Chapter 01 – Cost Management and Strategy
CHAPTER 1: COST MANAGEMENT AND STRATEGY
QUESTIONS
1-1 Firms Using Cost Management. Here are some examples; there are many
possible answers.
1. Walmart: to keep costs low by streamlining restocking and sales
2. Hewlett-Packard or Dell Computer: to keep costs low by improving
6. Any other large, diversified manufacturer, like Procter & Gamble: which needs
to be able to analyze the relative profitability of its different products, using cost
1-2 Firms not expected to be significant users of cost management information:
1. Microsoft: here the focus is on forming strategic alliances, innovation and
competition; cost management is more important for other firms in the
information technology business, such as Hewlett-Packard, and Dell Computer
4. Major league sports: dependent primarily on the development of fan support,
good coaching and player acquisition
1-3 Cost management information is a broad concept. It is the information the
manager needs to implement the strategy of the firm or not-for-profit organization
— both financial information about costs and revenues and relevant non-financial
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Chapter 01 – Cost Management and Strategy
1-4 In the private sector, the Financial Accounting Standards Board, an independent
organization, and the American Institute of Certified Public Accountants (AICPA)
supply guidance regarding financial reporting practices. The Sarbanes-Oxley Act
of 2002 also created the Public Company Accounting Oversight Board which
reports to the SEC to oversee auditing standards and practices. The AICPA also
provides educational opportunities. In the public sector, The Cost Accounting
Standards Board (CASB) sets cost accounting standards for those doing
business with the federal government, especially defense contractors. The
1-5 The Certificate in Management Accounting (CMA) is the most relevant
certification program for management accountants since it focuses on the types
of skills that are most in demand for management. Other relevant certificates
1-6 The four functions of management are:
1. Strategic Management — information is needed by management to make
sound strategic decisions regarding choice of products, manufacturing methods,
marketing techniques and channels, and other long term issues.
2. Planning and Decision Making — information is needed to support recurring
1-7 Strategic management is the most important management function since it most
directly relates to the overall success of the firm. In strategic management, top
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Chapter 01 – Cost Management and Strategy
1-8 Merchandising firms purchase goods for resale. Merchandisers that sell to other
merchandisers are called wholesalers, while those selling directly to consumers
are called retailers. Examples of merchandising firms include the large retailers,
such as Sears, Walmart, and Radio Shack. Merchandisers use cost
management information to control stocking, distribution, and customer service.
Manufacturing firms use raw materials, labor, and manufacturing facilities and
equipment to produce products. These products are sold to merchandising firms
or to other manufacturers as raw materials for additional products. Examples of
1-9 The answers here can vary from large manufacturers such as Boeing to small
retail stores. If the class has trouble getting started, the instructor might use
some of the firms mentioned in question 1-1, or from the instructor’s own
1-10 As firms move to the Internet for sales and customer service it is likely that
strategies will change. For some firms, a popular web site can be an important
differentiating factor. Firms such as Amazon.com, Etrade and eBay have
achieved powerful competitive advantage through the strength of their web sites.
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Chapter 01 – Cost Management and Strategy
1-11 As firms move to the Internet for sales and customer service it is likely that their
demand for cost management information will change. For example, order
processing costs are likely to change dramatically. In the web-based
environment, costs are likely to increase rapidly at first as new investments are
and how soon the firm can achieve these benefits is a critical question.
1-12 The factors in the contemporary business environment that affect business firms
and cost management are:
1. Increased global competition, which means an increasingly competitive
environment for all firms and thus the need for cost management information
to become more competitive; the need for competitive non-financial
information in addition to financial information in cost management reports;
2. Lean manufacturing, in which companies reduce costs by using flexible
5. Changes in management organizations, new reporting practices to recognize
the new focus on cross-functional teams in which employees from all areas of
the firm work together to make the firm successful;
6. Changes in the social, political, and cultural environment of business, which
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Chapter 01 – Cost Management and Strategy
1-13 Refer to Exhibit 1-3 in the text, reproduced here.
Comparison of Prior and Contemporary Business Environments
Prior Business
Environment
Contemporary Business
Environment
MANUFACTURING
Basis of Competition Economies of scale,
standardization
Quality, functionality,
customer satisfaction
Manufacturing Process High volume, long
production runs,
significant levels of in-
process and finished
inventory
Low volume, short
production run, focus on
reducing inventory levels and
other non-value-added
activities and costs
Manufacturing
Technology
Assembly line
automation, isolated
technology applications
Robotics, flexible
manufacturing systems,
integrated technology
applications connected by
network
Required Labor Skills Machine paced, low-
level skills
Individual and team paced,
high-level skills
Emphasis on Quality Acceptance of a normal
or usual amount of
waste
Strive for zero defects
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Chapter 01 – Cost Management and Strategy
Question 1-13 (continued)
Prior Business
Environment
Contemporary Business
Environment
MARKETING
Products Relatively few
variations, long product
life cycles
Large number of variations,
short product life cycles
Markets Largely domestic Global
MANAGEMENT
ORGANIZATION
Types of Cost
Management
Information Needed
Almost exclusively
financial data
Financial and operating data,
the firm’s strategic success
factors
Management
Organizational
Structure
Hierarchical; command
and control
Network-based organization
forms; teamwork focus —
employee has more
responsibility and control;
coaching rather than
command and control
Management Focus Short term: short term
performance measures
and compensation;
concern for sustaining
stock price; short tenure
and high mobility of top
managers
Long term; focus on critical
success factors, commitment
to the long term success of
the firm, including adding
shareholder value
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Chapter 01 – Cost Management and Strategy
1-14 The thirteen contemporary management techniques are:
1. The Balanced Scorecard (BSC) and the Strategy Map. The BSC is an
accounting report that includes the firm’s critical success factors in four areas:
financial performance, customer satisfaction, internal processes, and learning
and growth (human resources). The Strategy Map is a method, based on the
balanced scorecard, which links the four perspectives in a cause-and-effect
diagram.
