Management accounting is concerned with the provisions and use of accounting

information to managers within organization, to provide them with the basis in

making informed business decisions that would allow them to be better equipped in
their management and control functions. Unlike financial accounting information,
management accounting information is used within an organization “typically for
decision-making” and is usually confidential and its access is available only to a
selected few.

The Chartered Institute of Management Accountants (CIMA), “Management

Accounting is the process of identification, measurement, accumulation, analysis,
preparation, interpretation and communication of information used by management to
plan, evaluate and control within an entity and to assure appropriate use of and
accountability for its resources."

"A management accountant applies his or her professional knowledge and skill in
the preparation and presentation of financial and other decision oriented information
in such a way as to assist management in the formulation of policies and in the
planning and control of the operation of the undertaking." Management Accountants
therefore are seen as the - "value creators" among the accountants.

Management Accounting employs three principles

1. Forward looking principle
2. Target setting principle
3. The principle of exception
Objectives of Management Accounting are:
1. Planning and Allocation
2. Organize
3. Review
4. Report
Advantages of M Accounting
1. The main contribution of management accounting is the elimination of
initiative management. With the help of management accounting, the business
activities are regulated systematically by means of efficient planning and
organization; thereby avoiding over working in busy periods and slackness in
slump periods.
2. It enables the business to get the maximum return on capital by helping it in
planning, distributing and controlling activities.
3. It helps the management to improve its service to its customers by resorting to
a continuous method of comparing the results with the standards.
4. It helps in improving the relations between the management and labor by
avoiding unreasonable standard of work which is the main cause of labor
unrest.
Planning may be defined as the thinking process that precedes action and is directed
towards making decision now with the future in mind.

Organizing involves setting up the administrative structure for implementing strategic

decisions.

A cost is the amount of resources given up in order to receive some goods or services
and represents future economic benefit to a company.

Fixed costs are those which do not change with the level of activity within the
relevant range. These costs will be incurred even if no units are produced. For
example rent expense, straight-line depreciation expense, etc.

Variable costs change in direct proportion to the level of production. This means that
total variable cost increase when more units are produced and decreases when less
units are produced. Average variable cost i.e. variable cost per unit is constant
Mixed costs or semi-variable costs have properties of both fixed and variable costs
due to the presence of both variable and fixed components in them. An example of
mixed cost is telephone expense because it usually consists of a fixed component such
as line rent and fixed subscription charges as well as variable cost charged per minute
cost. Another mixed cost example is delivery cost which has a fixed component of
depreciation cost of trucks and a variable component of fuel expense

Manufacturing Cost: this involves those costs that are related to the production of
the product or services. Material, labor wages, depreciation of the factory machinery
etc are examples of manufacturing costs.

Non- manufacturing costs: All other costs not related to manufacturing like
administration, selling and marketing costs fall in this category.

Product Costs: occurs when the product or service is been produced. Examples are
material, labor wages, indirect material etc.

Period Costs: these costs are not primarily related to production and occur on
periodic bases. Examples are rent of the office building, depreciation of the office
machinery etc.

Direct material, direct labor and direct expense comprise the prime cost of a product.

Direct labor and factory overhead costs are called conversion costs or processing
costs

Controllable cost is an expense that can be increased or decreased based on a

particular business decision. Controllable costs can be altered in the short term
Uncontrollable cost is a cost that cannot be increased or decreased based on a
business decision.

Sunk costs: These are costs that were incurred in the past. Sunk costs are irrelevant
for decisions, because they cannot be changed.

Committed costs are those costs for which a legal obligation to pay exists (e.g. a
purchase order / a signed contract etc). A cost is incurred when the related services
and works are performed, or, in the case of supplies, the supplies have been used for
the purposes of the Action

Differential costs or incremental costs: A differential cost is the amount by which the
cost differs under two alternative actions.

Economists define opportunity cost as the benefits forgone by not adopting the next
best alternative, where “benefits” can relate to any economic benefits, not only cash.

