Management and Cost Accounting, 11th Edition
By Colin Drury
Contents
In Memoriam IX
Preface X
About the authors XVI
Acknowledgements XVII
PART ONE
Introduction to management and cost accounting 2
1 Introduction to management accounting 4
The users of accounting information 5
Differences between management accounting and financial accounting 6
The decision-making, planning and control process 6
The impact of the changing business environment on management accounting 10
Focus on customer satisfaction and new management approaches 16
Functions of management accounting 18
Summary of the contents of this book 20
Guidelines for using this book 20
2 An introduction to cost terms and concepts 26
Cost objects 26
Manufacturing, merchandising and service organizations 27
Direct and indirect costs 27
Period and product costs 30
Relevant and irrelevant costs and revenues 35
Avoidable and unavoidable costs 36
Sunk costs 36
Opportunity costs 37
Incremental and marginal costs 38
The cost and management accounting
information system 39
PART TWO
Cost accumulation for inventory valuation and profit measurement 48
3 Cost assignment 50
Assignment of direct and indirect costs 51
Different costs for different purposes 52
Cost–benefit issues and cost systems design 53
Assigning direct costs to cost objects 54
Plant-wide (blanket) overhead rates 54
The two-stage allocation process 55
An illustration of the two-stage process for a traditional costing system 57
An illustration of the two-stage process for an abc system 62
Extracting relevant costs for decision-making 66
Budgeted overhead rates 67
Under- and over-recovery of overheads 68
Non-manufacturing overheads 69
Cost assignment in non-manufacturing
organizations 70
The indirect cost assignment process 72
Appendix 3.1: Inter-service department
reallocations 74
4 Accounting entries for a job
costing
system 88
Materials recording procedure 89
Pricing the issues of materials 90
Control accounts 91
Recording the purchase of raw materials 92
Recording the issue of materials 94
Accounting procedure for labour costs 95
Accounting procedure for manufacturing
overheads 97
Non-manufacturing overheads 98
Accounting procedures for jobs completed and
products sold 98
Costing profit and loss account 99
Job-order costing in service organizations 99
Interlocking accounting 99
Accounting entries for a just-in-time
manufacturing
system 101
5 Process costing 111
Flow of production and costs in a process
costing system 112
Process costing when all output is fully
complete 113
Process costing with ending work in progress
partially complete 118
Beginning and ending work in progress of
uncompleted units 121
Partially completed output and losses in
process 126
Process costing in service organizations 126
Batch/operating costing 126
Appendix 5.1: Losses in process and partially
completed units 128
6 Joint and by-product costing 138
Joint products and by-products 139
Methods of allocating joint costs 139
Irrelevance of joint cost allocations for
decision-making 145
Accounting for by-products 146
7 I ncome effects of alternative
cost accumulation
systems 156
External and internal reporting 157
Variable costing 159
Absorption costing 160
Variable costing and absorption costing: a
comparison of their impact on profit 161
Some arguments in support of variable
costing 162
Some arguments in support of absorption
costing 164
Alternative denominator-level measures 165
Appendix 7.1: Derivation of the profit
function for an absorption costing
system 168
PART THREE
Information for
decision-making 176
8 Cost–volume–profit analysis 178
Curvilinear cvp relationships 179
Linear CVP relationships 180
A numerical approach to CVP analysis 182
The contribution margin ratio 183
Relevant range 184
Margin of safety 186
Constructing the break-even or cvp chart 186
Alternative presentation of CVP analysis 187
Multi-product CVP analysis 189
Operating leverage 191
CVP analysis assumptions and limitations 192
The impact of information technology 195
9 Measuring relevant costs and
revenues for decision-making 204
Identifying relevant costs and revenues 205
Importance of qualitative/non-financial
factors 205
Special pricing decisions 206
Product mix decisions when capacity
constraints
exist 210
Replacement of equipment – the irrelevance of
past costs 213
Outsourcing and make-or-buy decisions 214
Discontinuation decisions 218
Determining the relevant costs of direct
