This updated and revised fourth edition of Accounting for Managers builds on the international success of the previous editions in explaining how accounting is used by non-financial managers. Emphasizing the interpretation rather than the construction of accounting information, Accounting for Managers encourages a critical, rather than an unthinking acceptance of accounting techniques. Whilst immensely valuable for planning, decision-making and control, users of accounting information need to recognize the assumptions behind, and the limitations of particular accounting techniques. As in the previous editions, Accounting for Managers links theory with practical examples and case studies drawn from real business situations across a wide range of manufacturing, retail and service industries.

Preface to the Fourth Edition xvii

About the Author xxi

Acknowledgements xxii

PART I Context of Accounting 1

1 Introduction to Accounting 3

Accounting, accountability and the account 3

Introducing the functions of accounting 5

A short history of accounting 6

The role of financial accounting 7

The role of management accounting 8

Recent developments in accounting 10

The relationship between financial accounting and management accounting 12

A critical perspective 13

Conclusion 15

References 15

Questions 16

2 Accounting and its Relationship to Shareholder Value and Corporate Governance 17

Capital and product markets 17

Shareholder value-based management 18

Shareholder value, strategy and accounting 21

Company regulation and corporate governance 23

The regulation of companies 23

Corporate governance 23

Principles of corporate governance 24

Responsibility of directors 24

Audit 25

Audit committees 25

Stock Exchange Listing Rules 26

Risk management, internal control and accounting 26

A critical perspective 27

Conclusion 28

References 28

Websites 28

Questions 29

3 Recording Financial Transactions and the Principles of Accounting 30

Business events, transactions and the accounting system 30

The double entry: recording transactions 31

Extracting financial information from the accounting system 35

Basic principles of accounting 37

Accounting entity 37

Accounting period 37

Matching principle 38

Monetary measurement 38

Historic cost 38

Going concern 39

Conservatism 39

Consistency 39

Cost terms and concepts: the limitations of financial accounting 39

Conclusion 41

References 41

Questions 42

4 Management Control, Accounting and its Rational-Economic Assumptions 44

Management control systems 44

Planning and control in organizations 47

Non-financial performance measurement 51

A theoretical framework for accounting 55

Conclusion 56

References 56

Websites 58

5 Interpretive and Critical Perspectives on Accounting and Decision Making 59

Research and theory in management control and accounting 60

Alternative paradigms 62

The interpretive paradigm and the social construction perspective 65

Culture, control and accounting 67

The radical paradigm and critical accounting 68

Power and accounting 70

Case study 5.1: easyJet 71

Ethics and accounting 74

Case study 5.2: Enron 76

Case study 5.3: WorldCom 77

Conclusion 77

References 78

PART II The Use of Financial Statements for Decision Making 81

6 Constructing Financial Statements: IFRS and the Framework of Accounting 83

International Financial Reporting Standards (IFRS) 84

Framework for the Preparation and Presentation of Financial Statements 85

Objectives of financial statements 86

Qualitative characteristics of financial statements 86

Elements of financial statements 87

Concepts of capital maintenance 88

True and fair view 88

Reporting profitability: the Statement of Comprehensive Income 89

Reporting financial position: the Statement of Financial Position 92

Accruals accounting 94

Depreciation 95

Specific IFRS accounting treatments 97

Accounting for sales taxes 98

Accounting for goodwill and impairment testing 98

Accounting for research and development expenditure 99

Accounting for leases 99

Reporting cash flow: the Statement of Cash Flows 100

Differences between the financial statements 102

Illustration 102

A theoretical perspective on financial statements 103

Agency theory 104

A critical perspective on financial statements and accounting standards 105

Conclusion 105

Reference 106

Websites 106

Appendix: IFRS as at 1 January 2011 106

Questions 107

7 Interpreting Financial Statements 111

Annual Reports 111

The context of financial statements 113

Ratio analysis 113

Profitability 115

Return on (shareholders’) investment (ROI) 115

Return on capital employed (ROCE) 115

Operating margin (or operating profit/sales) 116

Gross margin (or gross profit/sales) 116

Overheads/sales 116

Sales growth 116

Liquidity 117

Working capital 117

Acid test (or quick ratio) 117

Gearing 117

Gearing ratio 117

Interest cover 117

Activity/efficiency 118

Asset turnover 118

Working capital 119

Managing receivables 119

Managing inventory 120

Managing payables 121

Managing working capital 121

Shareholder return 122

Dividend per share 122

Dividend payout ratio 122

Dividend yield 122

Earnings per share (EPS) 123

Price/earnings (P/E) ratio 123

The relationship between financial ratios 123

Interpreting financial statements using ratios 125

Profitability 125

Liquidity 126

Gearing 126

Activity/efficiency 126

Shareholder return 126

Using the Statement of Cash Flows 127

Case study 7.1: HMV Group – interpreting financial statements 127

Limitations of ratio analysis 135

Case study 7.2: Carrington Printers – an accounting critique 135

Alternative theoretical perspectives on financial statements 138

Intellectual capital 138

Institutional theory 139

Corporate social responsibility 140

Sustainability and the ‘triple bottom line’ 141

Global Reporting Initiative 142

Applying different perspectives to financial statements 142

Conclusion 143

References 144

Website 144

Questions 144

8 Accounting for Inventory 152

Introduction to inventory 152

Flow of costs 153

Cost formulas for inventory 153

Inventory valuation under the weighted average method 154

Inventory valuation under FIFO 155

Retail method 155

Net realizable value 156

Methods of costing inventory in manufacturing 156

Long-term contract costing 159

Management accounting statements 161

Conclusion 162

Questions 162

PART III Using Accounting Information for Decision Making, Planning and Control 167

