to an organization's survival when competing in global markets. Global comipetitors now have relatively free access to markets around the world. As a result, domestic markets on virtually every country face greater challenges from foreign competition. With increased reliance on global markets, companies need not only respond quickly to changing market conditions but also tailor products to different consumer tastes and demands and this has to be done at a level that assures profit and gives satisfactory returns to shareholders. In today’s automated environment management accountants use their management control systems to support and reinforce manufacturing and other operating strategies. It is in this light that one learns to appreciate the role of a management accountant which is more of an influencing role rather than just an informing role. The change in the ousiness environment in at least the last two decades where organization have to transform themselves to become more competitive, have profound effect in the practice of management accounting Of particular importance are the changes in business, especially the increase in global competition and the changes in management techniques, that have created the need for a new, strategic approach to management and to cost management.% oO 3 : { The Global Business Environment \d trade are the key development th, f international markets an business changes in the Contest thiy, te oxen ges in i oriented business and not-for-profit Organ}? Mey ness envirotenent. Pro! all affected significantly by the rapj Broyg} cue and regulators ha eased competition from other CONtinueg “OF ic independence i among large multinational, the iney ing re ing number of allian indicate clearly that the opportunities for Brows, de. = ments among counts kets. As low-cost, high quality goods tag’ Profitability lie in Elobal mat are benefited. Manager, business Owners Med worldwide, most consi ‘oduction activities are ang investors benefit likewise when sales and pri Pursueg ; foreign countries, is iti firms need cost m ines envi tis very competitive and e anagem ree competitiveness They also need financial and Monfinanct information about doing business and competing effectively, Advances in Manufacturing Technologies Firms around the world adopt new manufacturing technologies to Temain Competitive in the face of the increased global competition. Many firms ado, methods applied in some Japanese manufacturing firms that Produced Significany Cost and quality improvements using quality teams, and Statistical quality Some firms include just-in-time inventory method in order to re Advances in Information Technologies, The Internet and E- ‘Commerce The increasing Use of information technology, the internet and €-commerce is le most fundamental of all business changes in Tecent years, This new af of. Internet-based firms (the dot-com’s and E-trade) and the increased use of the Internet for 8 FOCUS in cot and sales, These technologies have Process transactions, th aneeement by Feducing the time required to “within the frm the nasty Ing the individual's access to information and the business environment around the world.at " ¢ y Business Environment and Strategic Focus of Cost a4 7 _ Contemporary Business xe Foces on Customers this era, customer value is the key focus that businesses of 1 ne = with. A key change in increased customer demand for prefer seust be con ad gait. AS business fms sek to add ner fa tt fonctions ickly as possible, shorter product life cycle thereby increasing the products oy pe beclesernr The new business process focuses on customer Producing value for the customer has changed the orientation of managers from low-cost production of large quantities to quality, service, faster delivery and the ability to respond to the customer's desire for specific feature Today, many of the critical success factors are customer oriented. Cost management practices are also changing, cost management reports now include specific measures of customer preference and customer satisfaction. The value of a product or service to the customer is affected by such diverse attributes as product price, quality, functionality, user- ‘iendliness, customer service, warranty and maintenance costs. By managing activities that vil increase i Part in the process called strategic cost management. Generally, firms chose a strategic position Corresponding to one of two general strategies: (a) cost leadership, and (b) superior product through differentiation, A focus on customer value means that the management accounting system should Produce information about both realization and sacrifice. The system should be able to measure various attributes of customer value. Successful pursuit of cost leadership and/or differentiation strategies requires an understanding of a firm’s value chain (internal) and supply chain (external).respond to the customer’s desire for specific feature. Today, many of the jowwr uae factors are customer oriented. Cost management practices are also t reports now include specific measures of customer is management eal ne satisfaction. The value of a product or service to the customer is affected by such diverse attributes as product price, quality, functionality, user-friendliness, customer service, warranty and maintenance costs. By managing activities that will increase customer value, the firms can establish a competitive advantage by creating better customer value for the same or lower cost than that of competitors. Cost information plays an important part in the process called strategic cos management. Generally, firms chose a strategic position corresponding to one o two general strategies: (a) cost leadership, and (b) superior product through differentiation, A focus on customer value means that the management accounting system shoul produce ipfosmation about both realization and sacrifice. The system should b able to measure various attributes of customer value. Baraat en oeS8__Chapter 3 ee the changes in marke, ev ting i Ne etaction ond Value, ¢ i pod. ‘reap