strategic accounts management

7/30/2019 Strategic Accounts Management

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Assignment for StrategicManagement Accounting.

Word count - 2300 words

UNIVERSITY OF SUNDERLAND

January 7, 2013

Subject Leader: John Davison

Ashley Taylor (BG36SI)


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ContentsIntroduction ............................................................................................................................................ 2

Questions ................................................................................................................................................ 3

1.1 Supply and demand ...................................................................................................................... 4

1.2 Price elasticity of demand ............................................................................................................. 5

1.2.1 Price elastic ............................................................................................................................ 5

1.2.2 Price inelastic ......................................................................................................................... 6

1.3Market structure. ........................................................................................................................... 6

1.3.1 Perfectly competitive market ................................................................................................ 6

1.3.2Price setters ............................................................................................................................ 7

1.3.3Price takers ............................................................................................................................. 7

1.4Pricing models and concepts ......................................................................................................... 8

1.4.1 Cost plus pricing ..................................................................................................................... 8

1.5 Pricing policies .............................................................................................................................. 9

1.5.2 Price skimming ..................................................................................................................... 10

2.1Costing ......................................................................................................................................... 11

2.2 Standard costing ......................................................................................................................... 11

2.2.1 Historic Standards ................................................................................................................ 122.2.2 Engineering studies .............................................................................................................. 12

2.2.3 Standard hours produced .................................................................................................... 12

2.2.5 Limitations of standard costing ............................................................................................ 13

2.3 Variance analysis ......................................................................................................................... 13

Question 3 ............................................................................................................................................. 16

3.1 Current: Absorption costing ....................................................................................................... 16

3.2 Proposed: Activity based costing ................................................................................................ 17

3.4 Reasons to update costing system .............................................................................................. 17

Conclusion ............................................................................................................................................. 21

Appendices ............................................................................................................................................ 22

Appendix 1 ........................................................................................................................................ 22

Bibliography .......................................................................................................................................... 23


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Introduction

As financial director of Manac plc I have produced a 3000 word report which is the basis on a full

review of variances. The report will address pricing strategies and costing systems. The aim of this

report is to increase the boards understand of the forthcoming investigation. The information

provided should be used as a basis for the board of control to make strategic decisions to help with

the current failure of Manac plc to meet forecasts.


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Questions

Questions

Question 1-

Report on the models and concepts affecting the pricing decisions

taken by organisations, critically reflecting upon their usefulness.

There are many accounting models that aid the pricing decision process however none are

to be taken as the sole catalyst for decision making. Managers should only use these models

as part of a mix of sources that provide an overall view on the best pricing decisions to be

made for the organisation.

There are three main considerations when selecting a products price they are; supply and

demand price elasticity of demand and market structure


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1.1 Supply and demand

In an equal market customers will demand more at lower prices and less at higher prices

however suppliers are more willing and able to supply more at higher prices. The

equilibrium price is at the meeting point of the supply and demand graph shown below. This

is the ideal price for the product; this usually represents the selling price in a perfectly

competitive market. (Mowen, 1999)

(Gaian, 2011)


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1.2 Price elasticity of demand

There are two out comes in price elasticity; price elastic or price inelastic. These represent the effect

price changes have on demand in certain markets.

1.2.1 Price elastic

When changes in price are matched by equal or greater changes in demand the market or product is

price elastic. The graph below is a representation of elastic demand.

(Riley, 2012)

Price elastic products account for almost all of the products in a perfectly competitive market.


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1.2.2 Price inelastic

Price inelasticity is when the percentage of demand change is less than the percentage change in

price. As shown in the below graph.

(Riley, 2012)

1.3Market structure.

It is also important to identify the structure of the market. To do this Manac must look at the market

they trade in and examine the competition they encounter. It is possible to assume that given the

standard products Manac produce, in a popular market, they operate in a market that behaves close

to a perfectly competitive market.

1.3.1 Perfectly competitive market

The perfectly competitive market has many buyers and sellers - No one of which is large enough to

influence the market- a homogeneous product, and easy entry into and exit from the industry.

(Mowen, 1999, p. 790)


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Upon the recognition of the supposed market structure it is again possible to assume that Manac plc

are price takers. As section 1.2.1 states this is standard in a perfectly competitive market as no

companies in within market will have enough power to effect the market price. This knowledge gives

the company a scope as to where they stand in the market and a good idea of the power (or lack of)

they have over the market selling price of their products.

Although the assumption is that Manac plc are price takers it is possible that the organisation adopts

different roles in different market. This is down to the range of products sold across a number of

countries making it difficult to apply just one principle to the many markets Manac will operate in.

