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Importance of Cost Accounting in Management: Argumentative Essay

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Background of the Study

Financial management is one of the most critical aspects in a business operation. The difference between what accounting principle are followed varies on the nature of the business itself. Thus, one of the most common principle used in the practice is cost accounting. The importance of this cost accounting in management is that it records the company’s cost which influences the value of the company in the profit-driven operation (Drury, 2013). By doing so, up-to-date financial information can be found within the organization since it is always recorded and tracked at the same time. Diagnosis on financial analysis of the company’s condition tells the investors, the government and other significant users the performance and productivity of a company through financial statement and its annual reports. It also portrays the historical record, deals with predictions of future sales and revenue. A company’s management can know more of its failures and success as they look closely to its monetary value and its role in decision making. One of dynamic and industry competition among airline industry is the unit cost, as services of airline is increasing competition towards towering countries and cities are also getting tight.

The nature of business that is focused is mainly the airline industry specifically in United Arab Emirates. With the multiple airline company in the industry we can further investigate to what extent they apply cost accounting in their financial management. The chosen airline for the research is Emirates airline because it is one of the leading airlines globally that seeks to have a wide scope in financial option (International Air Transport Association, 2015). Aside from this Nataraja and Al-Aali (2011) stated that Emirates is not only known to be profitable in the industry but also it operates three of the ten world’s longest non-stop flights from Dubai to Los Angeles, San Francisco, and Houston. They have also added that it is wholly owned by the Government of Dubai however it runs on a commercial basis and does not receive any financial assistance or support from the government.

Hence, the main point is to search for challenges and limitations of cost accounting in this sector in order to establish safeguards that would protect the financial information and increase the efficiency of the principle. This will also cover any operational strategy that relates to the techniques in cost management or accounting. The current steps that Emirates is also undergoing to understand more the nature of the airline business. Since most of the people think that this ia not actually complicated however, when you look into the details of how service sectors work, there is something unique and complicated at the same time. In this project as Emirate Airlines shows a promising analysis on its profitability and cost efficiency production per seat available kilometer, over a decade of innovation of strategies and management. Airline business is more costly than any other service industry thus it is a good sign from an investors perspective to analyze costing method and standards on how this will affect the business performance. Considering the cost benefit of Emirate Airline will compensate its revenue for the year.

Literature Review

Drury (2013) discovered that there are several cost accounting basics to achieve goals. Hence, these basics is actually developed and used by the management in which it is commonly called as value chain today (Botcher et. al, 2010).

Figure 1. Value Chain for Cost Management

Figure 1 shows that first stage is recording of business events in which stage two immerse through the form of data. These data gathered will be transformed into information by the help of the accountant. And by analyzing and applying appropriate accounting principle knowledge comes which is stage four of value chain and when there is knowledge a decision can now be drawn and formulated by the management in order to attain the organization goals that was set initially.

Additionally, they added a basic formula that every business that offers services in the industry a computation of how operating income is being derived. Thus, the table figure 2 shows the basic computation of the operating income from the total sales for the month or year or quarter (depends normally on the accounting cycle of the firm) all the expenses for the materials, labor and other related operating expenses shall be deducted to the total sales to arrive with the operating income. Afterwards the income tax will be deducted to arrive with the net income.

Figure 2. Net Income Basic Equation for Service costing

Service Costing Basic Formula for Net Income

Sales

XX

Less: Operating Expenses

Materials

XX

Labor

XX

Other Operating Expenses

XX

(XX)

Operating Income

XX

Less: Income Tax

(XX)

Net Income

XX

According to Botcher et. al (2010) there are multiple cost accounting techniques that can be used in order to obtain firm’s objective. Techniques such as balance scorecard which involves accounting report of firms that is included in the company’s crucial factor to success are financial performance, customer satisfaction, internal process and last but not the least learning and growth. Emirates are currently applying the technique called benchmarking in which the firms identified crucial factors to success came from studying the best practices from other firms or business units within the company then implement with revisions on the best practices gathered to improve firms performance in order to match or even beat the performance of those competitors.

Another popular technique listed by Botcher et. al as well is the SWOT Analysis in which a company is given a time to identify the strengths, weaknesses, opportunities and the threats that a certain policy or practice can bring to the company. This is helpful especially if the techniques used requires less time to conduct hence, another way to validate the efficiency and effectiveness of the principle, SWOT is used as a back up technique to avoid any error in the latter.

Cost management assists organizations in decision-making process, planning and control (Drury, 2013). This can be seen on figure three which shows the chronological order of the steps in successful decision making. There are seven identified steps that they have discussed, cost management affects an organization in decision making the first one is identifying objectives. By identifying objectives, a clear route to what the organization wants to do is plotted hence once there is a clear objectives management search for all available alternative courses of action or benefit and option that is favorable to the organization. Thus, if there are alternative courses of action another set of data to prove the efficiency of the alternative will need to be gathered and once enough data or information are garnered management selects the alternative course and immediately implements the decision and wait for a result in order to compare the actual from what was planned. And lastly any discrepancies from the planned outcomes identified will be reviewed and thoroughly validated why it happened in the actual and what is the beat way to prevent it.

