Principles of Accounting, Volume 2: Managerial Accounting PDF Download – Franklin, Graybeal et al. (OpenStax) BBA / B.Com

Principles of Accounting, Volume 2: Managerial Accounting is the OpenStax textbook for the second university accounting course. It was written by senior contributing authors Mitchell Franklin, Patty Graybeal and Dixon Cooper with a team of contributing authors, and you can download it free as a PDF from the official OpenStax site. Its 13 chapters cover the role of managers, cost behavior, cost-volume-profit analysis, job order and process costing, activity-based, variable and absorption costing, budgeting, standard costs and variances, responsibility accounting, short-term decisions, capital budgeting, performance measures and the balanced scorecard, and sustainability reporting.

Where a first course looks back at what a business earned, this volume looks forward and asks what a manager should do next. The preface says the two volumes are designed for both accounting and non-accounting majors, which makes this book a natural fit for BBA and B.Com students who need to price a product, set a budget or judge an investment. This page gives a summary, key points, a tip, a common mistake and two practice questions for every chapter, plus a study plan, so you know what to read first before you open the official book.

Book Overview

Chapter List

Chapter 1: Accounting as a Tool for Managers

Difficulty: Easy · Key topics: managerial accounting, planning, controlling, evaluating, financial versus managerial accounting, management accountant skills, careers and certifications, IMA ethics, Sarbanes-Oxley Act, lean practices, balanced scorecard

The opening chapter defines managerial accounting as the process of supplying financial and nonfinancial information to managers and other internal decision makers, and follows Daryn’s Dairy as its running example. Management’s work falls into planning, controlling and evaluating. The chapter then sets out seven differences between managerial and financial accounting, describes the skills, careers and certifications of management accountants, covers the IMA ethical standards, the Sarbanes-Oxley Act and the Foreign Corrupt Practices Act, and ends with business trends: service industries, ERP systems, lean practices, the balanced scorecard, globalization and sustainability.

Key Points:

• Managerial accounting serves internal users with detailed, timely information; financial accounting reports to outsiders using GAAP set by the FASB.
• Planning sets goals and plans, controlling monitors day-to-day activities, and evaluating compares actual results with expected results and corrects deviations.
• The seven differences are users, types of reports, frequency, purpose, focus, nature of the original information and verification of the data.
• Managerial accounting is flexible and has no required rules; publicly traded companies must have their financial statements audited every year.
• Management accountants need commercial awareness, collaboration, communication, technology and analytical skills, and strong ethical values.
• The Sarbanes-Oxley Act of 2002 answered corporate scandals, and the Foreign Corrupt Practices Act of 1977 bans payments to foreign government officials to win business.
• Lean, TQM, just-in-time, Lean Six Sigma and the balanced scorecard are the continuous-improvement tools the chapter introduces.

Memory Tip: Think of a road trip. Planning picks the route, controlling is driving while watching the fuel gauge, and evaluating is checking whether you arrived where you meant to go.

Common Mistake: Treating managerial accounting as a smaller copy of financial accounting. The chapter shows that it has different users, no GAAP requirement and a focus on detail and decisions rather than on historical statements.

Important Questions:

• What are the three primary responsibilities of management? Planning (setting goals and forming plans), controlling (monitoring day-to-day activities against the plan) and evaluating (comparing actual with expected results and taking corrective action).
• How does managerial accounting differ from financial accounting? Managerial accounting gives internal users detailed, timely financial and nonfinancial information with no required rules, while financial accounting gives external users historical statements prepared under GAAP and, for public companies, audited.

Chapter 2: Building Blocks of Managerial Accounting

Difficulty: Medium · Key topics: merchandising, manufacturing and service firms, fixed, variable, mixed and stepped costs, relevant range, product versus period costs, prime and conversion costs, cost equation, scatter graph, high-low method

This chapter first separates merchandising firms, which buy finished goods and resell them, from manufacturing firms, which turn direct materials, direct labor and manufacturing overhead into products, and from service firms, which sell intangible services. It then classifies costs by behavior: fixed, variable, mixed and stepped, per-unit versus total amounts, the relevant range, product versus period costs and prime versus conversion costs, with Tony’s screen-printing shop as the example. It ends with the cost equation Y = a + bx, estimated from a scatter graph and the high-low method using Regent Airlines maintenance data.