Cost behavior information allows managers:

• To prepare budgets
• To predict cash flows
• To plan dividend payments
• To establish selling prices

A cost driver is a variable, such as the level of activity or volume that casually affects
costs over a given time span.

Relevant range is the band of normal activity level or volume in which there is a
specific relationship between the level of activity or volume and the cost in question.

Bank’s budget is comprised of the following drivers:

1. Total Revenue, comprising of:

a. Revenue from funds, such as advances, export refinance, markup
receivable, treasury lending, treasury bills,
b. Revenue from inter branch borrowing
c. Commission income, import, export, guarantee, remittance, collection
charges
d. Exchange income from treasury and branch operations
e. Other income, dividend income, ATM transaction fee, rent income, loan
processing fee, online transaction charges etc.
f. Recoveries
2. Total Expenses, comprising of:
a. Cost of funds
b. Expense related to inter branch borrowing
c. Staff payments
d. Premises cost
 e. Other administrative expenses
f. Advertisement expense
g. IT expense
h. Write-offs/ provisions

Benefits of Budgets
1. Planning
2. Coordination & Communication
3. Authorization
4. Motivation
5. Forecasting

Budgetary control: Managers at each level of accountability monitor the outcomes of

their activities and compare actual performance with planned outcomes. The process
of comparison is called variance analysis.

Transfer price is the price one subunit (department or division) charges for a product
or service supplied to another subunit of the same organization.

Four criteria to evaluate transfer pricing are:

a. Transfer prices should promote goal congruence.
b. They should motivate a high level of management effort. Subunits
selling a product or service should be motivated to hold down their
costs;
c. Subunits buying the product or service should be motivated to acquire
and use inputs efficiently.
d. The transfer price should help top management evaluate the
performance of individual subunits.

FTP can also be defined as an internal measurement framework designed to assess the
financial impact of a bank's sources and uses of funds.

Operating leverage is the ratio of a company's fixed costs to its variable costs

Financial Leverage (sometimes referred to as gearing) is the degree to which an

investor or business is utilizing borrowed money.

The weighted average cost of capital (WACC) is the rate of return that the providers
of a company’s capital require, weighted according to the proportion each element
bears to the total pool of capital. It gives companies an insight into the cost of their
financing, can be used as a hurdle rate for investment decisions. WACC is a rough
guide to the rate of interest per monetary unit of capital

Credit scoring is a useful tool in setting an appropriate default premium when

determining the rate of interest charged to a potential borrower. Risk-based pricing is
setting this default premium and finding optimal rates and cut-off points results.
Banks that use risk-based pricing can offer competitive prices on the best loans across
all borrower groups and reject or price at a premium, those loans that represent the
highest risks.
Interest rate risk
It is the risk that an investment's value will change due to a change in the:
1) Absolute level of interest rates,
2) In the spread between two rates,
3) In the shape of the yield curve or in any other interest rate relationship.

Banks face four types of interest rate risk:

Basis risk: It is the risk presented when yields on assets and costs on liabilities are
based on different bases, such as the London Inter-bank Offered Rate (LIBOR) versus
the U.S. prime rate.

Yield curve risk: It is the risk presented by differences between short-term and long-
term interest rates. Short-term rates are normally lower than long-term rates

Re-pricing risk: It is the risk presented by assets and liabilities that re-price at
different times and rates

Option risk: This risk is presented by optionality, which is embedded in some assets
and liabilities. Option risk is difficult to measure and control.

Types of interest rates

Nominal Interest Rate: It is the interest rate unadjusted for inflation
Effective Annual Interest rate: It is an investment's annual rate of interest when
compounding occurs more often than once a year
Real Interest Rate: It is an interest rate that has been adjusted to remove the effects
of inflation to reflect the real cost of funds to the borrower, and the real yield to the
lender.
Real Interest Rate = Nominal Interest Rate – Inflation

Components of interest rate

Interest rates are the "price" that lenders charge for lending their money to borrowers.
There are five major components to investor’s required rate of return, each reflecting a
form of compensation to the lender.
1. The Real Risk-free Interest rate
This is the rate to which all other investments are compared. It is the rate of return an
investor can earn without any risk in a world without inflation.

