Module 1 Strategy, management accounting, and decision making

Overview
 Strategy
 SWOT & PEST analyses
 The management accountant’s role
 Planning & control / cost analysis
 Decision framing / linear programming
 Ethics
What is Strategy?
 Defined as the plan(s) to achieve organizational goals and objectives.
 A firm develops its strategies by matching its organizational capabilities with
industry opportunities.
 Different firms will have different strategies.

Strategies
 Strategies can be found at wo levels:

Corporate level strategies (macro)

 Focuses on where to compete
– What industries should we be in?
– Where should it be?
– What mix of business should we have?
– How much resources do we wish to deploy among those businesses?
– How should it be organized?
– What relationships should it have with other firms?
–

Business unit strategies (micro)

 Focuses on how to compete.
– What competitive advantage should the business develop or maintain to
compete?
 Two most common strategies:
– cost leadership – being the lowest cost provider
e.g. Walmart, Costco, Ikea
- focus on cost, efficiency, and time
– Leads to lower selling prices

– product differentiation – product is perceived as unique or superior.

eg. Mercedes Benz, Nike, Mcdo, FedEx
- focus on quality and innovation
- Leads to brand loyalty and the willingness of customers to pay higher prices
focus – concentrating on a limited part of the market
eg. PepsiCo
 Strategies

• Successful organizations will possess a “competitive advantage” — a term

that describes anything a firm does especially well compared to its rivals.
• How do we determine where a firm stands in its industry?
• Manager can use Porter’s Five Forces model to better understand the industry
context in which the firm operates.
•
Porter’s Five Forces
• Michael Porter is a professor at Harward Business School.
• Per Porter, a firm’s success in strategy rests upon how it positions itself in
respect to its environment.

- Competition in the industry - the number and capability of competitors in the

market
- Potential of new entrants into the market – are there strong barriers to entry
- Power of suppliers - how easy is it for suppliers to drive up prices
- Power of customers - how easy is it for buyers to drive prices down
- Substitute products – what likelihood of customers switching to alternatives

• Competition means the intensity of competition among the existing competitors

in the market - depends on the number of competitors and their capabilities.

- Industry rivalry is high when:

 Number of small or equal competitors (no market leader)
 Customers have low switching costs
 Industry is growing
 Exit barriers are high and rivals stay and compete
 Fixed costs are high resulting huge production
• Bargaining Power of Buyers refers to how much power buyers have to drive
down your products price
- Buyers have more bargaining power when:
 Few buyers chasing too many goods
 Buyers can purchase in bulk quantities
 Products are not differentiated
 Buyer’s cost of switching to a competitors’ product is low
 Shopping cost is low
 Buyers are price sensitive

• Bargaining Power of Supplier refers to much control suppliers have over

increasing the price of supplies.
- Suppliers are more powerful when:
 Suppliers are concentrated and well organized (e.g. OPEC- Org of Petroleum
Exporting Countries)
 Few substitutes exist
 Their product is the most effective or unique
 Switching cost, from one supplier to another, is high
 You are not an important customer to Supplier

• Threat of new entries to the market depends upon ease of entry to the
market.
- Threat of new entry is high when:
 Capital requirements are low
 Few economies of scale are in place
 Customers can easily switch (low switching cost)
 Your key technology is not hard to acquire or isn’t protected well
 Your product is not differentiated

• Threat of substitute products refers to how easily your customers can switch
to another product.
- Threat of substitute is high when:
 There are many substitute products available
 Customer can easily find the product or service that you’re offering at the same
or less price
 Quality of the competitors’ product is better
 Substitute product is offered by a company earning high profits which can drive
prices to the lowest level
• Depending on the relative strength of the five forces, the key strategic issues
facing an organization will differ from one industry to another.
• Understanding the nature of each force helps an organization formulate
effective strategies.
• It can be used to identify areas of strength, to improve weaknesses, and to
avoid mistakes.
• The five forces analysis should be the starting point to develop an
organization’s competitive advantage.
 SWOT Analysis
• When determining corporate strategy an environmental scan is conducted
• What are the internal Strengths and Weaknesses of the organization?
• What external Opportunities and Threats in relation to the five forces that could
significantly benefit or harm an organization in the future.

• Opportunities and Threats are generally beyond the control of any one
organization. – Competitors, market, or economy
 Eg. Reduction in trade barriers, new scientific discoveries, new technology
 Eg. Change in government, shift in demographics or consumer tastes

• Strengths and Weaknesses are determined relative to competitor

• Internal strengths and weaknesses can arise in the functional areas within an
organization:
- Management
- Marketing
- Finance/accounting
- Production/operations
- Research and development
- Management information systems.