Key Points:

• Fixed costs stay the same in total within the relevant range but fall per unit as activity rises; variable costs stay the same per unit but rise in total.
• Mixed costs have a fixed and a variable part, and stepped costs jump when activity passes a threshold.
• Product costs (direct materials, direct labor, manufacturing overhead) go into inventory, while period costs are expensed in the period they occur.
• Prime costs are direct materials plus direct labor; conversion costs are direct labor plus manufacturing overhead.
• The cost equation is Y = a + bx, where a is fixed cost, b is variable cost per unit and x is the activity level.
• High-low method: variable cost per unit = (high cost minus low cost) divided by (high activity minus low activity); the Regent Airlines example gives $1.96 per flight hour and $44,920 of fixed cost.
• Least-squares regression is named as the more accurate method, but this chapter demonstrates only the scatter graph and the high-low method.

Memory Tip: Fixed costs are fixed in total, variable costs are fixed per unit. If you remember which number stays still, the rest follows.

Common Mistake: Picking the highest and lowest costs for the high-low method. The chapter says to pick the periods with the highest and lowest activity, even if their costs are not the highest and lowest.

Important Questions:

• Why does fixed cost per unit fall as production rises? Total fixed cost does not change within the relevant range, so it is spread over more units. Tony’s $1,000 monthly rent costs less per T-shirt as he prints more shirts.
• How does the high-low method split a mixed cost? Divide the change in cost between the highest and lowest activity periods by the change in activity to get the variable cost per unit, then subtract the variable cost from total cost at either point to find the fixed cost.

Chapter 3: Cost-Volume-Profit Analysis

Difficulty: Medium · Key topics: contribution margin, contribution margin ratio, contribution margin income statement, break-even point, target profit, sensitivity analysis, sales mix, composite unit, margin of safety, operating leverage

Chapter 3 builds cost-volume-profit (CVP) analysis on contribution margin: sales price minus variable cost, shown per unit, as a ratio and in total on a contribution margin income statement. It finds the break-even point in units and in dollars and adds a target profit. Sensitivity analysis shows how break-even moves when price, variable cost or fixed cost changes, using the Back Door Café. For several products it uses the sales mix and a composite unit. The chapter ends with the margin of safety and operating leverage, shown with Manteo Machine and a store that adds self-service checkout lanes.

Key Points:

• Contribution margin per unit is selling price minus variable cost per unit; the ratio is contribution margin divided by sales.
• Break-even units = fixed costs divided by contribution margin per unit; break-even dollars = fixed costs divided by the contribution margin ratio.
• At the break-even point total revenue equals total cost and operating income is zero.
• CVP assumes, among other things, a constant sales price and cost behavior that stays within the relevant range.
• With several products the break-even point is found with a composite unit built from the sales mix, and a change in the mix changes the break-even point.
• Margin of safety is current sales minus break-even sales; the chapter also expresses it as a percentage of sales.
• A higher share of fixed costs means higher operating leverage: profit rises faster when sales rise and falls faster when they drop.

Memory Tip: Contribution margin pays the fixed costs first. Only after they are covered does each extra unit become profit.

Common Mistake: Dividing fixed costs by the selling price instead of the contribution margin, or forgetting that a shift in the sales mix moves the break-even point.

Important Questions:

• How do you find the break-even point in units? Divide total fixed costs by the contribution margin per unit. In the College Creations example, lofts sell for $500 with $300 of variable cost and $100,000 of fixed cost, so break-even is $100,000 / $200 = 500 units.
• What do margin of safety and operating leverage tell a manager? Margin of safety shows how far sales can fall before the firm reaches break-even. Operating leverage shows how strongly profit reacts to a change in sales, so a firm with high fixed costs gains more in good years and loses more in bad ones.

Chapter 4: Job Order Costing

Difficulty: Medium · Key topics: job order costing, job cost sheet, direct materials, direct labor, manufacturing overhead, predetermined overhead rate, inventory flow, underapplied and overapplied overhead, journal entries, service firms

Chapter 4 explains job order costing, the method for custom products and services, and contrasts it with process costing for identical goods. Each job collects direct materials (from materials requisition forms), direct labor (from time tickets) and manufacturing overhead on its own job cost sheet. Overhead is applied with a predetermined rate, estimated overhead divided by an estimated activity base. Using Dinosaur Vinyl, the chapter follows costs through raw materials, work in process, finished goods and cost of goods sold, records the journal entries, disposes of underapplied or overapplied overhead and applies the system to service firms.

Key Points:

• Job order costing fits custom work where cost can be traced to each job, and every job has its own job cost sheet.
• Materials requisition forms record direct materials and time tickets record direct labor for each job.
• Predetermined overhead rate = estimated overhead divided by the estimated activity base, usually direct labor hours or direct labor dollars.
• Costs flow from raw materials inventory to work in process, then to finished goods, then to cost of goods sold when the job is sold.
• Overhead is underapplied when the manufacturing overhead account has a debit balance (too little was applied) and overapplied when it has a credit balance.
• The leftover overhead balance is adjusted into cost of goods sold.
• Service firms use the same method, call overhead operating overhead and often use billable hours as the activity base.