2. An Inflation Premium
This is the rate that is added to an investment to adjust it for the market’s expectation
of future inflation.
3. A Liquidity Premium
This is the rate that is added to an investment to adjust for the belief that investors are
not going to pay the full value of the asset if there is a very real possibility that they
will not be able to sell the stock or bond in a short period of time because buyers are
scarce. Liquidity premium is expected to compensate them for that potential loss.
4. Default Risk Premium
This depicts the fact as to how likely do investors believe that a company will default
on its obligation or go bankrupt.
5. Maturity Premium
Maturity risk refers to the risk that is associated with uncertainty of interest rate.
Maturity risk premium depends on the maturity of the bond. The longer it takes, the
higher the amount of premium. The purpose of maturity risk premium (MRP) is to
raise the interest rates specifically on long-term bonds as compared to the short- term
bonds.

Financial forecasting: is the process of estimating future business performance

(sales, costs, earnings). Corporations use forecasting to do financial planning, which
includes an assessment of their future financial needs. Forecasting also is important
for production planning, human resource planning, etc. Forecasting is also used by
outsiders to value companies and their securities.

Financial forecasting is important for several reasons. First, it enables management

to change operations at the right time in order to reap the greatest benefit. It also helps
the company prevent losses by making the proper decisions based on relevant
information. Organizations that can create high quality and accurate forecasts are able
to see what interventions are required to meet their business performance targets.

Forecasting is also important when it comes to developing new products or new

product lines. It helps management decide whether the product or product line will be
successful. Forecasting prevents the company from spending time and money
developing, manufacturing, and marketing a product that will fail.

Kaizan costing is a system of cost reduction to maintain present cost levels for
products currently being manufactured via systematic efforts to achieve the desired
cost level. The word kaizen is Japanese’s word meaning continuous improvement.

Capital Budgeting is a process by which investors determine the value of a potential

investment project. The three most common approaches to project selection are
1. Payback Period = Initial Investment/Periodic Cash Inflows
2. Internal Rate of Return
3. Net Present Value
Numeric Formulas

1. Cost Calculation via High low Method

Variable Cost per Unit= (High Activity Cost – Lowest Activity Cost)
(Highest Activity Units-Lowest Activity Units)

Fixed Cost = High Activity Cost – (Variable Cost per Unit* Highest Activity Units)

Cost = Fixed Cost + Variable Cost(Quantity)

2. Loan interest rate = Cost of Fund Rate + Administrative expenses Rate+

Risk premium + Target profit rate
3. Real Interest Rate = Nominal Interest Rate – Inflation

4. Materials price variance = (standard price/unit – actual price per unit) x

actual quantity purchased
= (SP-AP) x AQP
5. Materials usage variance = (standard quantity required – actual quantity
used) x standard price
= (SQ-AQU) x SP

6. Wage rate variance =(Standard wage rate per hour – actual wage rate) x
actual hours worked
= (SR - AR) x AH
7. Labor efficiency variance = (Standard labor hours for actual production –
actual labor hour worked) x standard wage rate per hour
= (SH - AH) x SR

8. Break-even Units = Fixed Cost/(Sale Price-Variable Cost)

9. Margin Of Safety Units = Total Sales Units-Break-even Units

10. Cost of Goods Manufactured (COGM) = Direct Material + Direct Labor +

Opening WIP Inventory – Closing Opening WIP Inventory

11. Cost of Goods Sold (COGS) = Direct Material + Direct Labor + Opening WIP
Inventory – Closing Opening WIP Inventory + Opening Finished Goods Inventory –
Closing Finished Goods Inventory

12. WACC = We*Re + Wp*Rp +Wd*Rd(1-T)

 Increase Decrease
Asset Debit Credit
Liability Credit Debit
Income/Revenue Credit Debit
Expense Debit Credit
Equity/Capital Credit Debit