ACC5002 Management Accounting: Evaluating CVP Analysis in UK SMEs

This essay critically evaluates the application of cost-volume-profit (CVP) analysis within small and medium-sized enterprises (SMEs) in the UK, drawing upon the CIMA Journal article "Management Accounting Practices of (UK) Small –Medium Sized Enterprises (S.M.E.s)" and other relevant literature. It examines the usefulness of management accounting knowledge for SMEs, particularly regarding cost management and profitability. The essay discusses the debate among management accounting experts concerning best practices in managing working capital and the usefulness of management accounting education for SME growth, especially in the context of cost-volume-profit analysis. The review highlights the challenges faced by SMEs in adopting contemporary management accounting techniques, the reluctance of SME owners to delegate management accounting tasks, and the limited use of CVP analysis for decision-making. It further explores factors influencing the adoption of management accounting systems, such as ownership structure, firm size, and operational environment, and emphasizes the importance of training and knowledge enhancement for SME executives to improve financial planning and control.

Management Accounting and decision making
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Introduction
The present essay is undertaken to examine the usefulness of gaining significant
knowledge by the small and medium-sized companies of the UK in relation to the management
accounting. The small and medium-sized companies (SME’s) constitutes largely to the economic
growth and development of the UK. In this context, it is very essential for SME’s to develop an
adequate understanding of the different management accounting tools and techniques for better
cost management and improvising their profitability position. As such, the essay presents a
critical view of literature in relation to the growing debate among the management accounting
experts regarding the best practice to be adopted for managing the working capital. The essay
particularly discusses the usefulness of management accounting education for SME’s growth
with regard to application of cost-volume-profit analysis. The overall review of literature has
been carried out in the context of the discussion held within the journal article ‘Management
Accounting Practices of (UK) Small –Medium Sized Enterprises (S.M.E.s)’. The review of
literature will particularly aim at supporting or refuting the views that have been developed in
this context.
Critical Review of findings given in the article “Management Accounting Practices of (UK)
Small-Medium-Sized Enterprises (SMEs)”
Zabri (2016) stated that the small and medium-sized enterprises constitute a major part of
the developed as well as developing economies. In this context, it is becoming highly essential
for them to implement effective business systems and processes that aid them in promoting their
sustainable growth and development. Therefore, it is highly recommended that SME’s need to
adopt the use of contemporary management accounting techniques to assists the business
managers in taking better decisions for planning and control. It has been researched in this
regarded that small businesses are adopting the use of simple techniques for determination of the
product costs. The use of contemporary management accounting systems such as ABC,
sensitivity analysis and other advanced methods is lacking in SME’s (Zabri, 2016).
In this context, the give article developed by Lucas, Prowle and Lowth (2013) has also
discussed the need for SME’s within the UK to implement and adopt the use of management
accounting techniques. SME’s are regarded as a significant part of the UK economy as it is
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estimated that about 99% of the firms within the UK are small and medium-sized. It is highly
important for SME’s to adopt the use of effective accounting systems that helps them to
maximize their financial performance. The use of management accounting systems will provide
significant help to SME’s in better planning, controlling and decision-making. In this regard, it
has also been depicted that only minority of the small firms are integrating the use of accounting
systems. Thus, it is very essential that such firms gain knowledge regarding the impact of the
management accounting systems on the operations and performance of the businesses. The
techniques of management accounting has greater potential for achieving the financial objectives
of SME’s by enabling them to maximize their productivity, efficiency and lastly the profitability
(Lucas, Prowle and Lowth, 2013).
In the article by CIMA it has been articulated that owners of SME’s does not
believe to hire the management accountant to perform the job of management accounting as they
want to have full control and exclusive right to sensitive information. It is the belief of owners in
SMEs that making the managerial judgments by themselves will provide them with greater
insights of what is going on and it short it increases the control of the managerial affairs with the
company. In this relation the concept of business partnering with managerial accountant has
changed perception of the owner’s at SMEs and also helped a lot with ease of management
accounting decisions. It has been supported by Regondola (2016), through conducting the
research on strategic management accounting and control process while making the managerial
decisions. The findings shows that owner’s find it difficult to disclose the sensitive information
to the managerial accountant as looses the control over the entity and also make less aware about
the managerial activities going in the entity. Owners of SMEs believes that if they have control
in the managerial activities and also have decision making power with them allows better control
and also increases the profits (Regondola, 2017).