Memory Tip: Under means debit. If actual overhead is more than the overhead applied to jobs, the manufacturing overhead account ends with a debit balance and overhead is underapplied.

Common Mistake: Using actual overhead, which is known only at the end of the period, to cost a job, or forgetting to clear the underapplied or overapplied balance at the end of the year.

Important Questions:

• How is the predetermined overhead rate calculated, and why is it used? Divide estimated overhead for the period by the estimated activity base. It is used because actual overhead is not known until the period ends, but each job needs an overhead cost when it is completed.
• What happens to underapplied or overapplied overhead at year end? The balance left in manufacturing overhead is adjusted into cost of goods sold: underapplied overhead increases it and overapplied overhead decreases it.

Chapter 5: Process Costing

Difficulty: Hard · Key topics: process costing, departmental work in process, conversion costs, equivalent units, production cost report, weighted-average and FIFO methods, transferred-in costs, journal entries

Chapter 5 sets process costing against job order costing. It fits standardized, mass-produced goods such as cookies, where costs are collected by department and each department has its own work in process account. It explains conversion costs, which accrue evenly, while materials may be added at one point, so equivalent units for materials and for conversion can differ. Using Rock City Percussion drumsticks, it works a four-step method for the shaping department and then for the packaging department, and records the journal entries, including transfers between departments and to finished goods.

Key Points:

• Process costing accumulates cost by department for large volumes of identical units, while job order costing accumulates cost by job.
• Conversion costs are direct labor plus manufacturing overhead and are treated as incurred evenly through the process.
• Equivalent units are the units that would have been produced if production were sequential rather than in batches.
• The four steps are: units to which costs will be assigned, equivalent units, cost per equivalent unit, and allocation of cost to units transferred out and units left in ending work in process.
• The chapter describes weighted-average and FIFO methods; its worked example adds beginning work in process costs to current costs, which is the weighted-average method.
• In a later department, units arrive with the cost transferred in from the prior department, which is added to that department’s own costs.
• The cost of units transferred out is the units transferred times the cost per equivalent unit for materials plus the cost per equivalent unit for conversion.

Memory Tip: A unit can have all of its materials and still be unfinished: materials 100 percent in, conversion only 40 percent done. That is why there are two sets of equivalent units.

Common Mistake: Using one set of equivalent units for both materials and conversion costs, or forgetting the transferred-in cost when costing a later department.

Important Questions:

• When should a company use process costing instead of job order costing? When it makes standardized, identical products in large volume and cannot trace material, labor and overhead to a single unit, as in the chapter’s examples of cereal, rubber, steel and Oreo cookies.
• What are equivalent units and why are they needed? Equivalent units express partly finished work as the number of whole units it equals. They are needed because units in ending work in process are not complete, and materials and conversion costs may be at different stages.

Chapter 6: Activity-Based, Variable, and Absorption Costing

Difficulty: Hard · Key topics: traditional overhead allocation, cost drivers, activity-based costing, cost pools, unit, batch, product and factory-level costs, variable costing, absorption costing, inventory differences

Chapter 6 asks how overhead should be assigned to products. It begins with traditional allocation, one predetermined overhead rate based on direct labor hours, direct labor cost or machine hours, then describes cost drivers such as inspections, machine setups and order taking. Activity-based costing (ABC) follows in five steps, using cost pools and four cost levels, and is compared with the traditional method on accuracy and cost. The last section contrasts absorption costing, which assigns all manufacturing costs to products and follows GAAP, with variable costing, which assigns only variable costs and suits CVP analysis.

Key Points:

• Traditional allocation uses one rate based on direct labor hours, direct labor cost or machine hours and works best when production is labor driven.
• A cost driver has a causal relationship with an overhead cost, for example inspections, machine setups or order taking.
• ABC steps: identify activities, assign overhead expenses to them, assign a cost driver to each, determine a predetermined rate, and allocate overhead to products.
• ABC classifies costs as unit-level, batch-level, product-level or factory-level.
• ABC suits technology-driven production with different activities for each product, while traditional allocation is simpler and cheaper to run.
• Absorption costing assigns all manufacturing costs, fixed ones included, to products and is the method GAAP accepts; variable costing assigns only variable costs.
• To reconcile the two incomes, start with variable costing income, add fixed costs in ending inventory and subtract fixed costs in beginning inventory.

