Business strategy produces long-term plans for the business, taking into consideration plans and possible actions of competitors, the main objective being to position the firm so it has a competitive advantage' If management accounting is to play this role in strategic management, it must provide managers not only with internal, financial information, but also with information, both financial and non-financial, about the environment in which the firm is operating: strategic management accounting" (Lord, 2007, p.135).
Lord's reflections on management accounting portray current management perceptions about the discipline, as also the need for it to be relevant to formulation and implementation of organisational strategy.
Management Accounting is being used, since the early years of the 20th century, as an analytical and information tool for helping business managers in improving organisational performance and enhancing competitive advantage (Atkinson & Others, 2001). Whilst financial accounting is governed by uniform and widely followed rules and standards, and used for preparation of historical information for satisfying needs of external stake holders like share holders and bankers, management accounting is purely the preserve of internal managers. Management accounting output is prepared by internal employees often without interface with external auditors; it is meant for the use of internal managers at different levels and can be extremely flexible, in terms of content, as well as time frame (Atkinson & Others, 2001). It can cover all organisational activities and can focus on the past, the present, and the future of organisations, with equal felicity (Atkinson & Others, 2001).
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Traditional management accounting, despite such extensive freedom of scope, has remained for decades within the narrow confines of routine costing and budgeting applications (Shane, 2006). Whilst such preoccupation of management accounting with manufacturing, production and cost activities was possibly due to the dominance of manufacturing activity in western economies for much of the 20th century, its inability to change with the times and respond to evolution in the business and economic environment restricted its usage and limited its utility in business decision making (Shane, 2006).
The discipline came in for severe criticism by Kaplan and Johnson in 1987. The authors, in their book "Relevance Lost: The Rise and Fall of Management Accounting" stated that little change had occurred in design and operations of costs and management accounting systems for approximately 60 years, notwithstanding extensive evolution and alteration in organisational structure and nature, as well as in the dimensions and dynamics of business competition (Johnson & Kaplan, 1987).
Kaplan's scathing indictment of conventional management accounting was accompanied by a fervent plea for introduction of new approaches and generation of new concepts and ideas in management accounting (Atkinson & Others, 2001). Management accounting, to be truly effective for modern day managers, Kaplan stated, had to move beyond analysis of costs and budgets and constructively assist in formulation and implementation of strategy (Atkinson & Others, 2001). Kaplan's exhortations appeared to have met with considerable success as the following decade witnessed a surge in the introduction of new management accounting techniques like activity based costing, Just In time (JIT), and Total Quality Management (TQM) (Atkinson & Others, 2001). An important tool, the Balanced Score Card, was put forward by Kaplan himself, even as the concept of Economic value added (EVA) was introduced by Stern Steward and Company (Shane, 2006).
Such management accounting techniques, now collectively known as Strategic Management Accounting, (SMA), help organisations in aligning operational activity with strategic objectives. Much of contemporary strategic management theory has been pioneered by Michael Porter, who introduced the theories of the Five Forces Analysis and Competitive Advantage (Proctor, 2000). Porter stated that the extent of competition in an industry is dependent upon five specific factors, namely the extent of rivalry between market participants, the power of sellers, the power of buyers, the threat from new entrants and the threat from substitutes. In his theory of competitive advantage Porter makes the point that organisations can achieve competitive advantage only through cost leadership or differentiation (Porter, 1985). Apart from Porter's contribution to strategic management theory, the use of PESTEL, SWOT and 5C analyses also gained popularity as organisations realised that business success was closely dependent upon (a) careful examination and analysis of existing and projected, internal and external, environmental factors and (b) the strategic adoption of business paths that dovetailed internal strengths and attributes with existing and expected opportunities, taking care to simultaneously establish consonance with environmental trends and priorities (Proctor, 2000).
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Globalisation has added immensely to the complexity of planning and implementing strategy. Strategy formulation, especially for companies with international operations or those vulnerable to global developments, must take account of a range of environmental factors that include political and economic developments in distant regions, currency fluctuations, and external and internal cultural adjustments (Proctor, 2000).
Traditional management accounting, being restricted primarily to inward looking production oriented costing and rather arbitrary budgeting processes, is felt to be grossly inadequate in meeting the information needs of modern day managements, who need wider and specifically relevant information for formulation and implementation of strategic policies (Lord, 1996). Management accounting formats, experts like Lord feel, should be holistic in approach, and cover all strategic areas, rather than focus only on organisational revenues and costs.
With the performance of firms dependent upon the success of their chosen strategies, (like differentiation, scale economies and productivity improvement), chosen performance measures need to possess content validity in the context of adopted strategy; such measures must assess constructs that concern the mission and strategic agenda, the chosen strategies, the firm's vital success factors, and chosen operating variables (Simons, 2000). Constructs, as well as their measures also need to be causally linked. Systems for performance measurement, to be relevant, must explicitly include models of profit-generating practices, such that managerial action is accompanied with suggestions for performance improvement along the different dimensions in which such improvements could materialise (Simons, 2000). Suitable performance measures should finally possess adequate empirical measurement properties (Simons, 2000).
Strategic management accounting tools, it is felt, satisfy many of such requirements and can help organisational managements with performance measurement in the dimensions required to enable them to take appropriate course correcting measures for achievement of strategic objectives (Graunlund, 2007). The Balanced Scorecard, an important strategic management accounting tool, which was introduced by Kaplan and Norton in 1992, aims to measure strategic achievements of business firms through the use of performance metrics in four dimensions, namely financial performance, customers, internal processes and learning and growth. Apart from measuring financial performance in current terms, it assesses future readiness and efforts through three specific perspectives, i.e. customer, internal processes and learning and growth (Kaplan & Norton, 1992). The tool is balanced between four different perspectives and scores for financial and non-financial assessment, short and long term objectives, leading and lagging indicators, and internal and external performance (Kaplan & Norton, 1996). Whilst the balanced scorecard can help constructively in aligning strategic objectives through the organisation by allowing for cascading for each metric, from the top to lower levels, it works best in environments of clear strategic articulation and where firm-specific metrics are constructed and used (Proctor, 2000).
EVA, another important strategic management accounting tool, functions as a single measure that is value based and can be used to assess capital investments and business strategies, enabling managers to choose value enhancing activities and maximise shareholder wealth (David, 1997). The EVA induced focus on maximising shareholder value leads to overcoming of traditional measure challenges, arising from use of different measures for different functions, with mutually inconsistent standards and targets. EVA, unlike regular budgeting, focuses on end results and not means, because it does not specify how managers can enhance company worth as long as shareholder wealth is maximised (David, 1997). This enables managers to use their discretion and creativity, and avoid dysfunctional short term behaviour.
Whilst introduction of strategic management accounting is proving to be of increasing help in strategy formulation and implementation, its use is primarily being driven by IT and IT development partnerships between consultants, software developers and firms (Graunlund, 2007). Bespoke ERP systems, already in extensive use, are expected to help further in standardisation of data accumulation formats and reporting and in opening of fresh opportunities for tailoring of information in line with unique organisational needs that surface in decision situations (Graunlund, 2007).