1.3.2Price setters

Price setters are in a position to impose their own price onto the market. This occurs when there is

little in the way of competition or the product/service being offered is unique or customised. When

an organisation is a price setter they rely heavily on information surrounding

1. The cost to produce the product2. The actions of competitors3. Extent the customers value the product

(Drury.C, 2009)

1.3.3Price takers

Price takers unlike price setters must take prices that are set by the market and have little choice

when it comes to deciding the selling price of their products. Price takers need to rely less on

information on the perceived value of their product as this information is given by the market

however they must ensure their costs are below this value to be profitable. Given that Manac plc

produce and sell standard products they are very much price takers


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1.4Pricing models and concepts

1.4.1 Cost plus pricing

Alan Upchurch simplifies cost-plus pricing by stating that The pricing decision can be reduced to

determination of unit cost and addition of a profit mark up (1998, p. 238)

Full Cost plus pricing is the pricing process of calculating the cost to produce the product(using

absorption and standard costing in the cast of Manac plc) to provide a base which is then added to a

mark-up value to elect the selling price of the product.

Usefulness

It can be seen as a more ethical method creating prices that are easily justifiable. If sales meet or exceed the forecast the product is shielded from a loss.

Limitations

Cost plus pricing does not seek to identify the selling price that will optimise profits. If sales falls below the forecast then the price per unit is likely to increase meaning that the

sales may not cover the fixed costs.

Cost plus pricing does not take into consideration the fluctuations in price and cost as aproduct progresses through the product lifecycle model.

1.4.2Target costing

Target costing is a method of determining the cost of a product or service based on the price (target

price) that customers are willing to pay (Hansen, Mowen, 1997)


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This definition simplifies target costing well but fails to mention the profit margin which a company

a is likely to expect. A company will be likely to determine the cost of the product based on the price

minus a profit margin. The price a customer is willing to pay can be determined either by using

market research or benchmarking against the current market price.

Usefulness

Target costing will give an early indication as to whether the product is feasible. It will also ensure the product is priced to sell.

Limitations

From when the target price is set the reengineering of the product may result in the productbeing of a lower value than that originally targeted.

The need to reduce cost could give the temptation for companies to use unethical measuresof production.

1.5 Pricing policies

1.5.1 Product lifecycle

Sales should be adapted at each stage of the product lifecycle, when a product is in its introductory

stage companies can take one of two approaches, Price skimming or penetration pricing. Later in

growth and maturity appropriate pricing policies must be used to maintain sustainable profitability

and in the decline phase the company should employ a profit maximisation strategy to draw all

remaining profit from the market.


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(Wesley, 2010)

1.5.2 Price skimming

Price skimming is a way of exploiting new markets that are price inelastic by charging premium

prices to make large profits in the early stages of a new product. This method is only affective in a

monopolistic market and aims to target the innovative customers, who like to be at the forefront of

technology or fashion.

1.5.3 Penetration pricing

Penetration pricing aims to sell new products for a lower price in order to gain a large market share.

This is more appropriate in a competitive market, where customers tend to be loyal to one brand.


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Question 2

Report on the role of standard costing and variance analysis in

management accounting and a critical discussion of the value and

limitations of variance analysis as a means of identifying key areas

which have contributed to the overall profit margin.

2.1Costing

It is vital for a company to record its costs in order to remain competitive. Recording and

analysing costs makes it possible to monitor the efficiencies of internal operations as well as

select an appropriate pricing strategy. Without showing adequate attention to costing

companies run the risk of allowing costs to creep up to and over the break-even level.

In order to keep track of costing companies must abide by a budget however a budget alone

will give very broad information. This makes it difficult to complete more detailed inquiries

into issues that are arisen. In order to create a more detailed account of costs companies

tend to use standard costing.

2.2 Standard costing

Standard costing is a way of micro managing a budget. Rather than set a budget for a

department, standard costing sets standards for individual products. It is used as a tool to

compare usage of labour, material and other controllable expenses against a standard, in


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order to identify the efficiency of each process; this is calculated on a per unit basis.

Standard costing is an anticipated target cost for each individual product and will be based

on either historical data or engineering studies.

2.2.1 Historic Standards

The first approach, historic costing is the technique of using previous data to forecast future

standards. This approach is cheap and easy to implement but comes with many drawbacks.

One drawback is that any mistakes made in previous operations are likely to be repeated;

another is that this approach does not take into consideration fluctuations in the market.

