Strategic Management Accounting

Keith Ward

• Publisher: Routledge
• Year: 2012
• Print ISBN:
  9780750601108
• eBook ISBN:
  9781136009297
• Topic: Business
• Subtopic: Accounting
• Index: Business

* Challenging and provocative book * Shows how management accounting techniques can be integrated into the strategic decision making process * Extensive use of practical examples from a variety of contexts.An introduction to business strategy for management accountants, financial accountants or managers with an accounting orientation. The book places management accounting clearly within the context of strategic management of the business. Offers qualified accountants a sound introduction to strategic management, and with practical examples and mini-cases provided throughout, this book is comprehensive yet concise. Keith Ward addresses strategic management accounting as a continuous process of analysis, planning and control. Management accounting is about supplying the right information to the right people at the right time, and this can only be expressed in the context of the business strategy and strategic plan. The implementation of appropriate management accounting systems to complement different strategies is discussed in detail. Applications and examples include multinational organizations, non-profit organizations and varying organizational structures. Finally the author covers methods of using management accounting for strategic advantage.

Part One

Linking Strategy and Management Accounting

1

Introduction and Overview

The title of this book, Strategic Management Accounting, can be restated as ‘accounting for strategic management’ or, somewhat more specifically, as ‘management accounting in the context of the business strategies being planned and implemented by an organization’. In order to make either of these restated wordings usable, it is necessary to define business strategy, strategic management, and also management accounting.

Strategic Management

Strategic management is normally regarded as an integrated management approach drawing together all the individual elements involved in planning, implementing and controlling a business strategy. Thus it clearly requires an understanding of the long-term goals and objectives of the organization (‘where it wants to go’). There must also be a comprehensive analysis of the environment in which the business both is and will be operating (‘where it is’). This analysis must include all the internal operations and resources (both existing and potential) of the organization but, equally importantly, must cover the external aspects of its environment. This includes competitors, suppliers, customers, the economy, governmental changes, as well as legal and other regulatory changes, etc.

This need to include, and indeed concentrate on, these many factors which are external to the organization is a major element which separates strategic management accounting from the other, more traditional, areas of accounting. These have all tended to focus almost exclusively on the internal operations of the organization and only incorporate its specific transactions with the outside world.

The combination of ‘where the organization is’ and ‘where it wants to go’ will normally identify the need for a series of actions to bridge the gaps between the two, or even merely to maintain the same position if the external environment is changing adversely. These ‘business strategies’ must be developed in the context of the internal and external environments so as to ensure that they are practical; if not the goals and objectives of the organization will remain a theoretical ‘wish list’ rather than an achievable plan for the business. For many large organizations it is also important that business strategies are developed at the appropriate levels within the organization: thus an overall corporate strategy is needed for the organization in total, with separate but linked competitive strategies for each subdivision of the business which is competing in different markets with different products. However so far these business strategies are only plans and the full process of strategic management includes the implementation of the selected strategies.

Some of the goals and objectives are long term, and the relevant strategies will be implemented in a dynamic and continually changing external environment. Therefore it is most unlikely that all the predicted outcomes from these action plans will be achieved. There is a need within any truly comprehensive framework of strategic management for a process of evaluation and control and also modification where necessary. Any such modifications may result in changes to the selected strategies but in some circumstances the organization may be forced to admit that its original goals and objectives are not attainable in the actual external business environment or with its available set of internal resources. Some of the objectives may have to be modified unless some way can be found of either making the environment more attractive or increasing available resources. Thus strategic management is a continual, iterative process, as illustrated in Figure 1.1 and discussed in more detail in Chapter 2. Accounting for strategic management must operate successfully in this changing, evolving environment if it is to make a positive contribution to the financial aspect of this strategic analysis, planning and control process. It is therefore necessary to select which aspects of the finance and accounting function are relevant for this strategic role.

Figure 1.1 Strategic management process

The role of management accounting

In most businesses it is normal to separate the financial function into three main roles which are primarily concerned with:

1. Recording the financial transactions of the business and externally reporting to shareholders and other interested groups the historic financial results of these transactions; ie financial accounting.
2. Raising the funds required by the business in the most appropriate manner: ie financial management (or corporate finance).
3. Supporting the managers of the business in their financial decision-making process and being part of that management team; ie management accounting.

