Management Accounting: Explanation, Methods, and Planning Tools

This report explains the concept of management accounting, its system, and different methods used for it. It also covers the preparation of income statement using marginal and absorption cost and the advantages and disadvantages of different types of planning tools. The subject is management accounting and the course code is not mentioned. The report is relevant for students pursuing management accounting courses in any college or university.

MANAGEMENT
ACCOUNTING

Table of Contents
INTRODUCTION ..........................................................................................................................3
TASK...............................................................................................................................................3
Explanation of management accounting system ........................................................................3
Explanation different methods used for the management accounting........................................5
Preparation of Income statement using Marginal and Absorption cost......................................7
Advantages and disadvantages of different types of planning tools .......................................16
Comparison of different ways in adopting the management accounting systems to deal with
financial problems ....................................................................................................................18
REFERENCES..............................................................................................................................20

INTRODUCTION
Management accounting is the application of the principles of accounting and financial
management to create, protect and increase value of the investors of for-profit-oriented
organisation and not- profit- oriented organisation. It is the integral part of management function.
It provides information to management for planning, controlling and decision making. It is wider
in scope because it includes financial accounting, budgeting, taxation and planning. It focuses
with the projection of figures for future. It does not contain any rules and regulations. It helps in
divide of the cost of products and inventories for both external and internal users. It is also
known as managerial accounting (Alsaid and et.al, 2020). The person is set up an information
system environment is known as Management Information System. In this report, explain the
management accounting , different types of management accounting system and different
methods used for management accounting report. Further it also includes the techniques to
calculate cost to prepare income statement using marginal and absorption costs, advantage and
disadvantage of budgetary control and compare how organisations are adapting management
accounting system (Bakhodirovna, A.N., 2019).
TASK
Explanation of management accounting system
The accounting is used as a tool in analysing the business activities. Accounting
information is presented in different ways. There are two types of accounting provides the
information such as financial accounting and management accounting. In this report discuss the
management accounting. It is the process of providing information to the managers in decision
making. It gives special consideration on the internal team of the organisation. The main
objective is to use the data analysis and take a better decision. Management accounting includes
many aspects of accounting. It focuses at improving the quality of information relating to the
cost and sales revenue of goods and services of the company. Management accountants work in
both public and private sectors. It gives the information both monetary and non monetary (Burritt
and et.al, 2021). There are many functions of the management accounting but the main functions
are as follow-
1. forecasting- It plays an important role in management accounting. Its objective is to
provide the information for making short term and long term decision. The management

accountant uses the probability, regression and correlation, budgeted and standard
costing and cash fund flows statements for the planning of the business.
2. Organising- It is the managerial process which defines the function of each manager and
operator. In the first step of the organising is to determination of all activities which are
important for the organisation objectives. It identifies the total work load that need for
realizing objectives. After determining all objectives must be divided that is related
activities at one place in the subgroup. In the next step of organising delegation of
authority to each manager of the job assigned. In the final step of organising to create
the relationship between authority and all personnel managers and operators.
3. Coordinating- It helps the management by reconcile the cost and financial accounts, by
preparing budgets and evaluate the standard cost. The management accountant helps in
increasing profits by providing different tools of budgeting (Diab and et.al, 2020).
4. Control performance- To use of the standard costing, accounting ratios and cost
reduction technique help in controlling the performance of the organisation.
5. Financial analysis and interpretation- The management accountant analyses the data in
simple manner so that the owners may understand and to take decision without and
difficulty.
6. Communication- The accountant prepares reports to communicate the results to
different departments like top management, middle management and employees. It also
provides the information with the external world about the growth of the business.
7. Protection of business assets- It is responsible for the conservation of business assets.
The management account looks the sufficient funds are available in the business for
repairing of fixed assets so that the production may not be affected (Gerdin and et.al,
2021).
There are many benefits of the management accounting system but the most important
objective is to help the management team of an organisation in improving the quality of decision.
Some benefits of management accounting-
1. Decision making- The management uses the costing economics and statistics techniques
that makes the process of decision making easier.