Figure 3. Decision-Making, Planning and Control Process steps

Discussion

Cost accounting in Emirates Airlines has areas concerns including advantages and disadvantages (Qasim and Qureshi, 2011). They explained that advantages in terms of establishing a manual that covers the issues of fraud, leakages, duplicate payment, wastage of resources, wrong accounting, incorrect capitalization of assets and the likes. However they had also narrated some disadvantages specifically that the manual was supposed to be a safeguard to the cited issues but it only made it worse due to the lack of knowledge to updated financial rules, low morale of staff who joins during meeting or gatherings, non availability of rules, policies and procedures and many more.

Although it went like that, but when the main issue was identified cost management or accounting became the determining principle for the success of the organization in which it indeed helped sort all unnecessary information and cleared up some reason for the disadvantages. It also helped validate the identified issues and gave ideas to the management in what they can do to improve it before implementing it to the entire population.

Emirates Airlines business cost structure impacts its efficiency (International and Transport Association, 2015). Emirates Airlines had been doing an exceptional performance because of the strategies being formulated and implemented either operational generic, few intensive or diversified strategy it paved the way of success for the Emirates Airlines. They also notice that the most operational was the ‘high quality provider strategy’ which directly associates with the operational activity. Congruently, the association of cost management in terms of the operational strategy of Emirates really proves that this accounting principle works in the way they perceive it.

Another set of operational strategy that they have cited for Emirates is what they call as “be the first to introduce new products.” Since Emirates had already established a mark for being renowned trend setters despite of its conventional view, the several noticeable services are personal entertainment systems in all seats, private first-class suites, use of mobile phones on board, introduction of SmartLanding, SmartRunway safety solutions, and being the first airline to place huge aircraft orders. The idea generation as well of the management anchors with the efficiency of the accounting principle since the company is fully known as one of the trendsetter in their field of expertise.

Recently Emirates Airlines decision in buying its jet rather than face the challenges in doing the latter has been proved to be the exact thing they are doing now since Zhang (2016) stated the Emirates is now open to study foreign acquisitions after a long time of deciding. She added that people nowadays are more comfortable in choosing low cost airlines aside fro its cheaper rate, it is also economically friendly to the organization and most especially to the consumers that is why it is easy to see why Emirates had decided to push through with these strategy. Also she added that this is more rampant in Brazil, Azul since most of the Latin Americans prefers to travel via this type of airline.

Additionally she added that Emirates had acquired 40 percent stake ownership which is equivalent to 70 million USA dollars in Air Lanka, which was the national airline of Sri Lanka in 1998 that they had rebranded to SriLankan Airlines. This acquisition was known to be the best take over example in the South East Asia and Emirates had also signed a 10 year management contract with the SriLankan. The huge step they took to acquire the said airline boost the company’s financial aspect.

With this Zhang stated that Emirates Airline is considered one of the fastest growing airlines in the world in which its not hard to see why, considering the amount of preparation they do to create good operational strategy to sustain what they had they are indeed one of the most prominent airline company. Aside from this it is also known to have a low charges in Dubai International Airport and a low tax regime that they only pay thus leaving the group with only few weaknesses . Hence, there still wide array of opportunity since the company is expanding including those Latin American and Canadian operations, acquiring low cost carriers and linking tourism to sustain the status of the company despite of any upcoming economical crisis.

Figure 4: Emirate Airlines Income Statement 2018

Figure 5: Notes 5 and 7 for Cost and Revenue

Financial Statement for 2018 Analysis

Financial analysis of the company involves the use of data and information primarily on the financial aspect in assessing the company’s performance, make decisions and adjustments in obtaining its organizational goals. There are different methods in financial analysis, in this chapter Emirate Airlines financial statement for year ending 2018 and 2008 will be compared. This method is called horizontal analysis, most specifically deals in the income statement of the company. Each ratios presented are in comparison to the cost structure and cost incurred.

· Profitability Ratio

Gross Margin

Gross Profit

4,086

4.48%

Total Revenue

91,225

This indicates that in every dollar revenue that the company earns there’s a 4.48% return to its profits after paying off its operating cost. Gross margin gives a direct insights on how well the company is earning in terms of its profits.

Operating Return on Asset

Operating Income

4,086

4.63%

Average Total Cost

88,236

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This shows that operating return of asset of Emirate Airlines has 4.63% return for every dollar invested per total assets. It is an important profitability ratio that suggest how well the company is using its resources to achieve higher profit and wealth to its investors.

· Efficiency Ratio

Inventory Turnover

Cost of Sales

88,236

36.96522832

Average Inventory

2,387

For cost accounting analysis, inventory turnover is significant in dealing with how often the company sold and replaced its inventory for a given period of time. In this case a considerable high turnover, thus strong sales and services for a big airline industry in dealing with its inventories.

