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COST MANAGEMENT: A STRATEGIC EMPHASIS, NINTH EDITION

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Contemporary Management Techniques: The Management Accountant’s Response to the Contemporary Business Environment

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Explain the contemporary management techniques and how they are used in cost management to respond to the contemporary business environment.

Management accountants, guided by a strategic focus, have responded to the six changes in the contemporary business environment with 13 methods that are useful in implementing strategy in these dynamic times. The first 6 methods focus

directly on strategy implementation: the balanced scorecard and strategy map, value chain, activity-based costing and

management, business analytics, target costing, and life-cycle costing. The next 7 methods help to achieve strategy implementation through a focus on process improvement: benchmarking, business process improvement, total quality

management, lean accounting, the theory of constraints, sustainability, and enterprise risk management. Each of these

methods is covered in one or more of the chapters of the text.

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The Balanced Scorecard (BSC) and Strategy Map Strategic information using critical success factors provides a road map for the firm to use to chart its competitive course and serves as a benchmark for competitive success. Financial measures such as profitability reflect only a partial, and frequently

only a short-term, measure of the firm’s progress. Without strategic information, the firm is likely to stray from its

competitive course and to make strategically wrong product decisions—for example, choosing the wrong products or the wrong marketing and distribution methods.

To emphasize the importance of using strategic information, both financial and nonfinancial, accounting reports of a firm’s

performance are now often based on critical success factors in four different perspectives. One perspective is financial; the

other three are nonfinancial:

An accounting report based on the four perspectives is called a balanced scorecard (BSC). The concept of balance

captures the intent of broad coverage, financial and nonfinancial, of all factors that contribute to the firm’s success in achieving its strategic goals. The balanced scorecard provides a basis for a more complete analysis than is possible with

financial data alone. The use of the balanced scorecard is thus a critical ingredient of the overall approach that firms take to

become and remain competitive. An example of a balanced scorecard is shown in Exhibit 1.4.

EXHIBIT 1.4 The Balanced Scorecard: Financial and Nonfinancial Measures of Success

Financial Measures of Success Nonfinancial Measures of Success

Sales growth Customer Satisfaction

Earnings growth Market share and growth in market share

Dividend growth Customer service (e.g., based on number of complaints)

Bond and credit ratings On-time delivery

Cash flow Customer satisfaction (customer survey)

Increase in stock price Brand recognition (growth in market share)

Internal Processes

Product quality

Manufacturing productivity

Cycle time (the time from receipt of a customer’s order to delivery)

Product yield and reduction in waste

Learning and Growth

Competence of managers (education attained)

Morale and firmwide culture (employee survey)

Education and training (training hours)

Innovation (number of new products)

The strategy map is a diagram that links the various perspectives in a balanced scorecard. For many companies, high

achievement in the learning and growth perspective contributes directly to higher achievement in the internal process

1. Financial performance. Measures of profitability and market value, among others, as indicators of how well the firm satisfies its owners and shareholders.

2. Customer satisfaction. Measures of quality, service, and low cost, among others, as indicators of how well the firm satisfies

its customers.

3. Internal processes. Measures of the efficiency and effectiveness with which the firm produces the product or service.

4. Learning and growth. Measures of the firm’s ability to develop and utilize human resources to meet its strategic goals now

and into the future.

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perspective, which in turn causes greater achievement in the customer satisfaction perspective, which then produces the

desired financial performance. The strategy map is therefore a useful means in understanding how improvement in certain critical success factors contributes to other goals and to the ultimate financial results. We cover the balanced scorecard and

strategy map throughout the text, particularly in Chapters 2, 12, 18, and 20.

The Value Chain The value chain is an analysis tool organizations use to identify the specific steps required to provide a competitive product

or service to the customer. In particular, an analysis of the firm’s value chain helps management discover which steps or

activities are not competitive, where costs can be reduced, or which activity should be outsourced. Also, management can use the analysis to find ways to increase value for the customer at one or more steps of the value chain. For example, companies

such as General Electric, IBM, U-Haul, and Harley-Davidson have found greater overall profits by moving downstream in the

value chain to place a greater emphasis on high-value services and less emphasis on lower-margin manufactured products. A key idea of value-chain analysis is that the firm should carefully study each step in its operations to determine how each step

contributes to the firm’s profits and competitiveness. The value chain is covered in Chapters 2, 13, and 17.