The article has provided that owner’s or accountant has used individual management
accounting tools that helps to make useful managerial decisions but has not provided relevant
information needed to make decisions such as pricing decisions, budget control and other
decisions that requires analytical tools. Some of the basic management accounting tools used by
accountants at SMEs, are working capital measures, product or service cost measures and
informal cost volume profit analysis. All these management tools do not provide information to
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make the decisions regarding pricing, and product mix decisions. Due to this reasons SMEs fails
to manage their working capital and cash flows falls short at some point of time. Azudin and
Mansor (2017), has stated that lack of proper understanding of managerial tools such as variance
analysis, cost volume analysis and product pricing by the accountants of SMEs has led to failure
of SMEs. The use of tools such as informal CVP analysis, working capital measures and
profitability analysis does not help the SMEs in pricing their products and services and also does
not allow managing the working capital in right way. The difference in size of small and medium
size firms has also led to make use different management accounting tools. For example, only
some small size firms make use of formal budgets and CVP analysis while medium size firms
uses CVP analysis in areas where they find it appropriate. Both small and medium size firms
uses product costing, breakeven analysis and working capital measures to solve for the problem
related to pricing and working capital requirements (Azudin and Mansor, 2017).
All these findings indicate that small firms does not need all the management accounting
tools while medium and large enterprises have to be dependent upon the managerial tools to
drive their growth. Same can understood through an example of use of formal budgetary
planning and control system. The use formal budgetary planning in small size firms does not
provide all benefits of budgeting such as resource allocation and forecasting. But small size firms
cannot make use benefits like coordination, control, motivation and communication as in such
firms decisions is centralized and is being taken mostly by one person (Lin, 2017). In the same
way, small enterprise with centralized decision making power does not need responsibility
centres and also they do not make use of responsibility accounting.
The most important finding in the article by CIMA is that both small and medium size
firms do not make proper use of cost volume profit management accounting tool and this has
also been reported by many researchers. According to research made by Abdullahi, Sulaimon,
Mukhtar and Musa, it has been found that there is no relationship between cost volume profit
analysis and management tool used by the SMEs for decision making purpose. Only managers at
SMEs make use of formal CVP analysis for allocating the resources. It means SMEs does not
make proper use of CVP analysis while making management accounting decisions or they use
CVP analysis when SMEs faces serious financial constraints and a resource planning is most
important criteria for SMEs (Abdullahi et. al, 2017). The most important objective of SMEs is to
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earn the maximum profits and factor that is responsible for profit level in SMEs is level of
production. It means to get the success in long run and to earn the maximum profits there is
requirement to cost volume profit analysis. CVP analysis is the most important management tool
that examines the relationship between cost and profit to the volume of production within the
business.
This analytical management tool aims to maximize the profits in long run. There are
many cases where management has to change the level of production to meet the change in
demand. Some of the few cases are introduction of new product, increase in demand of particular
product, resources are in short supply, competition level, inflation, change in cost and selling
price of product, and many other factors (Shim, 2013). In all such cases management at SMEs
need to look at change in profits due to change in production level. To measure the change in
profit the best management tool that can be used by the management at SMEs is cost volume
profit analysis. Cost volume analysis helps to find out the crisis point or breakeven point for all
products at once or for individual products. Breakeven point refers to point where total cost is
equal to total sales. It means CVP analysis helps management at SMEs to locate the breakeven
point and managers need to look after this point in to order to earn some profits and survive for
long run (Prowle and Lucas, 2016).
According to the view of Husin and Ibrahim (2014) there is limited knowledge in relation
to the contribution of management accounting for SME’s to improvise over their financial
performance. As such, it is highly important that SME’s should develop an adequate
understanding of the impact of management accounting system on their short as well as long-
term performance. They can be regarded as a critical source of gathering relevant financial
information that can helps the financial managers to take accurate decision regarding the
business growth. The major factors that are regarded as responsible for the small and medium-
sized companies within the UK regarding the adoption of management accounting techniques are
attributed to be ownership, size of firm and requirement of higher costs (Husin and Ibrahim,
2014).
The given article of CIMA Journal has also regarded the nature of operations and the
environment in which the firm is operating to be major factor impacting the implementation of
management accounting system. It has been identified in this regard that SME’s adopts the use of
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simple accounting systems as per the complexity of their operations based on their limited size.