2.2.2 Engineering studies

A more effective yet costly method of standard costing is to use engineering studies to

create a standard way of completing a task through scientific investigations (usually by

experts in the area). This can show either the ideal standard, which is the most efficiently a

product can possibly be produced, or the attainable standard, which shows how efficiently a

product can be produced under more realistic circumstances. Both can be used as tools to

motivate management however when using the ideal standard employees can become

demotivated due to the impossible nature of the target.

2.2.3 Standard hours produced

Standard hours produced are an output measure that can act as a common denominator for adding

together the production of unlike items (Drury.C, 2009) This allows the production of dissimilar

items to be compared.


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2.2.4 Usefulness of standard costing

The standard costing technique comes with many uses, the main one for Manac plc is to

supply information with which to base the pricing policy of the organisation. As well as this

information can be used to; set targets for staff and managers, identify problems early and

provide accessible and reliable information in the decision making process. It also means

costs can be traced to responsibility centres and when standard costs are compared to

actual costs it is possible to analyse variances and direct corrective action or commendation

where appropriate.

2.2.5 Limitations of standard costing

Along with its many benefits standard costing comes with many drawbacks; the main limitation of

standard costing is the difficulty and expense to establish effective standards. Also if standards are

inaccurate they will cause many problems including demotivation. In relation to this if the standard

is not updated regularly they will become outdated and provide inaccurate data. Another great

limitation is the need for the production process to be repetitive and standardised, making it

impractical for customised products or services.

2.3 Variance analysis

When standard costing is compared with the actual costs that occur it is possible to derive a

variance. The variance is the difference between the standard cost and the actual cost; the variance

can be favourable or adverse. Variances can also be found in other areas of the business that affect


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profit. Appendix 2 shows a useful variance diagram which breaks down the key factors that

contribute towards profit.

Variance analysis is a key tool to help identify what each areas of the company has contributed

towards the profit margin. However variances analysis is not always the best method for this. It is

important to evaluate many models for each company to decide which models suits best.

2.3.1 Evaluation of variance analysis as to tool to identify key areas that contributes

towards the overall profit margin

Identifying areas that overrun or come under budget

Variance analysis separates areas of the organisation that are achieving or failing. This stops one

areas overachieving masking anothers shortcomings. Thus giving the organisation the knowledge of

where to apply corrective procedures.

Placing responsibility

Variance analysis allows each individual process to be traced to its responsibility centre. This

information however must be duly investigated as some areas may affect others. For example; A the

material purchasing team may decide to purchase cheaper materials, this will result in their centre

having a favourable variance, which may in turn result in the production team creating more waste

resulting in them having an adverse variance. In a case where this is not correctly investigated

corrective action will be focused in the wrong area.

Qualitative factors

Variance analysis gives raw data that could lead to misleading representations. The data does not

give information on any qualitative factors that come as a result of variance fluctuation. For example


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the purchasing department may cut costs by 10% by buying materials from Bangladesh. As a result

sales may drop by 12% because customers are unhappy with the ethical implications this brings.

On the face of these variances it would seem that the purchasing team have overachieved and the

sales team underachieved but in reality the purchasing team have triggered the drop in sales.

Variance analysis is a powerful tool when used correctly, it can give a break down on which areas

have contributed towards the profit margin and make it clear who is responsible for failure or

success. However it is vital that information is correctly investigated before any assumptions are

made. Variance analysis does give less attentive managers a foundation to make costly assumptions

but when used correctly can be a very useful.


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Question 3

The advantages and disadvantages of introducing an activity based

costing system to replace their current absorption costing system.

One way for Manac plc to increase profits within the organisation is to reduce costs. To do this the

costing system that best suits the organisation must be employed. Currently Manan plc uses an

absorption costing system. This costing system dates back to a bygone era of production which could

be the reason Manac plc is not meeting its budgeted profits. A healthy migration to a more

modern activity based costing system could therefore be the solution.

3.1 Current: Absorption costing

Cost centre overheads are usually absorbed to production by means of a pre-determined rate,

applied to cost units passing through each cost centre. (Pizzey, 1980)

The costing of products and services to include both direct and indirect costs of production(Gowthorpe.C, 2005)Absorption costing allocates fixed costs on a per unit basis; this ensures the company is making

allocations for fixed costs. Any fixed costs that are not absorbed will be debited on the costing profit

and loss account at the end of the annum. Similarly fixed costs which have been over allocated will

be credited to the costing profit and loss account.