9 Accounting and Information Systems 169

Introduction to accounting and information systems 169

Methods of data collection 170

Types of information system 171

Business processes 173

Internal controls for information systems 174

Developing information systems 176

Conclusion 177

References 177

10 Marketing Decisions 178

Marketing strategy 178

Cost behaviour 180

Costvolumeprofit analysis 181

Breakeven with multiple products 185

Operating leverage 186

Limitations of CVP analysis 187

Alternative approaches to pricing 188

Cost-plus pricing 188

Target rate of return pricing 189

Optimum selling price 189

Special pricing decisions 190

Transfer pricing 192

Segmental profitability 192

Case study 10.1: Retail Stores plc – the loss-making division 194

Customer profitability analysis 196

Case study 10.2: SuperTech – using accounting information to win sales 198

Conclusion 199

References 199

Questions 200

11 Operating Decisions 203

The operations function 203

Managing operations manufacturing 205

Managing operations services 207

Accounting for the cost of spare capacity 208

Capacity utilization and product mix 209

Theory of Constraints 211

Operating decisions: relevant costs 212

Make versus buy? 212

Equipment replacement 213

Relevant cost of materials 214

Total quality management and the cost of quality 217

Environmental cost management 218

Case study 11.1: Quality Printing Company – pricing for capacity utilization 218

Case study 11.2: Vehicle Parts Company – the effect of equipment replacement on costs and prices 220

Case study 11.3: Quality and waste at Planet Engineering 222

Conclusion 223

References 223

Questions 224

12 Human Resource Decisions 228

Human resources and accounting 228

The cost of labour 229

Relevant cost of labour 231

Case study 12.1: The Database Management Company – labour costs and unused capacity 234

Case study 12.2: Trojan Sales – the cost of losing a customer 236

Conclusion 238

References 238

Questions 238

13 Overhead Allocation Decisions 243

Cost classification 243

Product and period costs 243

Direct and indirect costs 245

The overhead allocation problem 247

Shifts in management accounting thinking 248

Alternative methods of overhead allocation 250

Variable costing 250

Absorption costing 251

Over- or under-recovery of overhead 255

Activity-based costing 256

Differences between absorption and activity-based costing 258

Contingency theory 260

International comparisons 261

Management accounting in Japan 262

Behavioural implications of management accounting 263

Case study 13.1: Tektronix Portables division 266

Case study 13.2: Quality Bank – the overhead allocation problem 267

Conclusion 269

References 269

Questions 271

14 Strategic Investment Decisions 276

Strategy 276

Capital expenditure evaluation 277

Accounting rate of return 279

Payback 281

Discounted cash flow 282

Net present value 282

Internal rate of return 284

Comparison of techniques 285

Case study 14.1: Goliath Co. – investment evaluation 286

Conclusion 288

References 288

Appendix: Present value factors 288

Questions 290

15 Performance Evaluation of Business Units 293

Structure of business organizations 293

The decentralized organization and divisional performance measurement 296

Absolute profit 296

Return on investment 297

Residual income 297

Controllability 298

Case study 15.1: Majestic Services – divisional performance measurement 299

Transfer pricing 302

Transaction cost economics 304

Conclusion: a critical perspective 305

References 306

Questions 307

16 Budgeting 310

What is budgeting? 310

The budgeting process 311

The profit budget 313

Case study 16.1: Superior Hotel – service budget example 314

Case study 16.2: Sports Stores Co-operative Ltd – retail budget example 316

Case study 16.3: Telcon Manufacturing – manufacturing budget example 317

Cash forecasting 319

Case study 16.4: Retail News Group – cash forecasting example 320

A behavioural perspective on budgeting 323

A critical perspective: beyond budgeting? 325

Case study 16.5: Svenska Handelsbanken – is budgeting necessary? 326

Conclusion 327

References 328

Questions 328

17 Budgetary Control 333

What is budgetary control? 333

Flexible budgeting 334

Variance analysis 335

Case study 17.1: Wood’s Furniture Co. – variance analysis example 336

Sales variance 338

Cost variances 339

Materials variance 340

Labour variance 342

Overhead variances 344

Reconciling the variances 345

Criticism of variance analysis 346

Cost control 347

Applying different perspectives to management accounting 348

Conclusion 349

References 349

Questions 350

18 Strategic Management Accounting 354

Strategic management accounting 354

Accounting techniques to support strategic management accounting 357

Value chain and supply chain management 357

Human resource accounting 358

Activity-based management 358

Lifecycle costing 360

Target costing 361

Kaizen costing 362

Just-in-time 362

Backflush costing 363

Lean production and lean accounting 363

Case study 18.1: TNA and strategic management accounting 365

Conclusion 367

References 368

Further reading 368

Books 369

Articles published in the following journals 369

PART IV Supporting Information 371

Introduction to the Readings 373

Reading A 375

Questions 375

Further reading 375

A Cooper and Kaplan (1988). How cost accounting distorts product costs 376

Reading B 388

Questions 388

Further reading 388

B Otley, Broadbent and Berry (1995). Research in management control: an overview of its development 389

Reading C 407

Questions 407

Further reading 407

C Covaleski, Dirsmith and Samuel (1996). Managerial accounting research: the contributions of organizational and sociological theories 408

Reading D 439

Questions 439

Further reading 439

D Dent (1991). Accounting and organizational cultures: a field study of the emergence of a new organizational reality 440

Glossary of Accounting Terms 471

Solutions to Questions 485

Index 543