S - good reputation, strong cash flows, excellent customer service, good quality

W – weak cash flows, weak internal control, waste of products, low employee morale

O – increase market share, market growth, low interest rate, favourable exchange
rates

T – change in goverment, new entrants, aging population, new regulations

PEST Analysis
• Is a companion to SWOT analysis in an environmental scan
• Requires an analysis of:
- Political – current political landscape and legal issues
- Economic – changes in interest rates, inflation, exchange rates, unemployment,
GDP
- Social – changes in demographics and desires
- Technological – impact of new technology

• Provides an overview of the environmental factors that needs to be taken into

consideration when considering strategy.

• See Handout on possible factors to consider

• Class exercise: PEST analysis (10 mins)
- Bean Counters, Accountants is a medium size firm with offices in Vancouver,
Toronto, Calgary, Toronto and many smaller cities. It has 2,000 employees – 1,500
professional staff and 500 support staff, offering services in Accounting, Audit, Tax,
and Business Advisory.

Political Factors
 Changes in federal/provincial tax laws impact advisory services.
 Government-led audit and compliance regulations can increase client demand.
 Updates to labor and remote work laws affect HR policies and operations.
 Policy shifts on corporate taxation may affect client planning and investments.

Economic Factors
 Interest rates and inflation influence client investment/tax decisions.
 Economic downturns may decrease advisory revenue but increase insolvency or
audit services.
 Growth in small businesses increases client base.
 Provincial economic differences impact regional service demand (e.g., Alberta vs.
Ontario).

Social Factors
 Rise of remote work changes client and staff expectations.
 Aging population drives demand for estate planning and retirement-focused tax
services.
 Younger workforce demands work-life balance, flexible work arrangements.
 Clients and staff increasingly value diversity and ethical practices.

Technological Factors
 AI and accounting software automate routine tasks, shifting focus to advisory roles.
 Cybersecurity is vital for protecting sensitive client data.
 Automation reduces manual work but changes required staff skillsets.
 Cloud technology supports remote work and real-time client collaboration.

Strategic management
• The process by which organizations formulate strategies to take advantage of
external opportunities, and avoid or reduce the impact of external threats.

Implementing strategy
• Once corporate-level strategy has been decided, it must be implemented at
the business level
• Management accountant’s function is to provide information that managers can
use to make decisions
- Track the performance of key financial and non- financial success factors
- Cost, efficiency, effectiveness, quality, time and innovation

• A Management Accounting Control System enables the organization to

determine whether it is achieving its strategic goals.
- Must be able to generate both financial and non- financial information
- Balanced Scorecard allows management to view key performance indicators –
financial and non-financial
- Budgets are key planning tools

Planning and Control

• Planning
- Choose goals
- Evaluate alternatives
- Decide on how to attain them
- Select measures to determine how well the objectives were met

• A budget is a quantitative expression of the proposed plan with expected financial

and non-financial information

• Control
- Measure the system’s current level of performance
- Compare current level of performance to the planned level and look for
discrepancies
- Take the appropriate actions
• Changes to strategy
• Changes to implementation
• A budget serves as both a control and planning tool since it compares target to
actual performance

Feedback:
Linking Planning and Control

Different kinds of Costs

• Actual vs Budgeted
- Incurred vs. planned
• Direct vs Indirect
- Easily traced to cost object vs. not easily traced
• Variable vs Fixed
- Changes with number of units vs. stays the same over a given range of
units
• Understanding their distinction is important in making effective business
decisions

Decision Framing
• Management accountants need to be able to define the problem or issue in a
way that it can be analyzed to reach an optimal solution
• Instead of being overwhelmed with too much of data, a problem is organized or
“framed” into a set of variables within certain boundaries of the problem

Five steps to Framing

1. Identify the problem;
2. Assess the situation;
3. Determine the relevant information necessary (financial and non-financial);
4. Generate and analyze alternatives; and
5. Make recommendations

Framing also involves three key principles:

1. Irrelevance of increasing transformations (constant amounts should be

ignored)
- Constant dollar amounts are irrelevant and can be ignored
• Eg. Make or Purchase option of Ice Cream that sells for $1.00:

Cost of ice cream if purchased $(0.90)

Costs if ice cream is made:
DM 0.60
DL 0.20
VOH 0.05
Net cost of purchasing $(0.05)
Should make the ice cream as the net cost of purchasing is $0.05.