Example of absorption costing

(Pizzey, 1980)


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3.2 Proposed: Activity based costing

Michael Morrow (1992, p. 63) denotes activity based costing as no more or less than a more

meaningful way of understanding the way in which resources are consumed in manufacturing a

product.

The activity based costing system allows companies to allocate fixed and variable costs to activity

cost centres, allowing for costs to be traced to individual activities.

Drury (2009, p. 196) breaks down the designing of an ABC system into four stages

1. Identifying activities2. Assigning costs to activity cost centres3. Selecting appropriate cost drivers for assigning the cost of activities to cost objectives4. Assigning the cost of the activities to products

3.4 Reasons to update costing system

Labour accounting for less of the overall costs When traditional costing systems, includingabsorption costing, where introduced indirect costs accounted for a much smaller

percentage of overall costs. For this reason there was less emphasis needed on the

allocation of fixed costs.

International competitionDue to globalisation companies need to react quickly tochanges in the market. Eastern countries are now able to produced goods cheaply at low

cost so it is vital to keep up to date with the latest and more affective procedures.


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Technology changes - Particularly in the electrical goods market product lifecycles aredeclining rapidly. This forces companies to have a good understanding of cost data to ensure

their products gain the most short term profit.

Increasing product rangeIn the electrical goods market companies have an ever increasingrange of products. This makes it difficult for management to understand the profitability of

individual products without each having detailed cost information.

3.5 Advantages of introducing activity based costing

Identify unprofitable productsWith each product having its own cost pool it is possible toidentify a more accurate cost for each product. As Shillinghaw (1987, p. 9) reiterates more

costs can be linked clearly to individual products

On the basis of this information the company is then able to make decisions on whether to

discontinue or redesign this product.

Resource allocation - When identifying the profitability of products it is then possible toallow the more profitable products more of the resources.

ControlActivity based costing can give a broad scope of control on departments as well asa more narrow scope to control individual activities. This allows the company to react to

market fluctuations much more quickly.

Finding none value adding activitiesBecause each activity has its own individual standardit is possible to look more closely into the necessity of activities.

Shows truer information on batch productionsIn traditional systems the fixed costs willbe spread out over each product. This can lead to misleading information.

For example; if there are two production lines. Production line A and production line B that

both have fixed costs of 100 each and a variable cost of 2 per unit. production line A


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produces 100 units and production line B 50 unit. Under absorption costing both production

lines will carry the same costs, however in ABC the fixed cost will be allocated separately

meaning that production line As cost per unit is 3 and production line Bs cost per unit is

4.

3.6 Disadvantages of introducing Activity based costing

Tracing activity costsIt is difficult to assign every overhead cost meaning some must beleft unaccounted for. If Manac plc have a great number of these costs ABC will no longer be

a beneficial method to increase profits.

CostIn comparison to absorption costing ABC is a very expensive costing system. Difficult transitionThe transition to an ABC system a very long and difficult process. The

retraining of staff and need for new Information systems will also create additional

expenses.

Although ABC comes will major advantages to cost control it comes at a great cost. This makes it

important for Manac plc to assess whether the additional costs will be accounted for by the benefits

ABC brings. Drury shows a simply model which shows which costing system is best for which

organisation.


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Traditional costing system would be best for companies that have:

1. Low level competition.2. Non-volume-related indirect costs that are low in proportion of total indirect costs.3. A fairly standardized product range all consuming organizational resources in similar

proportions(Drury.C, 2009)

Activity based costing systems would be best for companies that have:

1. Intensive completion2. Non-volume-related indirect costs that are a high proportion of total indirect costs3. A diverse range of products, all consuming organizational resources in significantly different

proportions(Drury.C, 2009)

It is down to Manac plcs board of directors to decide where they feel there organisation sits on this

model.


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Conclusion

It is important that Manac plc asses all avenues before assuming that the only way to increase

profits is it increase sales. Before manac plc choose their pricing strategy they must decide where

they sit on the market and which market they are in. After this they can asses different pricing

models. Another way for Manac plc to increase profits is to reduce costs. Standard costing and

variance analysis allows companies to see which areas of the business are achieving or failing. A

more detailed account on costs may be the answer with an introduction of an activity based costing

system.


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Appendices

Appendix 1

1. Standard cost (SC) = Standard price (SP) x Standard quantity (SQ)2. Actual cost(AC) = Actual price (AP) x Actual quantity (AQ)3. Total Variance = (SP x SQ) (AP x AQ)4. Price/rate variance = (SP-AP) x AQ5. Quantity variance = (SQ AQ) x SP(Abraham.A, 2003)


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Bibliography

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