Given the previous discussion on the role of strategic management it is obvious that the most appropriate area for involvement in this strategic role is management accounting. This separation of management accounting from financial accounting is fundamental in that it highlights that management accounting does not concentrate on recording past events or on presentation of externally published financial statements (and hence neither does this book!). However this should not be taken to indicate that strategic management accounting is not very closely concerned with the interests (ie goals and objectives) of shareholders (the owners of the business) and the other important stakeholders in the business (who are now normally considered to include debtholders, customers, suppliers, employees, government and the community, which may be represented by consumer groups and environmentalists).

Different Stakeholders

As indicated in Figure 1.2, all the relevant stakeholders in a business will influence the business strategy selected and implemented by the managers (who themselves form only one such group of stakeholders). The relative power of these constituent groups is very important and may change significantly over time or because of the particular strategic issue which is dominant at any particular time. Hence the selection of business strategies is not simply the province of the managers. It is also possible for conflicting sub-strategies to be imposed on a business by different stakeholder groups with differing and incompatible sets of priorities, as is illustrated below and in Chapter 2. In a company all these stakeholders have as their major source of financial information the legally required, published financial statements, but these indicate only the past financial performance and financial position of their business (as the statements only cover historic financial accounting periods and are published a considerable time after these accounting periods have ended). Most of this published information is only produced in summary form for the whole of each legal entity. In the case of very large, well-diversified, publicly quoted groups of companies, this summarized format may not be very informative to many of the interested stakeholders, who may prefer much more detailed information about a particular aspect of the business.

Figure 1.2 Stakeholders impacting on business strategies

However, for most of today’s companies the shareholders have delegated any immediate and detailed involvement to their ‘agents’, or more accurately in this case ‘stewards’, who are supposed to use their best efforts on behalf of their principals. Under this extremely important, and well documented, concept of ‘agency theory’ the ‘corporate stakeholders agents’ are the senior managers of the business, or directors of the company, who have complete day to day control, subject only to periodic reviews (primarily triggered by the external publication of financial results). Therefore managers should be taking into account the interests of shareholders and the other stakeholders when they are deciding on the long-term strategy of the business, and in the continuous implementation and updating of that strategy. The substantial role of management accounting in this strategic decision-making process also requires that the needs and wishes of outsiders to the management team are always borne in mind – particularly with respect to the risks associated with any specific decision and whether the corresponding level of expected return is acceptable. How this is practically done in the strategic planning process is considered in Chapter 2 and some of the financial implications are considered in Chapters 3 and 4. If managers forget their agency responsibilities to their key stakeholders (ie their principals), the ultimate sanction from any form of efficient financial markets is for the managers to lose their jobs. This may happen either because they are voted out of office by existing shareholders, or these existing shareholders become so dissatisfied that they sell their shares and so pass ultimate ownership control to another set of shareholders, who are quite likely to make significant changes in management. The sanctions available to all the other, non-owning stakeholders are generally more indirect, but their pressure can still have an ultimate impact on the financial results of the business and now they can apply more explicit legal constraints to managers. Even such indirect pressure can prove effective in the long-term, should management seriously abuse their delegated powers of authority.

These different stakeholder groups will have very varied, and possibly conflicting, areas of interest in the organization, and will wish to become involved in the business strategy in very different ways and to differing levels of detail. For example, the shareholders in a large, international, well-diversified conglomerate may have very little knowledge about, or even interest in, the specific businesses, products, markets and countries in which the group is involved. They may principally be concerned with the financial return which they receive in the form of dividends and capital gains, from what would probably be regarded as a low risk investment due to its well-diversified spread of interests. If the previously successful business strategy had involved acquisitions and disposals of businesses, even on a substantial scale, or large scale investments in new manufacturing facilities, it is likely that any new similar proposals would automatically be approved by these shareholders. This would appear to leave the business strategy clearly in the hands of the managers as long as they continue to perform well financially.

However, the attitude of employees to proposals regarding any potential acquisition and disposal of business units may be very different and in some cases could be critical to the actual strategy which is selected or to its ultimate level of success. Also suppliers and customers may pay particular attention to any strategic threats which could lead to the company becoming involved in their existing areas of trading, eg by vertical integration. Any significant competitors may also become important stakeholders who would try to influence the strategy decisions. This could happen if the company proposed strategic moves which were likely to upset an existing balance of power or equilibrium in the industry, eg by a large increase in capacity which could not be absorbed by expected future growth in industry demand. Where the strategy calls for large scale new investments or downsizing through closure of facilities, local and sometimes national governments will suddenly emerge as very interested stakeholders and try to influence the decisions taken by the managers. One of the problems which will be continually returned to throughout the book is that people, not organizations, take decisions. Consequently this issue of how decisions are taken can be critical, and the relative power of pressure groups can significantly influence the ultimate strategic decision.