Memory Tip: Absorption costing absorbs every manufacturing cost into the product. Variable costing takes in only the variable ones.

Common Mistake: Assuming ABC is always better. The chapter says traditional allocation is the right choice for labor-driven processes, and ABC costs money to collect and analyze data.

Important Questions:

• Why can ABC give more accurate product costs than traditional allocation? ABC groups overhead into cost pools with their own drivers, so a product that causes more setups or inspections receives more overhead. A single labor-hour rate spreads overhead evenly regardless of the activity that caused it.
• Why do operating incomes differ under absorption and variable costing? Absorption costing puts fixed manufacturing overhead into inventory. When some units stay in ending inventory, part of the fixed cost is deferred to a later period, so the two methods report different income for the period.

Chapter 7: Budgeting

Difficulty: Medium · Key topics: budget, bottom-up, top-down and zero-based budgeting, master budget, operating budgets, financial budgets, cash budget, budgeted balance sheet, static and flexible budgets, variances

Chapter 7 shows how budgets turn a strategic plan into numbers. It compares bottom-up, top-down and zero-based budgeting and rolling budgets, then lays out the master budget as operating budgets plus financial budgets. The operating budgets run in order: sales, production, direct materials, direct labor, manufacturing overhead, selling and administrative expenses and the budgeted income statement. The financial budgets are the capital asset budget, the cash budget and the budgeted balance sheet. The chapter ends with static versus flexible budgets and with using variances between budget and actual results to evaluate goals.

Key Points:

• The master budget combines operating budgets and financial budgets and is prepared at the estimated level of activity.
• The sales budget comes first, and it guides the production budget, which in turn drives the materials, labor and overhead budgets.
• The budgeted income statement combines the operating budgets; the budgeted balance sheet draws on the cash budget and the other budgets.
• The cash budget uses the cash collections schedule and the cash payments schedule, and the capital asset budget is prepared first because its cost flows into the cash budget.
• A static budget is prepared at one level of activity; a flexible budget adjusts variable amounts to other levels of activity.
• A favorable variance means sales were higher or expenses lower than budgeted; an unfavorable variance means the opposite.

Memory Tip: Every budget starts with sales. Without a sales forecast there is no production plan, and without a production plan there are no input budgets.

Common Mistake: Judging results against a static budget when actual volume was different, or assuming every unfavorable variance is bad. The chapter notes that a higher labor rate can mean a better employee who wastes less material.

Important Questions:

• What is the difference between operating budgets and financial budgets? Operating budgets plan day-to-day operations: sales, production, materials, labor, overhead, selling and administrative expenses and the budgeted income statement. Financial budgets plan financing and investment: the capital asset budget, the cash budget and the budgeted balance sheet.
• Why use a flexible budget instead of only a static budget? A static budget is set for one activity level, so comparing it with results at a different volume is misleading. A flexible budget restates the variable amounts at the actual volume and gives a fairer basis for variance analysis.

Chapter 8: Standard Costs and Variances

Difficulty: Hard · Key topics: standards, standard cost card, ideal and attainable standards, favorable and unfavorable variances, materials price and quantity variances, labor rate and time variances, variable and fixed overhead variances, variance analysis

Chapter 8 introduces standards, the budgeted unit prices and quantities against which actual results are compared, and separates ideal from attainable standards. A variance is the difference between actual and standard: favorable when actual is lower, unfavorable when higher. The chapter computes direct materials price and quantity variances, direct labor rate and time variances, variable overhead rate and efficiency variances and the two fixed overhead variances, using the Sweet and Fresh Shampoo example and a flexible overhead budget. It closes with how managers investigate variances and why favorable ones also need an explanation.

Key Points:

• A standard is a budgeted unit amount for price paid and quantity used; a variance is actual minus standard.
• A favorable variance means actual price or quantity was below standard, and an unfavorable variance means it was above.
• Direct materials has a price variance (paying too much or too little) and a quantity variance (using too much or too little).
• Direct labor has a rate variance (the rate paid) and a time variance (the hours used).
• Variable overhead has a rate variance and an efficiency variance; fixed overhead has two variances, one for spending and one for actual production above or below the expected level.
• The key to variance analysis is finding out why a variance happened; without a cause, the company cannot tell whether it signals a problem.
• Standards set too loosely can build favorable variances into the numbers and hide inefficiency.

Memory Tip: Price or rate variances ask, “Did we pay more than planned?” Quantity, time or efficiency variances ask, “Did we use more than planned?”

Common Mistake: Treating every favorable variance as good news. The chapter says managers must explain favorable variances too, because they may come from low-quality inputs or from loose standards.

