History of Management Accounting

Management Accounting

A BRIEF HISTORICAL REVIEW OF MANAGEMENT ACCOUNTING

The origins of today’s management accounting can be traced back to the Industrial Revolution of the nineteenth century. According to Johnson and Kaplan (1987), most of the management accounting practices that were in use in the mid-1980s had been developed by 1925, and for the next 60 years there was a slow-down, or even a halt, in management accounting innovation. They argue that this stagnation can be attributed mainly to the demand for product cost information for external financial accounting reports. The separation of the ownership and management of organizations created a need for the owners of a business to monitor the effective stewardship of their investment. This need led to the development of financial accounting, which generated a published report for investors and creditors summarizing the financial position of the company. Statutory obligations were established requiring companies to publish audited annual financial statements. In addition, there was a requirement for these published statements to conform to a set of rules known as Generally Accepted Accounting Principles (GAAP), which were developed by regulators.

The preparation of published external financial accounting statements required that costs be allocated between cost of goods sold and inventories. Cost accounting emerged to meet this requirement. Simple procedures were established to allocate costs to products that were objective and verifiable for financial accounting purposes. Such costs, however, were not sufficiently accurate for decision-making purposes and for distinguishing between profitable and unprofitable products and services. Johnson and Kaplan argue that the product costs derived for financial accounting purposes were also being used for management accounting purposes. They conclude that managers did not have to yield the design of management accounting systems to financial accountants and auditors. Separate systems could have been maintained for managerial and financial accounting purposes, but the high cost of information collection meant that the costs of maintaining two systems exceeded the additional benefits. Thus, companies relied primarily on the same information as that used for external financial reporting to manage their internal operations.

Johnson and Kaplan claim that, over the years, organizations had become fixated on the cost systems of the 1920s. Furthermore, when the information systems were automated in the 1960s, the system designers merely automated the manual systems that were developed in the 1920s. Johnson and Kaplan conclude that the lack of management accounting innovation over the decades, and the failure to respond to its changing environment, resulted in a situation in the mid-1980s where firms were using management accounting systems that were obsolete and no longer relevant to the changing competitive and manufacturing environment.

During the late 1980s, criticisms of current management accounting practices were widely publicized in the professional and academic accounting literature. In 1987 Johnson and Kaplan’s book entitled Relevance Lost: The Rise and Fall of Management Accounting, was published. An enormous amount of publicity was generated by this book as a result of the authors’ criticisms of management accounting.

Many other commentators also concluded that management accounting was in crisis and that fundamental changes in practice were required.

Since the mid-1980s management accounting practitioners and academics have sought to modify and implement new techniques that are relevant to today’s environment which will ensure that management accounting regains its relevance. By the mid-1990s Kaplan (1994a) stated that:

"The past 10 years have seen a revolution in management accounting theory and practice. The seeds of the revolution can be seen in publications in the early to mid-1980s that identified the failings and obsolescence of existing cost and performance measurement systems. Since that time we have seen remarkable innovations in management accounting; even more remarkable has been the speed with which the new concepts have become widely known, accepted and implemented in practice and integrated into a large number of educational programs."

Source: Management and Cost Accounting; Colin Drury; Cengage Learning EMEA, Year: 2012.