We could have calculated total profits under both options and computed the difference,
but the sale price is constant and can be ignored

2. Importance of local searches

- Prescreen decision alternatives to 3 or 4 options
3. Need for component searches
a. Must be able to break profit into cost and revenue components
Developing a Decision Model
 The management accountant uses all relevant information to formulate possible
solutions based on decision criteria
 It is important that the accountant obtain all relevant information and no
extraneous information
 The decision model often uses mathematical tools to analyze the relevant
information:
- Linear programming to determine optimum mix, regression analysis to estimate
cost, algebraic formulas to set optimum targets

Decision models and uncertainty

 Factors that are used to create the decision model are subject to change:
- Industry, supply and demand, interest rates, regulations, etc.

 Sensitivity analysis is a process where different scenarios are run to see how
sensitive the results of the model are to changes in variables
 Management is always interested in knowing what factors would affect
profitability
Linear Programming
 Methodology that optimizes an objective function given a set of constraints.
 Invented during World War II to optimize the maximum loading of cargo onto
ships and planes
 Adapted by businesses to:
- maximize profits when there are constraints.
- minimize costs when the goal is minimization

Steps in Linear Programming (LP)

1. Determine the objective
- Maximize profit or minimize costs
2. Specify the constraints
- Generally 3 types: resources, structural, marketing
3. Compute the optimal solution
- Trial and Error
- Graphical
- Use of Solver in Excel

Linear Programming - graphical

Feasible region
Linear Programming – Solver
 Can use Excel Solver to solve LP problems
- Solver add-in is included in Excel 2010 by default
• click the File Menu and choose Options
• select Add-Ins from the left sidebar, highlight Solver Add-in and then hit the GO
button next to Manage Excel Add-ins at the bottom
• In the Add-Ins dialog box, check Solver Add-in box
• Click OK
- Solver is located under the Data tab

Linear Programming – Solver

 Refer to example on Snowmobile & Boats
 Page 444 in textbook
Step 1 Determine objective
 Maximize Contribution Margin
– Total Contribution Margin = $240S + $375 B

Step 2 Specify constraints

 Assembly 2S + 5B <= 600
 Testing 1S + 0.5B <= 120
 Materials B <= 110
 S and B must be non-negative

Step 3 Solve for optimum solution

Linear Programming – Solver
 See Excel Solver spreadsheet on Snowmobile & Boats
 Max Total Contribution Margin is $51,750
- 75 snowmobiles and 90 boats
 Solver also provides 2 Sensitivity Analysis reports
- Sensitivity Report
- Answer Report

Linear Programming – Solver

 Sensitivity Report
- Final Value on Adjustable Variables is the optimal solution
- Final Value on Constraints is the resources used
- Constraints RH Side is the constraints specified
- Shadow Price indicates how much the objective function
- would change if an additional unit of resource was obtained
- Allowable Increase or Decrease is the range in which changes to the Optimal
Solution or Shadow Price is valid
i.e. changes to the variables would not change the optimal solution
i.e. changes to the units of constraints would not change the shadow
price
  Answer Report
- Target Cell (Objective): Final solution
- Adjustable Cells (Variables): Final solution
- Constraints:
a. Amount of resources used
b. Binding means it is at the maximum
c. Not binding means there is slack
d. Slack is the number of units still available

Linear Programming
Class exercise
- FR2-1 Shallow Inc
• Determine decision variables
• Formulate objective
• Formulate constraints
• Use Solver and find optimal solution
• Run Sensitivity Reports and analyze

Product mix decisions and Solver

 Normally, these sorts of decisions are solved using incremental analysis but it is
possible to use Linear Programming
 Make or Buy decisions
- costs of producing a product must be ≤ cost of purchasing
 Add or Drop decisions
- contribution margin must be more than the relevant costs before product is
added

Ethics
 Decision models are used in conjunction with Professional Judgment
- Need to provide decision variables, formulate decision model and to interpret
the results
 Professional Judgment requires integrity
 Accounting Handbook applies to financial reports prepared for external users.
 There is no “GAAP” for management accounting
 However, the accountant is responsible for the integrity of the financial
information provided to internal stakeholders
 Ethical accounting practices build trust and promote loyal, productive
relationships with users
 Most companies and all professional accounting organizations have Codes of
Conduct/Ethics