Important Questions:

• What are the two parts of a direct materials variance? The price variance compares the actual price paid per unit with the standard price, and the quantity variance compares the actual quantity used with the standard quantity. Together they explain the total direct materials cost variance.
• Why must managers explain favorable variances as well as unfavorable ones? A favorable variance may reflect real efficiency, but it may also come from cheaper low-quality material, padded standards or other problems. Without knowing the cause, a company cannot tell whether the variance is good or bad.

Chapter 9: Responsibility Accounting and Decentralization

Difficulty: Medium · Key topics: management control system, centralized and decentralized organizations, segments, organizational charts, responsibility centers, return on investment, residual income, controllable costs, transfer pricing, goal congruence

Chapter 9 explains how organizations divide authority and measure it. A management control system helps managers reach strategic goals, and the chapter compares centralized firms, where decisions are made at the top, with decentralized firms that delegate, listing advantages, disadvantages and daily versus strategic decisions. Segments and organizational charts show who is accountable. Responsibility accounting then evaluates five types of centers: cost, discretionary cost, revenue, profit and investment. Managers should be judged only on controllable costs, and transfer pricing, by market price, cost or negotiation, sets prices for goods exchanged between segments.

Key Points:

• In a centralized organization the top makes the primary decisions; a decentralized organization delegates decision-making authority.
• Daily decisions are frequent and immediate, while strategic decisions are infrequent and long term.
• The five responsibility centers are cost, discretionary cost, revenue, profit and investment centers.
• Investment centers are judged by return on investment (profit relative to the investment) or residual income (income above a common required return).
• Managers should be evaluated only on controllable costs; allocated costs, such as headquarters charges, are often uncontrollable.
• Transfer prices can be based on market price, cost or a negotiated price, and goal congruence is the aim.
• International transfers are harder because of taxes, duties and currency changes.

Memory Tip: A cost center spends, a revenue center sells, a profit center does both, and an investment center does both and also controls the assets it uses.

Common Mistake: Judging a manager by costs the manager cannot control, such as corporate costs allocated to the segment.

Important Questions:

• What are the five types of responsibility centers? Cost centers, discretionary cost centers, revenue centers, profit centers and investment centers. They differ in whether the manager answers for costs, revenues, both, or both plus the assets invested.
• What are three ways to set a transfer price? The market price approach uses the price external customers would pay, the cost approach uses the company’s cost to make the product, and the negotiated price approach lets the buying and selling segments agree on a price.

Chapter 10: Short-Term Decision Making

Difficulty: Medium · Key topics: relevant and irrelevant costs, differential analysis, sunk and opportunity costs, special orders, make or buy, keep or discontinue, sell or process further, constrained resources, bottleneck

Chapter 10 teaches differential analysis: compare only the relevant costs and revenues that differ between alternatives. It separates avoidable from unavoidable costs, sunk costs, future costs that do not differ and opportunity costs, and weighs quantitative and qualitative factors. Five decisions are then worked through with sample data: accepting or rejecting a special order, which depends on spare capacity; making or buying a component; keeping or discontinuing a segment or product, where allocated costs matter; selling at split-off or processing further, where joint costs are irrelevant; and using a constrained resource, where the product with the highest contribution margin per unit of the constraint wins.

Key Points:

• Relevant costs and revenues are future amounts that differ between alternatives; sunk costs and future costs that do not differ are irrelevant.
• Opportunity cost is the benefit given up by choosing one alternative over another.
• Special order: compare the offered price with the cost of producing it; whether the firm has spare capacity decides which costs are relevant.
• Make or buy: compare the avoidable cost of making the component with the price of buying it; unavoidable costs are ignored.
• Keep or discontinue: compare total operating income with and without the segment, and watch allocated costs that continue anyway.
• Sell or process further: joint costs up to the split-off point are irrelevant; compare extra revenue with extra processing cost.
• With a constraint, rank products by contribution margin per unit of the scarce resource, such as machine hours.

Memory Tip: Ask of every number, “Will this be different if I choose A instead of B?” If the answer is no, leave it out of the analysis.

Common Mistake: Ranking products by unit contribution margin alone when a resource is scarce, or letting sunk costs and joint costs influence the choice.

Important Questions:

• Which costs and revenues are relevant to a decision? Future costs and revenues that differ between the alternatives. Sunk costs, and future costs that are the same under every alternative, are irrelevant.
• How should a firm choose among products when a resource is limited? Calculate the contribution margin per unit of the scarce resource, for example per machine hour, and give priority to the product with the highest figure. Unit contribution margin alone can lead to the wrong choice.