However, it has been found out that it is highly important for SME’s to adopt the use of
contemporary method of accounting systems for proper financial planning and control. Similarly,
Kofi (2014) also stated that the SME’s are placing less emphasis on the implementation of
management accounting systems due to the type of their business operations. It has been
identified in this context that it is not feasible for the recording the actual time of labor on
specific jobs within SME’s. Therefore, the lack of accurate measuring of revenue and costs make
it significantly impossible for SME’s to undertake the use of management accounting system of
Cost-volume-profit method. As such, it is required that executives of smaller size companies
within the UK need to gain relevant knowledge about the application of management accounting
decision-support tools such as cost analysis for avoiding the occurrence of risk and uncertain
conditions (Kofi, 2014).
Mkasiwa (2014) has also discussed in this regard that nature of ownership also impacts
the adoption of management accounting systems within the small sized enterprises of the UK.
The ownership structure of the SME’s is based on an individual or their family members without
placing emphasis on their personal competencies and knowledge. This is largely causing the lack
of effective and systematic accounting practices with the SME’s of the UK. The European
Federation of Accountants has stated in this regard that owners of SME’s possess little
knowledge in relation to accounting or financial judgment. Thus, the pertinent investment
decisions are taken without carrying out significant accounting or financial analysis. The
business managers take the decision regarding the business growth without analyzing the
financial status of their business. As such, it results in making the inaccurate decisions that does
not promote the financial growth of the business. Therefore, it is highly important that business
executives and managers need to be provided with relevant training to increase the knowledge
base regarding the management accounting (Mkasiwa, 2014).
The given article in this regard has also regarded the educational background and
professional experience of the manager as a major factor limiting the adoption of the cost-
volume-profit analysis within the small and medium-sized organizations (Lucas, Powle and
Lowth, 2013). It has been identified by Padachi (2012) in this regard that lack of adequate
management of capital is one of the major influencing factor that is negatively impacting the
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growth and expansion of SME’s. The poor accounting practices of accounting are responsible
towards their sustainable growth and development. They are not able to gain finance from the
larger financial institutions such as banks due to their poor accounting records. It is
recommended to the SME’s of the UK that they should improve their accounting environment by
enhancing the knowledge base of different types of accounting systems among the business
executives or managers. This will ultimately lead in improving the accounting record keeping
practices and promoting the sustainable growth and development of the small sized businesses
(Padachi, 2012).
Mkasiwa (2014) has also argued in this context that the lack of adequate financial
resources also acts as a major factor influencing the adoption of management accounting systems
within the SME’s. It has also been stated in the given article that financial constraint is the
dominant variable that is responsible for restricting the adoption of the cost-volume-profit
analysis technique within the SME’s of the UK. The higher cost involved in the implementation
of management accounting techniques is responsible for their restricted adoption. The business
executives of the SME’s believe that the higher cost involved does not outweigh the benefits that
SME’s will realize with the adoption of management accounting techniques (Mkasiwa, 2014).
However, it is important to take into account that SME’s are acting as a major contributor
of economic growth not only within the UK but also on a global level as stated by Zhang and
Wang (2013). The lack of quality financial information is leading to inaccurate decisions taken
by the business executives of the SME’s for their financial growth. In this context, it would
prove to be beneficial for the business executives of the SME’s to adopt the use of appropriate
type of management accounting techniques to gather accurate information about the cost of their
operational process. This would result them in taking right type of strategic and operational
decisions leading to financial growth and development of the business (Zhang and Wang, 2013).
The requirements of the external stakeholders also influences the integration of
management accounting systems within the SME’s of the UK as stated in the given article. The
different stakeholders of the SME’s do possess varying requirements and this is causing the
difference in the nature of accounting systems sued by these firms. For example, an SME would
tend to adopt the use of budgetary planning and control technique to meet the requirements of the
stakeholders of gaining knowledge about the monthly management account. However, the sue of
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management accounting techniques’ such as CVP analysis can help the SME’s to adequately met
the varying needs of its stakeholders by improving the reliability and accuracy of the decisions
taken thus promoting the business growth which eventually will met the varying expectations of
different stakeholders (Lucas, Powle and Lowth, 2013).
Conclusion
It can be stated from the critical reviewing the literature in regard to the adoption of
management accounting techniques’ within the small and medium-sized enterprises that it would
prove to be beneficial for these firms to sustain the financial growth. There is larger need for
SME’s to develop knowledge about the management accounting field for effective strategic and
operational decisions-making required for fostering its long-term performance.
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References
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Azudin, A. and Mansor, N. 2017. Management accounting practices of SMEs: The impact of
organizational DNA, business potential and operational technology. Asia Pacific Management
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Zabri, S. 2016. Management Accounting Practices Among Small And Medium Enterprises.
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