2. Planning- it is a continuous and ongoing process. The financial information is presented
to the management at weekly, monthly and yearly. The managers use this information to
plan the activities of the organisation (Habib and et.al, 2019).
3. Identifying business problem areas- Management accounting helps to identify those
product is not work well or some department is going into unexpected losses. It also helps
to identify ways to solve the business problem.
4. Strategic management- It is not necessary method to followed by company. It focuses
on core areas and provides the information to management for take strategic decisions.
The limitations of management accounting-
1. Less knowledge- The management has less knowledge of economics finance and
statistics.
2. Data based on financial accounting- The management take decision on the basis of
financial accounting so that it is not completed and accurately. These data identifies the
strength and weakness of management accounting system.
3. Outdated data- Data is based on the historical so that management may change while
taking decision.
4. Expensive- the setup cost of management accounting system is very expensive so that the
small organisation can not bear this cost. This accounting is restricted to big organisation.
5. Management accounting is only tool- It is only the tool which provides the information to
management for decision making. The implementation is the prerogative of the
management (Heinzelmann, R., 2018).
Explanation different methods used for the management accounting
There are different methods which is used in management accountant by an organisation.
They are as follow-
1. Product costing and Valuation- It identifies the total cost involved in the production of
goods and services. Costs includes variable, fixed, direct and indirect costs. It is used to
determine the cost to each type of product crated by the company. To used direct costs
method, the management accountants determine the actual value of goods sold and
inventory that may be in different stages of production. Marginal costing is also known as
cost volume profit analysis. It is useful for taking short term economic decision. The

impact of the contribution margin of a specific product on the overall profit of the
company.
2. Cash flow analysis- The management accountant is used this technique to determine the
cash impact of business decision. Most of the companies follow the accrual concept of
accounting to determine the accurate picture of company's financial statements. It also
helps in implement working capital management strategies in order to optimize cash flow
(Kenno, S.A. and Free, C., 2018).
3. Margin analysis- It identifies the amount of profit or cash inflow and outflow from a
specific product, store and customer. The three profit margin ratios such as gross profit
margins, operating profit margins and net profit margins. Companies use large profit
margins with competitive advantage over other companies in their industry. Gross profit
margin determines the profit a company after deduct cost of good sold. Net profit margin
analyses the net profit after minus interest and taxes expenses. Operating profit margin
shows the company generating income from the operation of the business.
4. Break even analysis- It is a financial calculation used by companies to determine break
even point. It reveals how many unit will have sold to cover all of cost that is company
will have neither lost money nor made a profit.
5. Capital budgeting analysis- It is a method of determining how invest in capital assets that
generate cash flow benefit for more than one year. It focuses three stages such as decision
analysis for knowledge building, option pricing to establish position and discounted cash
flow for making the investment decision.
6. Inventory valuation- It is a method that is followed by companies and other corporate
entities to determine the direct cost of goods sold and inventory items. Inventory is a
current asset of the company and record in balance sheet. To valuation of inventory the
following costs are included – direct materials, direct labour, factory overheads and
import duties (Liu, Y., 2021).
7. Trend analysis- It is technique that used in technical analysis to identify the future stock
price based on the current trend data. It analysis three typical time horizons- short,
medium and long term.

8. Target costing- It is an approach to determine a product life cycle. It includes all cost
from production level to component level. It is the maximum cost that incurred on a
product.
Preparation of Income statement using Marginal and Absorption cost
Marginal costing- It is an important concept in managerial accounting. Company can earn more
profit when marginal cost equals to marginal revenue. It is a method the variable costs are
assume the product cost and the fixed costs are considered as period's cost. Under this method
the opening and closing stocks does not affect the cost per unit. The cost can be divided into
fixed and variable. The main objective of marginal cost shows forth the contribution of the
production cost (Miles, S. and Miles, S., 2019).
Absorption Costing- It is method that assumes both fixed and variable costs as production costs.
It is also known as full costing. Under this costing more expenses are included in closing
inventory, so that it becomes assets of the company for the next year. To use of absorption
costing generates a situation that the manufacturing more items that go unsold by the year ending
so that net income increases. The direct materials, direct labour and indirect expenses such as
rent, insurance are accounted for by using this method.
There are four methods to preparation of income statement using marginal and absorption
cost. They are as follow-
1. Where there is production but no sale- In this method the profit may reflect when no
sales has been made. This is occur due to fixed manufacturing overheads have been over
absorbed above average capacity production than its actual fixed manufacturing overheads. The
income statement shows loss as there are no sales. The income statement shows gross profit
equal to the amount of over absorption of fixed manufacturing overheads when sales have not
made. Under this method the profit is influenced many factors such as unit sold, selling price and
cost of production (Mohammad Rezaei, F., 2018). The format of income statements using
absorption costing and marginal costing method.
Income statement( Absorption Costing)
Sales -
Variable cost xxx
Fixed manufacturing overheads xxx