Chapter 11: Capital Budgeting Decisions

Difficulty: Hard · Key topics: capital investment, screening and preference decisions, payback method, accounting rate of return, hurdle rate, time value of money, present and future value, annuities, net present value, internal rate of return

Chapter 11 covers long-term investment decisions. It defines capital investment and separates screening decisions, which remove weak options, from preference decisions, which rank those that remain. Non-time-value methods come first: the payback period (a $150,000 investment returning $20,000 a year pays back in 7.5 years) and the accounting rate of return, compared with a hurdle rate. The chapter then explains the time value of money, with present and future values of lump sums and annuities, and applies it to net present value and internal rate of return, ending with a comparison of the strengths and weaknesses of all four methods.

Key Points:

• Capital investments need large cash outlays, give uncertain returns and tie up resources for a long time.
• Payback period is the initial investment divided by the annual cash flow; it ignores the time value of money and any cash flows after payback.
• Accounting rate of return compares incremental net income with the initial investment and is tested against a hurdle rate.
• A dollar today is worth more than a dollar later; compounding gives future value and discounting gives present value, for lump sums or ordinary annuities.
• Net present value is the present value of future cash flows compared with the initial cost; a positive result favors investing.
• Internal rate of return is the rate at which net present value equals zero; invest if it exceeds the expected rate of return.
• Payback and accounting rate of return work as screening tools, while NPV and IRR bring in the time value of money.

Memory Tip: Payback asks how fast, accounting rate of return asks how much profit, NPV asks how much in today’s money, and IRR asks at what rate.

Common Mistake: Choosing a project on payback alone. It ignores profit after the payback date and the time value of money, so a quick payback can hide a poor investment.

Important Questions:

• How do you calculate the payback period? When cash inflows are equal each year, divide the initial investment by the annual cash flow: $150,000 / $20,000 = 7.5 years. With uneven cash flows, add the yearly inflows until the investment is recovered.
• What is the decision rule for NPV and IRR? Accept the project if NPV is positive, meaning the present value of the cash flows at the required rate exceeds the investment. With IRR, accept it if the rate that makes NPV zero is above the expected rate of return.

Chapter 12: Balanced Scorecard and Other Performance Measures

Difficulty: Medium · Key topics: performance measurement, goal congruence, controllable factors, effective measures, return on investment, sales margin, asset turnover, residual income, economic value added, balanced scorecard

Chapter 12 deals with measuring performance in decentralized companies. It explains why measures should promote goal congruence, judge managers only on what they control and mix financial and nonfinancial information, and lists the traits of an effective measure. It then evaluates segments with return on investment, which splits into sales margin and asset turnover, residual income and economic value added, which uses after-tax income and the weighted average cost of capital. It finishes with the balanced scorecard, first suggested at Analog Devices in 1987, and its four perspectives.

Key Points:

• Performance measurement should align the goals of the employee and the company, which is goal congruence.
• A good measure is controllable by the manager, timely, consistent, compared with a standard, and covers both short-term and long-term results.
• ROI measures how effectively assets produce income and can be split into sales margin and asset turnover.
• Residual income shows whether a project or division earns more than the minimum required return set by management.
• Economic value added uses after-tax income and the weighted average cost of capital to show contribution to shareholder wealth.
• The balanced scorecard has four perspectives: financial, internal business, customer, and learning and growth.
• A big challenge with ROI, RI and EVA is deciding which income and asset values to use.

Memory Tip: The four scorecard perspectives are money, process, customer and people: financial, internal business, customer, and learning and growth.

Common Mistake: Relying on one financial number. ROI, RI and EVA all depend on the income and asset values chosen, and they miss nonfinancial results that the balanced scorecard adds.

Important Questions:

• How is ROI divided into two parts? ROI = sales margin x asset turnover. Sales margin is operating income divided by sales, and asset turnover is sales divided by invested assets, so a company can raise ROI by earning more per sale or by using assets harder.
• What are the four perspectives of a balanced scorecard? The financial perspective, the internal business perspective, the customer perspective and the learning and growth perspective. Together they use financial and nonfinancial measures to judge performance.

Chapter 13: Sustainability Reporting

Difficulty: Easy · Key topics: sustainability, corporate social responsibility, triple bottom line, Paris Climate Agreement, stakeholders, primary and secondary users, materiality, GRI, SASB, integrated reporting

The final chapter defines sustainability and corporate social responsibility and asks why companies report on more than profit. It traces drivers such as Union Carbide, Nestlé and Johnson and Johnson, the Brundtland Commission report, the triple bottom line and the 2015 Paris Climate Agreement, and shows value creation at Patagonia, Walmart, Gravity Payments and Grameen Bank. It sets out the information needs of shareholders, lenders, employees, customers, governments and communities, introduces materiality, and compares the GRI, SASB and Integrated Reporting frameworks. It ends with future issues: innovation, security risks, globalization and artificial intelligence.