materials 220
Determining the relevant costs of direct
labour 220
Appendix 9.1: The theory of constraints and
throughput
accounting 222
10 Pricing decisions and
profitability
analysis 238
The role of cost information in pricing
decisions 239
A price-setting firm facing short-run pricing
decisions 239
A price-setting firm facing long-run pricing
decisions 240
A price-taking firm facing short-run product mix
decisions 244
A price-taking firm facing long-run product mix
decisions 245
Surveys of practice relating to pricing
decisions 247
Limitations of cost-plus pricing 247
Reasons for using cost-plus pricing 248
Pricing policies 248
Customer profitability analysis 250
Appendix 10.1: Calculating optimal selling
prices using differential calculus 255
11 Activity-based costing 265
The need for a cost accumulation system in
generating relevant cost information for
decision-making 266
Types of cost system 267
A comparison of traditional and abc
systems 267
The emergence of abc systems 269
Volume-based and non-volume-based cost
drivers 270
Designing abc systems 273
Activity hierarchies 275
ABC profitability analysis 277
Cost versus benefits considerations 279
Time-driven abc 280
Resource consumption models and unused
capacity 283
Periodic review of an abc database 285
Abc cost management applications 285
12 Decision-making under
conditions
of risk and
uncertainty 297
Risk and uncertainty 298
Probability distributions and expected value 300
Measuring the amount of risk 301
Attitudes to risk by individuals 302
Decision tree analysis 304
Buying perfect and imperfect information 306
Maximin, maximax and regret criteria 307
Risk reduction and diversification 308
13 Capital investment decisions:
appraisal methods 320
The opportunity cost of an investment 322
Compounding and discounting 323
The concept of net present value 325
Calculating net present values 326
The internal rate of return 328
Relevant cash flows 331
Timing of cash flows 331
Comparison of net present value and internal
rate of return 332
Techniques that ignore the time value of
money 334
Payback method 334
Accounting rate of return 338
The effect of performance measurement on
capital investment decisions 339
Qualitative factors 340
14 Capital investment decisions:
the impact of capital rationing,
taxation, inflation and risk 351
Capital rationing 351
Taxation and investment decisions 353
The effect of inflation on capital
investment appraisal 356
Calculating risk-adjusted discount rates 358
Risk-adjusted discount rates and the weighted
average cost of capital 362
Sensitivity analysis 363
Initiation, authorization and review of projects 365
PART FOUR
Information for planning,
control and performance
measurement 380
15 The budgeting process 382
The strategic planning, budgeting and control
process 383
The multiple functions of budgets 386
Conflicting roles of budgets 387
The budget period 387
Administration of the budgeting process 388
Stages in the budgeting process 389
A detailed illustration 391
Computerized budgeting 400
Activity-based budgeting 401
The budgeting process in non-profit-making organizations 403
Zero-based budgeting 404
Criticisms of budgeting 406
16 Management
control systems 419
Control at different organizational levels 420
Different types of control mechanism 420
Feedback and feed-forward controls 422
Harmful side-effects of controls 423
Management accounting control systems 424
Responsibility centres 425
The nature of management accounting
control systems 427
The controllability principle 428
Setting performance targets and determining
how challenging they should be 432
Determining how much influence managers
should have in setting targets 433
Different approaches that managers use to
evaluate budgetees’ performance 434
Contingency theory 435
Alternative uses of management accounting
information 436
17 Standard costing and variance
analysis 1 450
Operation of a standard costing system 451
Establishing cost standards 453
Purposes of standard costing 457
A summary of variance analysis for a variable
costing system 458
Material variances 458
Labour variances 463
Variable overhead variances 464
A generic routine approach to variance
analysis
for variable costs 465
Fixed overhead expenditure or spending
variance 466
Sales variances 466
Reconciling budgeted profit and actual profit 469
Standard absorption costing 470
Reconciliation of budgeted and actual profit for
a standard absorption costing system 474
