Cost Centers And Managerial Control
rating: 0+x

Appropriate Information

  • Financial accounting is concerned with reporting what happened
  • Managerial accounting is concerned with what is planned and how to make it better by examining two types of information
  1. financial accounting data
  2. estimates about future costs and phenomena that will affect costs
  • This is not to say that information provided by the financial accounting system and which conforms to GAAP is not useful.
  • Rather it means that information developed for managerial accounting purposes must recognize that to properly inform decision making, managerial accounting must estimate future costs, which are related in different ways to past costs.
  • In addition financial information provided by financial accounting may not be detailed or granular enough to be used effectively by managerial accounting.

Purpose of Managerial Accounting

  • The purpose of managerial accounting, especially for non-profits and government entities is to add value for services provided.
  • That is, managers must continually seek to make the best use of resources at their disposal to provide services.
  • This increasing demand for accountability and efficiency is brought about by several factors, including:
    • Diminishing resources
    • Escalating costs
    • Increased competition in the information marketplace
    • Demands from various stakeholders and revenue providers for more effective management
  • This new regime seems to be more easily accepted in public and special libraries as opposed to academic libraries.
  • In academic libraries and in the academy in general, there is an increasing unease with what is loosely called the “corporatization” of the university. This perception in the academy as a whole directly affects the library and its operations.

Budgeting and Cost Accounting

  • We acknowledged earlier that the purpose of a budget is to ensure that spending not exceed appropriations or planned deficit spending
  • To do this we use variances in the budget (differences between what was budgeted and what was actually spent)
  • However, if we limit ourselves to only looking at the variances in our formal budget and go no further, we may be deceived.
  • If we had all favorable variances, we might conclude that our operations were sound
  • But having favorable variances says nothing about the quality of the services provided or the level of service provided
  • Appropriate cost accounting techniques can help library decision makers determine if the services they are providing are cost effective.
  • That is, are the resources used in providing services used in the most efficient and effective manner possible?
  • Of course basing decisions on cost figures alone is not sufficient. Social, moral, and political factors must also be considered.
  • Furthermore, budget variances only tell us that a budget was over or underspent. They tell very little about what something actually costs or how those costs can be controlled or how activities represented by that cost can be controlled.

Language of Cost Accounting:

  • Controllable and non-controllable costs – a controllable cost is one that can be affected by a manager taking a specific action. If a cost is not affected by a managerial decision it is uncontrollable.
  • standard costs versus actual costs – Standard costs are estimated future costs set at efficient levels that can be attained by employees; actual costs are based on actual expenditures and incurred when a transaction takes place
  • direct versus indirect or allocated costs – a direct cost is an actual cost directly attributable to the service provided, such as labor hours needed to catalog books; an indirect cost is also associated with providing a service, but is not directly attributable to the service provided, such as electricity, janitorial services, or administrative oversight
  • cost center – where direct costs for services and operations are accumulated and are controllable by the cost center manager
  • Usually direct costs are controllable costs.
  • Direct costs can legitimately affect performance evaluation of a manager because they can be controlled. But unless a manager can control the amount of electricity provided to his work area, then it would be inappropriate to evaluate his performance based on the library’s electricity bill
  • Fixed, variable and mixed costs – Fixed costs do not change with the level of activity, while variable costs do. Mixed costs have characteristics of fixed costs and variable costs.
  • Discretionary costs – costs based on discretion of management and not on analysis (e.g. travel).
  • Sunk costs – costs that cannot be changed, such as depreciation
  • Differential costs – important for decision making. These are differences in the costs of alternative future actions that can be made.
  • Value added vs. non-value added costs – Some tasks carried out are central to adding value to an activity, while others are not. The latter may have added value at one point, but they no longer do and therefore must be eliminated.

Cost Allocation

  • Besides determining the direct costs involved in providing a service, indirect costs are often allocated to specific activities or programs in order to get a more comprehensive view of the total cost attributable to that service.
  • There are many methods used to allocate indirect costs. These are widely used in industry where GAAP requires that indirect costs (overhead) be allocated to the units produced.
  • This mandatory use of indirect costs is not usually operable with library cost accounting.
  • The methods often used to allocate indirect costs are the direct method, the step method, and the reciprocal method.
  • Whatever method is used, the key thing is that the allocation base must reflect a cause-effect relationship.
  • For example, maintenance based on square footage, computer use based on CPU time
  • These methods differ to the extent that they account for service departments providing service to other service departments and to production departments.
  • Direct method – charges costs of service departments to user departments without making allocations between service departments.
    • Direct Method Example
    • In May the HR department processed 7 new hires. Three of these went to cataloging and 3 to reference and 1 to ILL. The cost of processing these hires was $7,000. The cost allocation would be:
    • Cataloging — $3,000
    • Reference — $3,000
    • Circulation — $1,000
    • This method is the most widely used. It ignores services provided to other service departments.
    • No costs are allocated from one service department to another.
  • Step method (aka Step down method) – recognizes that some services are provided by service departments to other service departments
    • Step Method Example
    • A service department allocates costs to another service department, but once it allocates costs, no other costs are allocated back to it.
    • Choice of which department to start is important. A change in which one you start with affects allocated costs to production departments.
  • Reciprocal method – recognizes all services provided by any service department, including services provided to other service departments.
    • Reciprocal Method Example
    • Most accurate because it recognizes reciprocal services provided to other service departments.
    • It is also the most complicated because it involves solving a set of simultaneous equations.
    • No example will be shown because of its complexity.

Summary of Rationale for Cost Accounting
Cost Accounting is useful for at least three important reasons:

  1. to provide more accurate cost information for services provided.
  2. to improve decisions about resource use
  3. to ration limited resources
Add a New Comment