Key Points:

• Business sustainability means sustaining the business and the world around it, not only increasing shareholder wealth.
• Primary users are shareholders and lenders; secondary users include employees, customers, the community, governments and regulators.
• Materiality describes how significant an event or issue is to deserve inclusion in a report.
• The Global Reporting Initiative produced its first global reporting standards in 2016.
• The Sustainability Accounting Standards Board was set up in 2011 to develop disclosure standards for material sustainability information for investors.
• The International Integrated Reporting Council was formed in 2010 and reports on six types of capital, including human, social and natural capital.
• Sustainability reporting is still new and not mandatory, so users must judge what is material.

Common Mistake: Treating sustainability reporting as public relations only. The chapter shows that it responds to real stakeholder needs and can create business value.

Important Questions:

• What is the triple bottom line? It widens a company’s reporting from profit alone to its economic, environmental and social results, which means the audience grows from shareholders to all stakeholders.
• Name three sustainability reporting frameworks. The Global Reporting Initiative (GRI), the Sustainability Accounting Standards Board (SASB) and Integrated Reporting from the IIRC. Each relies on the idea of materiality.

Appendices: Financial Statement Analysis, Time Value of Money and Suggested Resources

Appendix · Difficulty: Medium · Key topics: horizontal analysis, vertical analysis, liquidity, solvency, efficiency and profitability ratios, present and future value tables, suggested resources

The three end-of-book appendices support the main chapters. Financial Statement Analysis uses the sample merchandiser Banyan Goods to show horizontal and vertical analysis and four families of ratios: liquidity, solvency, efficiency and profitability. Time Value of Money gives four tables (present value of $1, present value of an ordinary annuity, future value of $1 and future value of an ordinary annuity) that you need for the discounting in Chapter 11. Suggested Resources lists sample financial statements for General Motors, Costco and Prudential, accounting software and tools, personal finance links, accounting organizations and exam and certificate information.

Key Points:

• Horizontal analysis compares the same line item across periods to show trends; vertical analysis compares each line item with a base item in the same statement.
• The quick ratio is like the current ratio but leaves out inventory and prepaid expenses.
• Debt to equity and times interest earned are solvency measures; receivables, asset and inventory turnover are efficiency measures.
• Profit margin, return on total assets and return on equity are profitability ratios.
• The Time Value of Money appendix has four tables, and they supply the factors used for present and future values in Chapter 11.
• Ratios should be compared with competitors, the industry and the company’s own past results.

Memory Tip: Group ratios by the question they answer: can we pay (liquidity), can we survive long term (solvency), are we efficient (efficiency) and do we earn enough (profitability).

Common Mistake: Reading a ratio on its own. The appendix says results must be compared with competitors, the industry and the company’s own history.

Important Questions:

• What is the difference between horizontal and vertical analysis? Horizontal (trend) analysis compares the same line item across periods, while vertical analysis shows each item as a percentage of a base item in the same period.
• Why is the Time Value of Money appendix needed with Chapter 11? Net present value and the annuity calculations use present value and future value factors, and the appendix provides those factors in four tables so you can multiply them by cash flows.

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How to Study This Book

Principles of Accounting, Volume 2 has 13 chapters and three end-of-book appendices. The book does not divide itself into parts, so this page gives one block per chapter and one block for the appendices. The preface says the two volumes together fit a two-semester accounting course, and this volume is the managerial accounting half. Every chapter opens with a short everyday scenario, such as a school honor society, a student T-shirt fundraiser or a first car, and then moves to business examples, so the book is meant to be read in order.

Match the chapters to your course outline in six groups. Chapters 1 and 2 give the foundations: the role of managers and the vocabulary of cost behavior. Chapter 3 covers cost-volume-profit analysis. Chapters 4, 5 and 6 cover product costing: job order costing, process costing, and activity-based, variable and absorption costing. Chapters 7 and 8 cover planning and control with budgets, standard costs and variances. Chapters 9 and 12 cover responsibility accounting and performance measurement. Chapters 10 and 11 cover short-term decisions and capital budgeting, and Chapter 13 covers sustainability reporting.

