“Strategy is
the direction in which the organization plans to move to attain its
long-term goal” (Anthony & Govindarajan,
2007). Strategy is concerned with the long-term direction of the
business organization, the scope of its operational activities, the
matching of operational activities to its resource capabilities and
its competitive environment, giving consideration its stakeholders
values and expectations (Porter, 1996 ; Anthony & Govindarajan,
2007).
Traditional
Management Accounting has tended to concentrate on the tactical and
operational decisions in the organization by focussing strictly on
financial measures for monitoring and controlling short term
activities. It predominately emphasizes on allocating business costs
to goods or services and prepare accounting reports using historical
and quantitative financial data for internal management business
decisions. It is inward-looking with short-term outlook and focussing
too much on internal organizational efficiency. In the new
competitive environment, for a business to remain healthy there are
other aspects that need to be considered such as information on
competitors, human resources, customers, suppliers and technologies
for developing and monitoring a business strategy.
By focussing only on
the cost side of things more heavily than other aspects of the
business,traditional management accounting has tended to neglect to
provide information to support and attain strategic goals of
organizations. Therefore traditional management accounting is
considered to be inadequate due to its failure to generate relevant
and futuristic non-financial information required to support
strategic decision-making (Bromwich, 1990).
Strategic
management accounting (SMA) is a newer version of management
accounting which adds the strategic perspective to traditional
management accounting. SMA is defined as “The provision and
analysis of financial information on the firm’s markets
,competitors’ costs, cost structures and the monitoring of the
organization's strategies and those of its competitors in these
markets over a number of periods” (Bromwich, 1990) . SMA
attempts to rectify the weakness of Traditional management Accounting
by including (i) Both financial and non-financial indicators and (ii)
Both internal and external information.
According to Porter
(1996) business strategy, involves (i) Competitive advantage,
which focusses on choices and trade-offs between alternatives based
on external industry analysis , and (ii) “operational
effectiveness,” which focuses on cost minimization based on
internal value chain analysis. Thus, SMA can be compared to
Traditional Management Accounting from these two perspectives of
external competitive environment and internal strategic costing ;
External
competitive environment perspective
For an organization
to be successful, it is important to gain or sustain its competitive
advantage. According to Porter 's (1996) strategy framework, for
businesses to generate a sustainable competitive advantage, they have
three strategies to choose from. They are the low cost leadership
strategy, product or service differentiation strategy, and focussed
strategy. A low cost
leadership strategy involves seeking to become the lowest cost
producer of a product or service in order to earn above-average
profits. A differentiation strategy seeks to create a customer
perception that a product or service is superior compared to that of
the competitor's products or services, based on brand, quality, and
performance. A focus strategy involves either a differentiation or
cost leadership strategy, but
seeks to provide a high perceived value product or service to
customers in a niche segment of the market, justifying a price
premium. In order to gain competitive advantage, an
organization requires constant monitoring of the external competitive
environment and must be flexible, adaptable and needs continuous
improvement (Porter, 1996).
SMA
incorporates strategic thinking into management accounting by
including non-financial measures to capture the qualitative
attributes and aspects of competitive management. A key
component of SMA is analyzing and incorporating external factors such
as industry competition to determine the organization's biggest
competitors, competitor's positions in the market, threat of new
competition in the market, and the cost of entering the market, the
threat of substitute products or services which can obsolete the
existing product. SMA conveys an externally oriented perspective and
helps in the development of long-term plans by collecting and
analyzing information on competitors costs, market shares, sales
volumes, and resource utilization for comparison against its own
internal information. Such competitor data helps business to protect
its strategic position or make strategic changes to improve future
competitiveness. Thus , SMA
looks to the future by measuring trends in the external environment
and supports positive longer-term decision makings rather than
short-term reactive ones.
Traditional
Management Accounting does not offer a full understanding of the
external competitive situation. Its focus is on determining costs
and financial control, by using methodologies such as budgeting and
cost accounting, thus making the organization rigid and not adaptable
to the dynamic nature of the external competitive markets.
Traditional Management Accounting is inward looking as it focuses
largely on accounting
functions within internal business units to meet the requirements of
the business unit managers. While greater emphasis is given to
the internal operations side of the organization, it overlooks
potential external competitive threats and external opportunities.
Traditional Management Accounting excludes information about
competitors, without the information of competition taking advantage
of them is impossible. By focussing purely on financial information,
Traditional Management Accounting coveys on short-term outlook. Thus,
traditional management accounting is considered to be too limited to
provide necessary and meaningful information for long-term planning .
Compared to
Traditional Management Accounting, Strategic Management Accounting
(SMA) is outward looking and helps businesses to evaluate its
relative competitive position in industry it operates in. By
providing strategic competitive data, SMA helps businesses to analyze
the actions of its customers and competitors. In the absence of such
information, businesses will be incapacitated in formulation and
implementation of business strategies for competitive advantage.
