Chapter 1: The role of accounting information in
management decision making
Questions
1.1 Explain the value chain and list ways that value chain analysis benefits
organisations.
(LO4)
A value chain can be described as the key activities engaged in by the organisation or
industry. We can view the value chain on two levels: at the industry level, and at the
(more common) organisational level. Refer to figure 1.5 for a sample industry value
chain and to figure 1.6 for a sample internal value chain. Value chain analysis may
benefit an organisation in a number of ways including:
• Focuses on activities. The central feature of the value chain is its focus on
activities and processes rather than functions or departments. This makes
identification of improvements across segments more likely.
• Encourages a broader organisational view. This is particularly so for
management accounting staff and business unit managers. Management
accounting staff are more likely to take a broader perspective if using a value
chain framework when considering the consequences of decisions.
• Breaks down more traditional representations of organisational activity. A
value chain framework encourages higher levels of cross-fertilisation and
communication between business segments, so that decisions are not confined by
the traditional boundaries of functional areas.
,• Externalises thinking by incorporating suppliers and customers. An
organisation‘s value chain encompasses not only customers and suppliers, but in
some cases extends to the customers‘ customers and the suppliers‘ suppliers.
Analysis of the value chain leads to improved relationships between the
organisation and others in the value chain, creating an extended organisation that
can respond flexibly to dynamic and competitive environments. In other words,
value chains explicitly recognise that no organisation operates in isolation from
suppliers and customers.
• Reinforces other initiatives such as activity-based costing (ABC). With the
focus on activities, a value chain framework provides a sound foundation for
exploring activity-based costing (which is covered in chapter 4). ABC uses
activities as the foundation of product and service costing. Moreover, a value
chain framework complements other recent initiatives like strategic cost
management, which refers to the simultaneous focus on reducing costs and
strengthening an organisation‘s strategic position. This commonly involves taking
a longer-term view of cost management and decision-making.
• Provides a foundation for outsourcing and strategic alliance decisions. A
value chain framework serves as the foundation for considering decisions such as
outsourcing of particular parts of the value chain and for considering the
1-1
, formation of strategic alliances with say a distributor. In this way, the value chain
serves as a strategic tool.
• Supports initiatives like supply chain analysis. As organisations work to
increase profitability, improving their relationships with suppliers becomes a
priority. Improvements can be identified through supply chain analysis. The
supply chain is the flow of resources from the initial suppliers through the
delivery of goods and services to customers and clients. The initial suppliers may
be inside or outside the organisation. Negotiating lower costs with suppliers is a
straightforward way to reduce costs. Suppliers may be willing to reduce prices,
particularly for organisations willing to sign long-term purchase commitments.
Occasionally, organisations work with suppliers to help them reduce their costs
so that the savings can be passed along.
• Categorises activities as value-added and non-value-added. Value chain
analysis involves studying each step in the business process to determine whether
some activities can be eliminated because they do not add value. This analysis
extends to suppliers and customers, and includes shared planning, inventory,
human resources, information technology systems, and even corporate cultures.
Eventually, the analysis leads to business decisions for improving value.
1.2 Why do managers need to measure, monitor, and motivate performance?
(LO1, 2 and 3)
Once operating plans are in place, organisations need to know whether the plans are
being met or need to be changed to take advantage of new opportunities. To do this,
actual performance needs to be measured and compared to the plans (monitored). To
help managers move toward the organisational goals, incentives such as performance-
based bonuses are offered (motivating).
1.3 List three types of internal reports and explain how each is used. List three
types of external reports and explain how each is used.
(LO2)
See figure 1.2 for a list of possible internal and external reports. Students may have
thought of other reports as well. Following are examples of internal reports. Capital
budgets support organisational strategies, the master budget supports operating plans,
and variance reports (actual versus planned performance) help organisations monitor
and motivate performance if they are tied to compensation contracts.
Financial statements are external reports that provide creditors and shareholders
information about current and past operations. Tax returns are reports prepared for the
government that also determine the amount of taxes due. Suppliers need reports about
inventory levels to keep an organisation‘s inventory levels up to date.
, 1.4 What types of information in addition to cost accounting are needed for
management decisions?
(LO1)
The type of information needed depends on the type of decision. For product-related
decisions, managers may need information about the market, including the size of the
market, their potential share, competitors‘ prices and quality of products. For
employee-related decisions, they may need to know the amount of experience
employees have had or estimate costs to lay them off using information about length
of service from human resources. If managers are developing a new good or service,
they need information from suppliers about the cost of resources. Students may have
thought of other types of decisions and information needed for them.
1.5 Explain relevant information in a decision-making context.
(LO 1 and 3)
Relevant information is information that varies with the available alternatives for a
decision; these are relevant because they relate directly to each separate decision that
could be made.
1.6 What is a cost object?
(LO2)
A cost object is a thing or activity for which we measure costs. Cost objects might
include products, services, customer, processes, departments, of the entire
organisation.
1.7 In your own words, explain the path to higher-quality decisions.
(LO3)
Higher quality decisions are made by using higher quality information, that is,
information that has few uncertainties and is relevant, complete, as certain as possible,
and timely. This information needs to be prepared in reports that are easy to
understand, readily available, and timely. Then a high quality decision-making
process is used. This is a process that is thorough, as unbiased as possible, focused,
creative, and visionary as it relates to strategies.
1.8 Outline the meaning of structural cost drivers.
(LO4)
Structural cost drivers are those that relate to the underlying economic structure of the
organisation and include such concepts as scale, scope, experience, technology and
complexity.