satisfact ie Management organization a sus'on costomer: tres of performan ing. Because of \eas\ rm and manufacturing. . . to financi rofit base S quality, time hasis has shifted from financial and profi ase uch a emp! to trol type Gr i mano. 1 and-and-con' customer-related, ponfinancial CE ee rarchical foie organizational from th delivery and service. ena. by a more flexi ess functions. Ins responge a Seen bene Sela dination among busin ing to include reports thay ieee chosen cent * ractices are also chang the reports reflect the pir vege so-futional veains of nce operating and financial are useful to chine ns and incllsia var asst oe nea rote multinational roles of thee unit cost, customer MELT es ion bottoe Tre canes management eas lenecks. The cl penient organiza eae are summarized in Fig) iness Environments 3-1: Comparison of Prior and Contemporary Busines: Figure 3-1: Co, it ‘ontemporary Business ‘trent ° Environment il Management Organization it ic ively financial Financial and Operating Type of information facet exclusively fin dala, the ine sialon en Success factors ierarchi Network-based Management Hierarchical, command and ork: janizational structure control organization forms, " teamwork focus — employee has more Fesponsibility and Control, Coaching rather than Command and Control Management focus Emphasis on the short term, | Emphasis onthe ong — short-term Performance erm, focus on Critical Measures ang Compensation, Success factors ana a staining the Commitment to the loi oa rt IM Success of the firm, manage lity of to Including adgi_ Business Environment and Strategic Focus of Cost Management 59 __ Conger sn I ee LC Management 59 Manufacturit jon] Standardization, economies “A | Quality, funcfonatiy, = ligh volume, long production OW volume, short ‘Manufacturing process ee Signicant eves ofn- | production runs focus on process and finished reducing inventory levels inventory and other Non-value-added activities and costs i Assembly-line automation, Robotics, flexible eye isolated technology manufacturing systems, applications integrated technology applications connected by Networks Required labor skills Machine-paced, low-level Individually and team- skills paced, high-level skills Emphasis on quality Acceptance of a normal or Goal of zero defects Usual amount of waste Marketing Products Relatively few variations, long | Large number of Product life cycles Variations, short product life cycles Markets Largely domestic Global Changes in the Social, Political, And Cultural Environment of Business Significant changes have taken place in the social, diverse workforce, employees, The new business environment requires firms to place greater Tesponsibility in the hands of a more highly skilléd workforce. Additionally, the changes tend to focus the firm factors oyéside the production off its product or Provision of its service to the ultimate consumer and the global Society in which the costumer lives, be flexible and adaptable and tocig) et pected change in the MAN: yf COST STRATEGIC FOCUS O! ing and expecter | tes the emerge asiness planning an Practices, A competitive ‘firm incomPoree os, int i anufacturing technologies - anced Mam tory policies and custome, in it of contemporary environment of Pee anced s This firm is customer-driven, USSSA a in ea cultural environment, ical appropriate, anticipates the effect social, polit tastes, and recognizes its complex eal ott focuses thy Guided by strategie or long-term thinking. he cost contol and gt Z sing Of than just focu make the company successful rather company ¢ measurement per — but on the financial measure. the Cost management should focus not on I to the firm’s success. identification of those measures that are critical Phases of the development of cost management systems should consider the following: Cost management systems are basic transaction reporting systems, St 1: > Stace 2:. As they develop into the second stage, = ‘Sblentive is late focus on extemal financial reporting. financial reports; accordingly, the usefulness for cost management is limited. . Stage 3: Cost management systems track key operating data and develop more accurate and relevant cost information for decision making; cost management information is developed. Wit : Strategically relevant cost management information is an integral part of the system. Stages 1 and 2 of cost system development focus on the management accountant’s measurement and reporting role, Stage 3 shifts to operational control. Stage 4, the management accountant becomes an integral part of Management, not just a reporter but a full business Partner, with the skills of identifying, summarizing and reporting critical factors necessary for the firm’s success, Stage 4: Critical Success Factors (CSFs) are measures of those aspects of the firm’s Performance essential to its competitive advantage and, therefore, to its success. Many of these Critical success factors are financial, but many are nonfinancial, The CSFs for any given firm depend on the nature of the Competition it faces, 7Environment and. Focus of Cost Comemporary Busines 2 ost MANAGEMENT AND ACCOUNTING SYSTEMS management is widely used in businesses today. Unfortunate Fane ee aefaoon. We we cost management describe te prec neon of managers in short-run and long-run planning and control decisions un increase value for customers and lower costs of products and services sn managers make decisions regarding the amount and kind of material being used, changes of plant processes, and changes in product designs, Information from accounting systems helps managers make such decisions, but the information and the accounting systems themselves are not Cost management. Cost management has a broad focus. For example, it includes — but it not confined to the continuous reduction of costs. The planning and control of costs ig usually inextricably linked with revenue and profit Planning. For instance, to enhance revenues and profits, managers often deliberately incur additional costs for advertising and product modifications, Cost