Therefore, Strategic Management Accounting (SMA) entails providing
management accounting in the context of planning and implementing
business strategies.
Internal
Strategic Costing perspective
From Porter's
(1996) strategy framework, businesses have three strategies at their
disposal : product or service differentiation, low-cost leadership
and focus strategy . However, to implement any of these strategies ,
the management must manage costs strictly . Therefore cost management
system is a critical source of building a competitive advantage. The
21st
century business environment is characterized by intense competitive
rivalry and as a result, businesses have to constantly adapt and
change their internal operations in order to maintain or gain a
competitive advantage . Successful organizations are those
that are able to (i) lower costs and (ii) improve the quality and
efficiency of operations. Therefore, an organization's internal cost
management system must be aligned to its business strategy
Traditional
Management accounting features management control techniques such as
budget control and standard costing. Such costing models
incorporates arbitrary allocation instead of the cause-and-effect
allocations of indirect costs, and they do not provide accurate
product cost information in a multi-product organization. Such
techniques could lead to accurate product costs in mass-production
organizations where direct costs are considerably high and indirect
costs are typically low. This was appropriate in mass-production
industries which were dominant around 50 years ago, however, the
current organizations are characterized with having lower direct
costs and higher indirect costs. This makes accurate calculation of
product profitability in a modern organization not possible. It is
impossible to establish and/or sustain competitiveness without an
actual cost calculation mechanism. Also, traditional management
accounting has failed to adapt
to the modern competitive environment that requires continuous
improvement in the entire value chain. The value chain is the
set of all the activities involved in the product, from the beginning
with the extraction of raw materials to the end with the
post-delivery customer support activities (Anthony &
Govindarajan, 2007).Traditional Management Accounting does not
analyze non-manufacturing costs or the costs of pre-conversion and
post-conversion activities. Thus, it fails to evaluate the relative
cost positions of competitors as it is concerned more with the
internal cost position of the company such as focussing on existing
activities and managing the internal resources of the organization.
This makes traditionally management accounting backward-looking and
reactive to competitive pressure.
For this reason
management accounting processes shifted to using costing models under
SMA such as activity-based
costing methodology. The Activity-Based Costing (ABC) is costing
system methodology that reflects the modern complex business
environment and facilitates the organization to allocate costs more
accurately. ABC assesses and identifies activities in the value chain
of the organization and assigns the cost of each activity with
resources to all products and services according to the actual
consumption by each of them (Anthony and Govindarajan, 2007).
Therefore, an organization can accurately estimate the cost
elements of the entire range of its product and/or service and to
help in management decisions. By identifying and allocating costs to
each activity, ABC helps the company to determine whether to lower or
raise the activities cost based on the relative cost position. Also,
ABC model offers valuable insights toward the strategic planning
process (Anthony and Govindarajan, 2007) . ABC focus is not just on
the costs of the activities but also value added by these activities
from both internal and external positions. SMA views cost drivers by
looking at the value they provide to achieve the company's
strategic/long-term objectives.
In areas where opportunities for lowering costs exists, the long-term
impact are addressed, such as the possibility of declining market
demand and/or quality. In areas where investment opportunities
exists, long-term advantages and/or disadvantages are evaluated,
such as whether increasing value-adding activities or eliminating
non-value adding activities will raise the profit margin in
the future. By integrating costs into strategy, SMA enhances the
strategic position of the firm through the exploitation of the
linkages in the value chain and optimizing cost drivers. Thus,
compared to Traditional Management accounting, SMA uses cost
information to formulate strategies and carry out tactics to
implement those strategies (Anthony and Govindarajan, 2007).
In conclusion,
today's organizations face a lot of competition due to the rapidly
changing, complex and uncertain economic environment. For an
organization to be successful, it is critical for it to maintain or
improve its competitive advantage. By focussing too much on internal
organizational efficiency , Traditional Management Accounting does
not offer a full understanding of the external competitive situation.
It is considered inward-looking aiming to fulfill short-term
objectives rather than long-term objectives of the business.
Strategic Management Accounting (SMA) looks not only at the internal
efficiency of the organization in terms of its resources and
operations, but also on the external business environment .
SMA aims to provide relevant and both financial and non-financial
information on competitors, customers, suppliers, and the external
environment to the organization’s management. With such
information, organizations can monitor and evaluate the changes in
the external environment in which the company operates and enable
them to make strategic plans and strategic decisions. SMA also
integrates costing into strategy. SMA uses the cost information to
improve the strategic cost position of the business and carry out
long-term strategic objectives by using cost management as a tool
to improve productivity, increase customer satisfactions and
increase revenues. Thus, the approach of SMA
is in line with the business strategy objectives that produces
long-term objectives for the business, taking into consideration
competitor's plans and their possible actions, as well as analyzing
and improving the value chain to align with the strategic objectives
of the organization.