Appendix 17.1: A generic routine approach to
variance analysis 477
18 Standard costing and variance
analysis 2: further
aspects 488
Recording standard costs in the accounts 488
Direct materials mix and yield variances 493
Sales mix and sales quantity variances 497
Distinguishing between planning and operating
variances 498
The investigation of variances 500
The role of standard costing when ABC has
been implemented 501
19 Divisional financial performance
measures 513
Divisional organizational structures 514
Advantages and disadvantages of
divisionalization 515
Prerequisites for successful
divisionalization 516
Distinguishing between the managerial and
economic performance of the division 518
Alternative divisional profit measures 518
Surveys of practice 519
Return on investment 520
Residual income 521
Economic value added (EVA(TM)) 522
An illustration of the calculation of EVA(TM) 523
Determining which assets should be included
in the investment base 526
The impact of depreciation 527
The effect of performance measurement on
capital investment decisions 528
Addressing the dysfunctional consequences
of short-term financial performance
measures 530
20 Transfer pricing in divisionalized
companies 545
Purpose of transfer pricing 546
Alternative transfer pricing methods 547
Market-based transfer prices 548
Cost plus a mark-up transfer price 549
Marginal/variable cost transfer prices 551
Full cost transfer prices without a
mark-up 552
Negotiated transfer prices 552
Marginal/variable cost plus opportunity cost
transfer prices 553
Comparison of cost-based transfer pricing
methods 554
Proposals for resolving transfer pricing
conflicts 555
Domestic transfer pricing
recommendations 558
International transfer pricing 559
Appendix 20.1: Economic theory of transfer
pricing 563
Part Five
Strategic performance and
costmanagement,
value
creation
and challenges
for
the future 580
21 Strategic performance
management 582
The performance management framework 583
Strategy and strategic positioning 583
Performance measurement and performance
management systems 585
Alternative performance management
frameworks 585
The balanced scorecard 585
Linking performance evaluation with the
balanced
scorecard 596
Benefits and limitations of the balanced
scorecard
approach 597
22 Strategic cost management and
value creation 616
Cost management and the value chain 617
Life cycle cost management 620
Target costing 621
Kaizen costing 626
Activity-based management 627
Benchmarking 631
Business process reengineering 632
Just-in-time systems 632
Quality cost management 638
23 Challenges for the future 658
A brief historical review of
management accounting 659
Globalization and management accounting
practices 660
Environmental and sustainability issues 661
Focus on ethical behaviour 666
Information technology and
digitalization 668
Intellectual capital and the knowledge-based
economy 673
Integrated reporting 675
Implications for management accounting 676
Part six
Addendum: The application
of quantitative methods to
management
accounting 686
24 Cost estimation and cost behaviour 688
General principles applying to estimating cost functions 689
Cost estimation methods 690
Tests of reliability 696
Relevant range and non-linear cost
functions 697
A summary of the steps involved in estimating cost functions 698
Cost estimation when the learning effect is present 699
Estimating incremented hours and incremental cost 702
Appendix 24.1: Multiple regression analysis 704
25 Quantitative models for the planning and control of inventories 712
Why do firms hold inventories? 713
Relevant costs for quantitative models under conditions of certainty 713
Determining the economic order quantity 714
Assumptions of the eoq formula 716
Application of the eoq model in determining the optimum batch size for a production run 717
Quantity discounts 718
Determining when to place the order 719
Uncertainty and safety stocks 719
The use of probability theory for determining safety stocks 720
Control of inventory through classification 722
Other factors influencing the choice of order quantity 723
Materials requirement planning 724
Just-in-time (jit) purchasing arrangements 724
26 The application of linear programming to management accounting 733
Graphical method 735
Simplex method 740
Uses of linear programming 743
Bibliography 754
Glossary 764
Appendices 775
Answers to review problems 777
Index 861