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Activity-Based Costing and Management Many firms have found that they can improve planning, product costing, operational control, and management control by

using activity analysis to develop a detailed description of the specific activities performed in the firm’s operations. The

activity analysis provides the basis for activity-based costing and activity-based management. Activity-based costing (ABC) is

used to improve the accuracy of cost analysis by improving the tracing of costs to products or to individual customers. Activity-based management (ABM) uses activity analysis and activity-based costing to help managers improve the value of

products and services and increase the organization’s competitiveness. ABC and ABM are key strategic tools for many firms,

especially those with complex operations or diverse products and services. ABC and ABM are explained in Chapter 5 and then applied in several of the chapters that follow.

Business Analytics  Business analytics (BA) (also called predictive analytics) is an approach to strategy implementation in which the

management accountant uses data to understand and analyze business performance. Business analytics often uses statistical

methods such as regression or correlation analysis to predict consumer behavior, measure customer satisfaction, or develop models for setting prices, among other uses. BA is best suited for companies that have a distinctive capability that can be

derived from measurable critical success factors. BA is similar to the BSC because it focuses on critical success factors; the

difference is that BA uses analytical tools to develop predictive models of core business processes.

Emerging key types of BA include blockchain and artificial intelligence. Blockchain is a technology that allows all

parties to a transaction to know with certainty what happened in that transaction (www.fool.com/investing/2018/01/10/the-ba sics-of-blockchain-technology-explained-in-p.aspx). Artificial intelligence seeks to build machines and software that act

intelligently (www.forbes.com/sites/cognitiveworld/2019/02/25/artificial-intelligence-hype-is-real/#52ce2b9525fa). BA is

covered in Chapter 8.

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Target Costing Target costing is a method that has resulted directly from the intensely competitive markets in many industries. Target costi

ng determines the desired cost for a product on the basis of a given competitive price, such that the product will earn a

desired profit. Cost is thus determined by price. The firm using target costing must often adopt strict cost reduction measures

or redesign the product or manufacturing process to meet the market price and remain profitable.

Target costing forces the firm to become more competitive, and, like benchmarking, it is a common strategic form of analysis in intensely competitive industries where even small price differences attract consumers to the lower-priced product. The

camera manufacturing industry is a good example of an industry where target costing is used. Camera manufacturers such as

Canon know the market price for each line of camera they manufacture, so they redesign the product (add/delete features, use less expensive parts and materials) and redesign the production process to get the manufacturing cost down to the

predetermined target cost. The automobile industry also uses target costing. Target costing is covered in Chapter 13.

Life-Cycle Costing Life-cycle costing is a method used to identify and monitor the costs of a product throughout its life cycle. The life cycle

consists of all steps from product design and purchase of materials to delivery and service of the finished product. The steps

typically include (1) research and development; (2) product design, including prototyping, target costing, and testing; (3) manufacturing, inspecting, packaging, and warehousing; (4) marketing, promotion, and distribution; and (5) sales and

service. Cost management has traditionally focused only on costs incurred at the third step, manufacturing. Thinking

strategically, management accountants now manage the product’s full life cycle of costs, including upstream (research and development, design) and downstream (marketing, sales and service) costs as well as manufacturing costs. This expanded

focus means careful attention to product design because design decisions lock in most subsequent life-cycle costs. See

Chapter 13 for coverage of life-cycle costing.

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Benchmarking Benchmarking is a process by which a firm identifies its critical success factors, studies the best practices of other firms (or other business units within a firm) for achieving these critical success factors, and then implements improvements in the

firm’s processes to match or beat the performance of those competitors. Benchmarking was first implemented by Xerox

Corporation in the late 1970s. Today, many firms use benchmarking. Some firms are recognized as leaders, and are therefore benchmarks, in selected areas—for example, Nordstrom in retailing, Ritz-Carlton in service, the 3M Company in

manufacturing, and Apple in innovation, among others.

Benchmarking efforts are facilitated today by cooperative networks of noncompeting firms that exchange benchmarking

information. For example, the International Benchmarking Clearinghouse (www.apqc.org) and the International Organization for Standardization (ISO) (www.iso.org) assist firms in strategic benchmarking.