2. Value-Chain Analysis is a tool that helps the firm identify the specific steps
5. Target Costing is a management method that determines the desired cost for a
product upon the basis of a given competitive price, such that the product will
earn a desired profit.
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Chapter 01 – Cost Management and Strategy
1-14 (continued)
9. Total Quality Management is a technique in which management develops
policies and practices to ensure that the firm’s products and services exceed the
customer’s expectations.
13. Enterprise Risk Management is a framework and process that firms use to
manage the risks that could negatively or positively affect the company’s
competitiveness and success.
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Chapter 01 – Cost Management and Strategy
BRIEF EXERCISES
1-15 Many students will answer Walmart or Target since these are mentioned in the
text. A variety of answers are possible and sometimes students will disagree , as
for example, in discussing a fast food restaurant such as McDonald’s. Some will
argue that it is a cost-leader because the prices in fast food restaurants are
typically low. But other students will argue that McDonald’s is different than
other fast food restaurants, and thus, differentiation. I ask them to focus on what
brings in the customer: Is it price or some quality of feature? Then many of the
students will say that for the most part fast food restaurants are differentiators.
I’ll ask if any one could name a fast food restaurant they would go to just for price
and price only, and I will get a few examples there, but not many.
1-16 This question is set to get a positive response and that is usually what I get.
Then I try to spend some time getting some examples of why a strong ethical
climate would be beneficial, and note the increasing importance of an ethical
climate since the Sarbanes-Oxley Act. Also, a helpful resource is the article in
the July 2005 Strategic Finance, “Is There Value in Corporate Values?”
Reporting on a survey done by the Aspen Institute and the consulting firm Booz
Allen Hamilton, the article notes that most respondents believe that strong
corporate values build strong relationships and reputations. The study also
reported that nearly half of financial leaders surveyed said that strong corporate
social and environmental values affect financial performance in the short run.
The article notes, as do many other surveys, that the firm Johnson& Johnson is
perhaps the best known example of a company that has high corporate values.
See for example the New York Times article on John & Johnson: “ Katie
Thomas, “Johnson & Johnson Praised for Taking Uterine Surgery Tools Off
Market,” The New York Times, August 1, 2014, p B3.
1-17 Again this question is posed for a positive response, and the main goal I have for
the question is to have the class think through the decision as both a business
and an ethical issue. According to a Wall Street Journal article at the time of this
VIOXX issue (October 1, 2004, pB1), “Experts Praise How Merck Broke the
News,” the announcement brought in positive publicity for the company.
Interestingly, some of the firms hurt the most by the announcement were the
media companies that were counting on Merck’s spending for VIOXX advertising.
1-18 Like most beverage companies, there is a strong differentiation. Refer the
students to the information in Problem 1-50 which shows Coke as having the
highest brand value of any company. There is at least a perceived difference
between a Coke and Sam’s Club Cola, for example. Ask the class if they can
come up with an example of a cost leader beverage, and some will mention low
priced brands of cola or beer.
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Chapter 01 – Cost Management and Strategy
1-19 A commodity is a product or service that is difficult to differentiate from
competitors: gasoline and paper products are some examples. You can ask the
class to provide additional examples. The crucial point for a commodity: is
there any reason you would pay more for this item? As such, commodities are
natural cost leadership products or services.
1-20 Most students will argue that they chose their bank because of service and
location, thus differentiation. Others will say the rates are better, and then
perhaps cost leadership. It is useful to distinguish the banking needs of say, a
student, versus a small business like a car dealership which will rely more
heavily on a variety of customer services and will likely see banks as more
differentiated entities. One regional bank did a study and found that
approximately ½ of its customers were “rate shoppers” while the other half were
“relationship-oriented.” The bank had adopted customer-focused strategies to
grow the customer-relationship side of its business. Smaller banks, in particular,
focus on customer service to attract and retain customers.
1-21 There are a number of possible answers here. The main point of the question is
that the cost leadership or differentiation classification applies across different
types of firms in different industries. There are some industries (particularly
those with commodities) which tend to be characterized by cost leaders and
others (e.g. biotech) that tend to be characterized by differentiators. Other
industries may have a mix of different types of competitors. I ask them to
consider the automobile industry and to identify cost leaders and differentiators.
1-22 It is certainly likely that a new product, with technologically advanced features,
may begin as a differentiator and then as the market for the product matures and
competitors enter the market for the product, the industry as a whole moves to
more of a cost leadership type of competition. Consider cell phones as an
example.
1-23 Often people think of strategy as simply planning, or “long term” planning. In the
broadest sense, this is correct, though the planning in strategy formulation and
execution is somewhat more complex, including developing an understanding of
the business environment in which the firm operates and of the resources
available within and outside the firm to help it compete effectively. The steps in
executing a strategic plan are considered in chapter 2.
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