In an ideal, theoretically sound world the application of agency theory would ensure that all managers made decisions in line with the goals and objectives of all the relevant stakeholders. These would have to be weighted by some appropriate factors reflecting the influence of the stakeholders and the strength, ie the degree of importance, attached by them to the particular objective under consideration. In the imperfect reality of strategic business decisions, it is important that due consideration is given to the interests of all significant stakeholder groups and that as many as possible of the potential implications are evaluated prior to implementing the strategic decision. Thus managers should aim to reflect the objectives of stakeholders. However, if the personal goals of the managers happen to concur with these stakeholder objectives, they are much more likely to be motivated to implement the strategy wholeheartedly.

Aim of Goal Congruence

As an example, the shareholders of a particular focused company may wish the managers to adopt a very high risk, high growth strategy which, if successful, will give very big financial returns to these shareholders, relative to their possibly quite small initial investment. If the strategy fails and the company is put out of business as a consequence, the shareholders may be able to offset their financial loss against gains made elsewhere in their investment portfolio. In other words they can diversify, and hence reduce, their risk, and should do so if individual investments are following high risk focused strategies. However if this high risk strategy fails, the managers may well find themselves out of a job and it is difficult for the managers to diversify their employment portfolios and thus reduce their own risks. The potential extra financial returns available to the managers from the complete success of this high risk strategy may be much smaller than are available to the shareholders and may therefore be insufficient to motivate them to take the risk involved in such a high growth focused strategy. This problem of goal congruence will also be addressed throughout the book but in particular in Part Three, which considers in depth the problems caused by different organizational structures.

In the simplest form of business where the owners are also directly involved as senior managers there should be no such conflict of interest, but for most medium and large enterprises, this has long since ceased to be the case. Indeed in the case of very large businesses, the problem is often increased due to another potential gap in goals and objectives between the top managers of the total business (eg the group board of directors) and the actual divisional and operating managers who, in a hierarchical sense, are the agents of the top managers. The achievement of this required goal congruence all the way through a large multi-tiered business is obviously very difficult and requires a clear focus on the key strategic issues at each level when developing the strategic management accounting system. The need for careful selection of individual management performance measures at all relevant levels which are in accord with the total business strategy is therefore a major task for any good management accounting system, and again indicates the interaction between management accounting and strategic issues, as shown diagrammatically in Figure 1.3.

Note: The direction of the arrows indicates the principal direction of influence or not of commumcation of information

Figure 1.3 Strategic issues and management accounting

Management accounting was also distinguished from financial management, which is primarily concerned with obtaining the required funding for the business in the most appropriate manner. Within the finance and accounting organizations of most large businesses, these roles are normally fulfilled by different people and, for operational day-to-day functions, this separation can be seen to be sensible as it builds on specific skill requirements. However, when the role of financial managers is considered in the context of the business strategy, a vital element is clearly the ability of the business to raise or retain the required funds to implement the desired strategy. If this proves to be impossible, the overall strategy will need to be modified to come into line with the available funding (now normally referred to as the concept of ‘affordability’) or the continued existence of the total business may be placed in jeopardy. This means that any sensible definition of strategic management accounting must include some aspects of ensuring that adequate funding can be made available as required by any new strategic moves of the business, as is shown in Figure 1.3. This more pro-active forward-looking form of financial management is part of what should be more accurately described as financial strategy. This is really a subject in its own right due to its ability to add considerably to the total value of the business. Consequently only some key, particularly relevant, issues from the subject will be addressed in this book.

Thus the role of strategic management accounting is very definitely not that of a passive, financial score-keeper or ‘bean-counter’ and is also not restricted to the more normally used definition of ‘management accounting’, with its concentration on supporting internally based financial decisions. It is a much more positive role of supporting the financial needs of management in their task of directing and controlling the business in the best interests of its owners and the other relevant stakeholders, and in Chapter 3 this role is considered in more detail.

Analysis, Planning and Control

Strategic management has already been characterized as an iterative process of analysis, planning and control, and management accounting can also be described in these terms, as is shown in Figure 1.4.

Figure 1.4 Management accounting process

It would be helpful if strategic manageme...

Table of contents

• Cover
• Half Title
• Title Page
• Copyright
• Contents
• Preface
• Part One: Linking Strategy and Management Accounting
• Part Two: Accounting for Competitive Strategy
• Part Three: Corporate Strategies - The Role of Strategic Management Accounting
• Part Four: Changing Strategies as Businesses Develop
• Part Five: Information Requirements for Strategic Management Accounting
• Index