Cost of goods manufactured xxx
Less- closing inventory (xxx)
Cost of goods sold xxx
Less- Over absorption of overheads (xxx)
Gross profit xxx
Less- other fixed expenses (xxx)
Net income xxx
Income statement( Marginal Costing)
Sales Nil
Variable cost:
Cost of goods manufactured xxx
Less- closing inventory (xxx)
Cost of goods sold xxx
Contribution:
Less- Fixed manufacturing overhead xxx
Other fixed expenses xxx (xxx)
Net loss (xxx)
2.When production is equal to sales: There is no opening and closing stock because
production is equal to sales. Under this method the profit will be remain same because the
closing stock of finished goods does not change (Quinn and et.al, 2018).
Income statement(Absorption costing)
Sales xxx
Less- cost of goods manufactured:
Material and labour cost xxx

Variable manufacturing overheads xxx
Fixed manufacturing overheads xxx (xxx)
Gross profit xxx
Less- other fixed overheads (xxx)
Net income xxx
Income statements(Marginal Costing)
Sales xxx
Less- variable cost:
Material and labour cost xxx
Variable manufacturing overheads xxx (xxx)
Contribution xxx
Less- fixed cost:
Manufacturing overheads xxx
Other fixed cost xxx (xxx)
Net income xxx
3. When production is more than sales- In absorption costing profit is more than as
compare to marginal costing because closing stock is more than opening stock that is production
is more than sales (Saliy and et.al, 2021).
Income statement(Absorption costing)
Sales xxx
Less- Cost of goods manufactured:
Variable cost xxx
Fixed manufacturing overheads xxx
Opening stock xxx

Closing inventory (xxx) (xxx)
Gross profit xxx
Less- selling expenses:
Fixed xxx
Variable xxx (xxx)
Net income xxx
Income statement(Marginal costing)
Sales xxx
Less- Variable cost xxx
Opening stock xxx
Closing stock (xxx)
Variable selling cost xxx (xxx)
Contribution xxx
Less- Fixed factory cost xxx
Fixed selling cost xxx (xxx)
Net income xxx
4. When production is less than sales- Profit of marginal cost is higher as compared to
absorption costing because opening stock is more than closing stock (Shafati and et.al, 2020).
Income statement(Absorption costing)
Sales xxx
Less- Cost of goods manufactured:
Variable cost xxx
Fixed manufacturing overheads xxx

Opening stock xxx
Closing inventory (xxx) (xxx)
Gross profit xxx
Less- selling expenses:
Fixed xxx
Variable xxx (xxx)
Net income xxx
Income statement(Marginal costing)
Sales xxx
Less- Variable cost xxx
Opening stock xxx
Closing stock (xxx)
Variable selling cost xxx (xxx)
Contribution xxx
Less- Fixed factory cost xxx
Fixed selling cost xxx (xxx)
Net income xxx

Advantages and disadvantages of different types of planning tools
There are three types of planning used which is used by management to taking business
decision they are as follow-
1.Budgets
2.Cost volume profit analysis
3.Pricing strategy
Budget- Budget is the essential tool used by business executives for the purpose of
planning, execution and control of business activities. It is a financial statement prepared and
approved prior to a define period of time. It is a written document contains all the economic
business activities. It is need to be updated, corrected and controlled every time when business
situation change. It is continuous process. It is prepared on the basis of past experience. Budgets
should be monitored periodically because the actual outcomes results are compared with the
budgeted outcomes and variances analysed and responsibility should be fixed (Shumeyko and
et.al, 2018). The advantages of budgets are as follow-
1. Efficiency- To use of budget the management conduct business activities in
efficiently and effective manner.
2. Control on expenditure- It is a yardstick which is used by management for the
control of their expenditure. It evaluates the performance of individuals and their
departments.
3. Revision of plans- The actual results are compared with the budgeted results if
any variance comes out then review of current trends and framing of future
policies.
4. Cost Consciousness- It encourages cost consciousness and maximum utilisation
of available resources.
Disadvantages of budgets:
1. Time consuming- It requires proper attention and time of management during the initial
development period. It can not be executed automatically because some preliminary steps
are required before implementation of budgets (Skouloudis and et.al, 2019).
2. Based on estimates- It is based on past data. If the business condition change in future
then requires revision in plan.