1-3
management decision making
Questions
1.1 Explain the value chain and list ways that value chain analysis benefits
organisations.
(LO4)
A value chain can be described as the key activities engaged in by the organisation or
industry. We can view the value chain on two levels: at the industry level, and at the
(more common) organisational level. Refer to figure 1.5 for a sample industry value
chain and to figure 1.6 for a sample internal value chain. Value chain analysis may
benefit an organisation in a number of ways including:
• Focuses on activities. The central feature of the value chain is its focus on
activities and processes rather than functions or departments. This makes
identification of improvements across segments more likely.
• Encourages a broader organisational view. This is particularly so for
management accounting staff and business unit managers. Management
accounting staff are more likely to take a broader perspective if using a value
chain framework when considering the consequences of decisions.
• Breaks down more traditional representations of organisational activity. A
value chain framework encourages higher levels of cross-fertilisation and
communication between business segments, so that decisions are not confined by
the traditional boundaries of functional areas.
,• Externalises thinking by incorporating suppliers and customers. An
organisation‘s value chain encompasses not only customers and suppliers, but in
some cases extends to the customers‘ customers and the suppliers‘ suppliers.
Analysis of the value chain leads to improved relationships between the
organisation and others in the value chain, creating an extended organisation that
can respond flexibly to dynamic and competitive environments. In other words,
value chains explicitly recognise that no organisation operates in isolation from
suppliers and customers.
• Reinforces other initiatives such as activity-based costing (ABC). With the
focus on activities, a value chain framework provides a sound foundation for
exploring activity-based costing (which is covered in chapter 4). ABC uses
activities as the foundation of product and service costing. Moreover, a value
chain framework complements other recent initiatives like strategic cost
management, which refers to the simultaneous focus on reducing costs and
strengthening an organisation‘s strategic position. This commonly involves taking
a longer-term view of cost management and decision-making.
• Provides a foundation for outsourcing and strategic alliance decisions. A
value chain framework serves as the foundation for considering decisions such as
outsourcing of particular parts of the value chain and for considering the
1-1
, formation of strategic alliances with say a distributor. In this way, the value chain
serves as a strategic tool.
• Supports initiatives like supply chain analysis. As organisations work to
increase profitability, improving their relationships with suppliers becomes a
priority. Improvements can be identified through supply chain analysis. The
supply chain is the flow of resources from the initial suppliers through the
delivery of goods and services to customers and clients. The initial suppliers may
be inside or outside the organisation. Negotiating lower costs with suppliers is a
straightforward way to reduce costs. Suppliers may be willing to reduce prices,
particularly for organisations willing to sign long-term purchase commitments.
Occasionally, organisations work with suppliers to help them reduce their costs
so that the savings can be passed along.
• Categorises activities as value-added and non-value-added. Value chain
analysis involves studying each step in the business process to determine whether
some activities can be eliminated because they do not add value. This analysis
extends to suppliers and customers, and includes shared planning, inventory,
human resources, information technology systems, and even corporate cultures.
Eventually, the analysis leads to business decisions for improving value.
1.2 Why do managers need to measure, monitor, and motivate performance?
(LO1, 2 and 3)
Once operating plans are in place, organisations need to know whether the plans are
being met or need to be changed to take advantage of new opportunities. To do this,
actual performance needs to be measured and compared to the plans (monitored). To
help managers move toward the organisational goals, incentives such as performance-
based bonuses are offered (motivating).
1.3 List three types of internal reports and explain how each is used. List three
types of external reports and explain how each is used.
(LO2)
See figure 1.2 for a list of possible internal and external reports. Students may have
thought of other reports as well. Following are examples of internal reports. Capital
budgets support organisational strategies, the master budget supports operating plans,
and variance reports (actual versus planned performance) help organisations monitor
and motivate performance if they are tied to compensation contracts.
Financial statements are external reports that provide creditors and shareholders
information about current and past operations. Tax returns are reports prepared for the
government that also determine the amount of taxes due. Suppliers need reports about
inventory levels to keep an organisation‘s inventory levels up to date.
, 1.4 What types of information in addition to cost accounting are needed for
management decisions?
(LO1)
The type of information needed depends on the type of decision. For product-related
decisions, managers may need information about the market, including the size of the
market, their potential share, competitors‘ prices and quality of products. For
employee-related decisions, they may need to know the amount of experience
employees have had or estimate costs to lay them off using information about length
of service from human resources. If managers are developing a new good or service,
they need information from suppliers about the cost of resources. Students may have
thought of other types of decisions and information needed for them.
1.5 Explain relevant information in a decision-making context.
(LO 1 and 3)
Relevant information is information that varies with the available alternatives for a
decision; these are relevant because they relate directly to each separate decision that
could be made.
1.6 What is a cost object?
(LO2)
A cost object is a thing or activity for which we measure costs. Cost objects might
include products, services, customer, processes, departments, of the entire
organisation.
1.7 In your own words, explain the path to higher-quality decisions.
(LO3)
Higher quality decisions are made by using higher quality information, that is,
information that has few uncertainties and is relevant, complete, as certain as possible,
and timely. This information needs to be prepared in reports that are easy to
understand, readily available, and timely. Then a high quality decision-making
process is used. This is a process that is thorough, as unbiased as possible, focused,
creative, and visionary as it relates to strategies.
1.8 Outline the meaning of structural cost drivers.
(LO4)
Structural cost drivers are those that relate to the underlying economic structure of the
organisation and include such concepts as scale, scope, experience, technology and
complexity.
1-3