Do not skip Chapter 2. Its cost classifications (fixed, variable, product, period, prime and conversion) are used in every later chapter, and the relevant range returns in Chapters 3 and 10. Read Chapter 4 before Chapter 5, because Chapter 5 begins by comparing process costing with job order costing, and the predetermined overhead rate from Chapter 4 comes back as the traditional method in Chapter 6. Read Chapter 7 before Chapter 8, since the flexible budget idea is reused for standard costs and overhead variances. Read Chapter 9 before Chapter 12, because Chapter 12 starts by recalling responsibility accounting and the types of responsibility centers. Chapter 10 depends on the contribution margin from Chapter 3.

Expect the hardest work in four places. Chapter 5 asks you to follow equivalent units through two departments in four steps, Chapter 6 asks you to compare traditional and activity-based costing and to reconcile absorption and variable costing income, Chapter 8 has nine or more variance calculations that are easy to mix up, and Chapter 11 needs present value and future value tables as well as NPV and IRR. For Chapter 8, make a one-page sheet with every variance formula and what each one measures. For Chapter 11, practise with the tables in the appendix until looking up a factor feels routine. Chapters 1 and 13 are mostly reading and are the easiest.

The practice material is large. Counting the source files gives 252 multiple choice questions, 214 short-answer questions, 325 exercises in Sets A and B, 253 problems in Sets A and B and 61 thought provokers, and the chapters also contain 37 Your Turn boxes, 26 Concepts in Practice boxes and 37 Think It Through boxes. 36 of the 37 Your Turn boxes show a worked solution, so do those first and then try the exercises without looking back. The preface says odd-numbered answers to the multiple choice questions and short-answer questions are in the Answer Key and that every other answer is only for instructors, so check your exercise and problem answers with your teacher or a study group.

Know the limits before you rely on it. The book is built around the United States: US GAAP, the FASB, the SEC, the Sarbanes-Oxley Act and the Foreign Corrupt Practices Act, with every example in dollars and none in rupees. Chapter 13 uses figures from 2016 and 2017, such as the KPMG survey and the GRI statistic, so treat them as dated. Chapter 2 names least-squares regression but demonstrates only the scatter graph and the high-low method. The book assumes you already know debits, credits, inventory and cost of goods sold from a first accounting course, and it does not teach Pakistani cost accounting rules, so use your teacher’s notes for those.

Used In These Programs

This book is used for the Managerial Accounting course in BBA and BS Commerce (B.Com). Browse all Managerial Accounting books, the wider Accounting tag or the whole BBA category in University Books.

Who Should Read This

Principles of Accounting, Volume 2 is written for a student in the managerial or cost accounting course of a BBA or B.Com program, usually taken after a first course in financial accounting. It suits you if you want to understand costs, budgets, break-even analysis and investment decisions, or need a free and readable second book next to your class notes. Because it assumes you know debits, credits and inventory, ICOM students who plan to continue to a BBA or B.Com can pair it with the Punjab board Key to Principles of Accounting ICOM Part 1 to refresh the basics first. It is not a book for financial statements, the accounting cycle or corporation accounting, because those topics are in Volume 1, Financial Accounting, which is a separate OpenStax book. It also does not teach Pakistani tax law or local costing rules, so keep your course notes beside it for those.

Applicable Universities

This book is useful for students at Pakistani universities offering BBA, B.Com and related business programs, including University of the Punjab, University of Karachi, Virtual University, COMSATS, Lahore School of Economics, IBA Karachi, and other HEC-recognized institutions.

FAQs

Related Books

• Principles of Accounting Key Book ICOM 2nd Year – I.Com Part II (more college-level accounting practice to revise the basics behind Chapters 2 and 4)
• Key to Principles of Accounting ICOM Part 1 – Punjab Board (the same debit and credit basics at college level, useful before the journal entries in Chapters 4 and 5)
• Key to Business Statistics ICOM Part 2 – Punjab Board (basic data and trend ideas that help with the cost estimation in Chapter 2)
• Key to Business Mathematics ICOM Part 1 – Punjab Board (percentages, ratios and interest used in Chapters 3 and 11)

Principles of Accounting, Volume 2: Managerial Accounting gives BBA and B.Com students a complete, free guide from cost behavior and break-even analysis to budgets, variances, business decisions and capital investment. Browse more BBA books or the whole University Books section.

Principles of Accounting, Volume 2: Managerial Accounting, by Mitchell Franklin, Patty Graybeal, Dixon Cooper and other contributing authors. OpenStax, Rice University. Free under a Creative Commons Attribution-NonCommercial-ShareAlike 4.0 International licence (CC BY-NC-SA 4.0). Access for free at https://openstax.org/details/books/principles-managerial-accounting