3. Expensive- For successful implementation of the budget, proper organisation structure
requires so that budget is a expensive. It consumes variable resources such as men,
machinery and power.
4. Not a substitute for management- It is only managerial tool for management, they are not
a substitute for good management.
Cost volume profit analysis- It is another important tool for planning. It is inter-
relationship between revenues and cost levels of activity. It provides information to management
because it indicates level of production activity that is break even point and predetermined target
profit. It can also assist with controlling decision and evaluating decision. This approach would
be an accurate as long as majority of the activities have costs as the volume driver. The
advantages of cost volume profit analysis are as follow:
1. It identifies which product and services are beneficial for company to generate the higher
amount of revenue.
2. It determines what would be the cost of budget.
3. It identifies the company fixed costs and measures the risk associated with any
investment.
4. It tells how much revenue should the company target so that no losses occur.
5. It determines sales volume in order to achieve a fixed level of profits.
Disadvantages of cost volume profit analysis:
1. It is very difficult to identify the fixed and variable cost.
2. Under this method selling price not always constant.
3. Relationship between variable cost and volume of output not always effective.
4. It is not suitable for a multi product firm.
Pricing Strategy- Price can be defined as the amount of money change of different
products. Pricing strategies mean the methodologies businesses use to set prices for their product
and service. It determines what amount should be charge for the products. There are different
pricing strategies to choose by company such as value based, competitive pricing, cost plus
pricing, economic pricing and dynamic pricing (Valiyan, Van Hoa and et.al, 2018). The
advantages of pricing strategies are as follow-
1. Increase traffic- Using a competitive pricing strategy they offering a lower price of their
customers which can attract more consumers, create more leads and increases sales.

2. Prevent market share losses- It always ensuring price remain market relevant, so that
shoppers will be likely to turn competitors and more likely to buy business goods or
services.
Disadvantages of price strategy:
1. It prevents poor people from getting the things they need.
2. People can not afford to buy necessities, they are denied access to those goods.
Comparison of different ways in adopting the management accounting systems to deal with
financial problems
An organisation can use the following managerial accounting ways to respond the
financial problems. Financial issues are using budgetary targets, key performance indicators and
variances. Management accounting provides information to the stakeholders so that they can
make day to day decision. It is also known as managerial accounting because it helps business
owners, chief executive officer, and other mangers understand the financial progress of the
organisation. The organisation adopting two approaches for solving the financial problem.
1. Benchmarking- It can be defined as the process of measuring products and services those
of organisation whose one or more aspects of their operations. It provides necessary
information to understand how the organisation compares with similar organisation even
if they are different business activities and different group of customers. Benchmarking
can be classified into two categories technical and competitive. Technical competitive
benchmarking determines the capabilities of product and services, comparison to the
product and services of leading competitors. Competitive benchmarking compares an
organisation is doing with respect to the leading competition. It is also known as best
practice benchmarking because in this process the management identifies the best firm in
the industry and compares the results and process to one's own results. Benchmarking
offers various benefits.
 Competitive analysis
 Monitor performance
 Continuous improvement
 Planning and goal setting
 Encourage ownership

2. Key performance Indicators- It measures a company success versus a set of targets, objectives
or industry peers. It focused on customer efficiency, customer satisfaction and customer
retention. There are different types of key performance indicators.
1. Financial metrics
2. Customer metrics
3. Process performance metrics
CONCLUSION
In the above report, marginal cost plays an important role in decision making. It helps
management to identifying, measuring, analysing and communication financial information.
Management accounting technique used in different areas support management decision and
increases growth of the company. It provides the information to the internal team of the
organisation. Financial information and reports such as balance sheet is shared by finance team
with the management team. The main objective is used to statistical data and take a accurate and
right decision, controlling the business activities. There are different methods used by
management team to prepare the income statement and identify the cost using marginal and
absorption methods. To use marginal costing the company can determine the total cost of goods
sold. It is very important concept because a company maximize the profit will produce up to the
point where marginal cost equal to marginal revenue. Absorption costing ensures more accurate
accounting for closing inventory. Budget is a strategic tool for planning and compares the actual
results with the budgeted results. If any variance comes out then company reschedule the budget.

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