Four standards apply to management accountants:

1. Competence (capability, skill)

2. Integrity (honesty, truth)
 3. Confidentiality (privacy, discretion)
4. Objectivity (neutrality, independence)

Ethical Dilemma

Peter is a CPA and is preparing the reports for the division’s year end results. The
Manager is new to the division and last quarter advised in a progress report to the VP
that the division was on target to meet budget by year end. Peter knows that the
division will not meet budget as one project will not be able to be signed off until the
week following the end of the year.
It is two days before the end of the year and the Manager calls Peter in to ask for the
preliminary results. Peter tells him that budget will not be met as one project is not
completed yet. The Manager asks Peter what there is left to be done on the project.
Peter advised that the work has all been completed except that the final review is not
finished. The Manager tells him “that is not good enough, the Division promised the VP
that it will meet budget. I expect the project signed off by year end”. Peter knows that
the review will take more than two day’s time to finish. Peter had a just bought a new
house and has a large mortgage. He also has a new baby on the way and doesn’t
want to lose his job.
What should he do?

For next class

4. Assignment:
a. PEST Analysis of your assigned company
b. Problem 11-31 on p. 464
i. Use Excel Solver and determine optimal solution
ii. Run Sensitivity Report and explain the meaning of each of the
Shadow Price, Constraints, Allowable Increase and Decrease figures

11-31 Relevant costs, contribution margin, product emphasis. The Beach Comber is a
take-out food store at a popular beach resort. Susan Sexton, owner of the Beach
Comber, is deciding how much refrigerator space to devote to four different drinks.
Pertinent data on these four drinks are as follows:

Cola Lemonade Punch Natural Orange

Juice
Selling price per case $18.80 $20.00 $27.1 $39.20
0
Variable cost per case $14.20 $16.10 $20.7 $30.20
0
Cases sold per foot of shelf 25 24 4 5
space per day

Sexton has a maximum front shelf space of 12 feet to devote to the four drinks. She
wants a minimum of 1 foot and a maximum of 6 feet of front shelf space for each drink.

Required:
1. Compute the contribution margin per case of each type of drink.
2. A co-worker of Sexton’s recommends that she maximize the shelf space devoted
to those drinks with the highest contribution margin per case. Evaluate this
recommendation.
 At first glance, this seems logical, since Natural Orange Juice and
Punch have the highest per-case margins. However, this approach is
misleading because it ignores how efficiently each drink uses shelf
space—an important factor since there is only 12 feet available.
Instead, we should look at contribution margin per foot of shelf space,
which is calculated by multiplying the contribution margin per case
by the number of cases sold per foot.
 This shows that Cola actually brings in the most profit relative to
space, even though its per-case margin is lower. Therefore, the co-
worker's recommendation is incorrect; shelf space should be
allocated based on contribution margin per foot, not per case.
3. What shelf-space allocation for the four drinks would you recommend for the
Beach Comber? Show your calculations.
• Use Excel Solver and determine optimal solution
• Run Sensitivity Report and explain the meaning of each of the Shadow Price,
Constraints, Allowable Increase and Decrease figures

1. Shadow Price:
o This tells you how much the objective function (for example, profit or cost) will
improve (or decrease) if you increase the right-hand side (R.H. side) of a
constraint by 1 unit.
o In your case, the shadow price for the constraint "Total Foot Used" is $12.00.
This means if you could increase the available total foot used by 1 unit (e.g., 1
more unit of space or resource), the value of the objective (probably profit or
cost) will increase by $12.00.
2. Constraint:
o This is the "restriction" or "limit" placed on the variable cells, which determines
how much of a resource or factor can be used.
o In your case, the constraint R.H. Side (Right-Hand Side) is 12, which likely
represents the total amount of a resource available (e.g., 12 units of space or
material).
3. Allowable Increase:
o This tells you how much you can increase the value of the constraint (the right-
hand side) before the shadow price changes.
o For example, the allowable increase for the "Total Foot Used" constraint is 2.
This means you can increase the available foot used by up to 2 units without
changing the shadow price of $12.00.
4. Allowable Decrease:
o This shows how much you can decrease the value of the constraint before the
shadow price changes.
o In your case, the allowable decrease is 3. This means you can decrease the
available foot used by up to 3 units without affecting the shadow price.
In simple terms, these values help you understand how sensitive the outcome (like profit or
cost) is to changes in the available resources (like total foot used) and how much flexibility you
have in adjusting those resources while keeping the overall results stable.