management is not practiced in isolation. It’s an integral part of oes management strategies and their implementation, Examples include Programs that enhance customer satisfaction and quality, as well as Programs that promote “blockbuster” new product development. WHEN SHOULD THE INTERNAL ACCOUNTING SYSTEM BE CHANGED? The succeeding sections wil] analyze organizational innovations. These innovations illustrate that internal accounting systems are an integral part of the organization’s architecture. When managers change the architecture of their organization by decentralizing decision rights and empowering employees via TQM programs because the firm’s business strategy changes, accounting systems are likewise modified. Similarly, when JIT Production systems are installed, accounting system changes follow. However, there were no organization changes associated with productivity measurement systems and these accounting systems were not widely implemented. There is no such thing as the ideal management accounting system. Each Organization has different circumstances that lead to different ‘Management accounting decisions. Also, accounting must continually deal with trade-offs among external users wanting information describing firm performance and internal users wanting information for decision making and control. Surviving organizations must meet the demands of changing technologies and markets bynal architectures, Bec, ‘ and ore te of change, the acco, ictures int Si their business STUN @ consia oa ional architectures conganizational adapt unting system j. Y nant eeguierty cote that the intern art of managers = oo ni jor 0 ; oa There are certain signs My Fictional BERANION ers will make decisiong working well. One sign is ve measures. ose performance Measures are of poorly chosen performane’ easures. those Pett itt make decisions tha performal eae er sign of problems with i. positively influence nization, consistent with the goals ofthe ee goals. Anot If, product mix and Pricing ow i: S : doer coincide ae aoe in ee nl adding to ie oad decisions based on management vis either providing inaccu S of value, then oe ee dysfunctional incentives. “ . hitectures cause suppliers to change Often changes in customers’ organizational arc if your major customers ae their architecture (and accounting systems). they are likely responding to i izational architectures, é z ce tee acto, The way mobich owed genera and disseminated has probably changed. These changes are likely affecting your firm’s organizational architecture. Organizations should not necessarily look to the latest management accounting fads to give them direction in changing their management accounting systems. Activity-based costing (ABC), for example, is only appropriate for certain types of organizations. Each organization must continually evaluate and improve its management accounting system to meet the challenges of a changing environment and a changing organization Accounting systems record historical costs, wn ooking Opportunity costs. Theref HE Useful for jit? ate backward looking. OF decision maki: future Will look like eect eeQGe~-t—™ a rary Business Environment and Strategic Focus of Cost Management 63 INTEGRATIVE FRAMEWORK _ rs of this book will describe and analyze cost m; Succeeding Seems, Besides being used for both decision making and ont these accounting systems support external reporting for shareholders, taxes, and ernment regulations. Thus, one of the central themes of this text is that Sie arise when the accounting system is designed for multiple purposee ¢, addition to providing a better understanding of the internal uses of accounting system, this book reinforces the importance of viewing the accounting system ae part of the firm’s organizational architecture. This analytic structure will help readers better understand, use, and design future accounting systems as well a¢ other systems that evaluate and reward performance and partition decision rights. Figure 3-2 shows the integrative framework for understanding how the accounting system is used in the firm’s organizational architecture. Starting at the top, two external factors (technological innovation and market conditions) affect the firm’s business strategy. The business strategy then interacts with the firm’s organizational architecture to provide incentives for managers and employees. These incentives affect the actions taken, which in turn affect the value of the firm. Thus, Figure 3-2 emphasizes that external factors like technology and market conditions affect investments, organizational architecture, incentives, actions, and ultimately the value of the firm. Figure 3-2 provides two important observations: 1. Changes in the accounting system rarely occur in a vacuum. Accounting system changes generally occur at the same time as changes in the firm’s business strategy and other organizational changes, particularly with regard to the partitioning of decision rights and the performance evaluation and reward systems. 2. Alterations in the firm’s organizational architecture, including changes in the accounting system, are likely to occur in response to changes in the firm’s business strategy caused by external shocks from technology and shifting market conditions.ion control | Performance evaluation system ‘Accounting system Nonfinancial systems Performance reward and punishment system | Compensation policy fae Y \ncentves and actons = (ae)C Business Environment and Strategic Focus of Cost as ignificant managerial implications are derived from these two - Tievenign = iomening an accounting or other organizational cenians. vemvertant to understand what is driving the change. Second, an acer ante ed eer manise other firms are doing so; they aay ty reacting to a different set of external shocks. Third, an accounting system should not be changed without concurrent, consistent changes in the way decision rights are partitioned as well as in the performance reward systems. All three parts of the organization’s architecture must be internally consistent and Coordinated.