Asset Turnover Ratio

Net Sales

91,225

0.715002312

Average Total Asset

127,587

This ratio indicates that a high percentage of 71.5% shows that Emirates Airlines is efficient enough on using and utilizing the asset of the company in producing and generating sales.

Figure 6: Financial Statement 2008

Figure 7: Note 4 for Revenue and Note 6 for Operating Cost

Financial Statement Analysis 2018 and 2008

As one of the largest airlines across the globe that serves 3600 passengers per week, services at their most luxury level. Thus indeed the Dubai’s national airline company. ‘We implemented initiatives to boost revenues, trim costs, and used emerging technologies to make our business and operations more agile, without compromising on quality or service.’ A statement by Sir Tim Clark, President Emirates Airlines. An analysis is given that shows a ten year data of performance and efficiency from 2008 to 2018.

Figure 8: Profitability and Efficiency Ratio

The above analysis shows that the company as it is growing for almost a decade incurred cost as much as it is exponentially expanding, this tells us that from 2008 cost 33,629M to 88,236M decrease in gross margin is expected with 9.54 percentage difference. Its profitability ratio has significant increased despite its high cost incurred this is due to a 10 year productivity revenue in 2018 of almost half of 2008 amount. It follows that as a Emirate Airline becomes the leading airline industry it gives off high cost of operation as expected and in return gives off full return to investors. After calculating the efficiency ratios we can conclude that its operation improved through the years of service as for turnovers that produces 36% for every dollar of asset and resources obtained with by the company. This is an indication of a strong use of its resources and a better financial conditions.

Figure 9: Ratio Factors of Emirate Airline

2018

2008

% change

Capacity (ATKM) million

61,425

22,078

64.06%

Load carried (RTKM) million

41,250

14,739

64.27%

Load factor %

67.2

66.8

0.60%

Break even load factor %

65.2

62.7

3.83%

Unit Cost (fils per ATKM)

139

148

Operating Cost

88,236 M

33,629 M

61.89%

*data are obtained through Emirates Airlines Financial Statement 2018 and 2008

Over yield has increased of 236 fils per revenue tonne-kilometer across all products. This gives off favorable currency mix and fare increase by 7.2% to 9.3%. As obtained from the financial statements of Emirates Airlines, a unit cost of 139fils per ATKM is obtained from 2008 148 fils due to fuel cost and product innovation. This decrease means that as services and expenditure is increasing it is proportionally level indicating an efficient production and utilization of its asset, as cost increases volume of products and services increases as well.

Cost Method

In general, cost accounting of a seat kilometer is in category length sector that is increasing since it involves fixed cost that is amortized through seats covered by kilometers. Its variable cost, largely involves fuel cost in Dubai are incurred efficiently by flights which are longer and international flights.

Service or operating costing is used, cost method for an airline industry is complicated costing compared to manufacturing and merchandising services as it involves kilometers, seat coverage etc. Emirate Airline used CASK or Cost per Available Seat Kilometer which measures efficiency per operating cost per airline to its available seat kilometers. Lower unit cost indicates an airline is profitable and efficient. Into a more detailed category as to the advantage and efficiency of Emirate Airlines, labour cost promotes the biggest advantage of the company as it has lower employee cost compared to European and other airlines. It has also derives its benefits in a tax free environment , union-free and legacy pension cost. Subsidies in a form of a low airport charges, reflects high seat capacity and passenger bookings. As suggest in a research done by Center for Aviation, European airlines and other international airline industry, “much to the regret of some, an abolition of employee income tax and dramatic cuts in airport charges cannot be expected. Nevertheless, governments should be reducing or removing all additional taxes and levies on air transport and easing any legislative restrictions on labour productivity.”

Conclusion

The cost accounting in Emirates Airlines is recognized to develop proper financial handling and control (The Emirates Group, 2018). This can be proven with the results of their latest financial statement, with an impressive 1,556aed (in millions) profit after tax it only shows how cost accounting or management is very efficient and effective to the company. They also had there strategic Plan for the year 2014-2016, where they has several operational activities that considers both external and internal aspects of the environment, it was clearly seen that they follow and improved their operational strategy to lessen the factors that affects the company. In addition, different factors and categories in its costing fised and variables are essentially significant that gives an advantage of Emirate Airlines among airline companies. Costing and selling among small cities and long flight destinations of airlines ensures that the brand and its services are known and trusted. Thus increased cost for this account in Emirate Airlines are higher; also in depreciation, amprtization and operating lease indugles high expenditiures due to cost of aircraft that involves investing in heavily new aircraft for the company. In terms of landing, parking and flying, it produces a low expense that it almost half percantage as other companies due to Dubai government leniency policies and subsidies. Fuel, factor that has greatest advantage considering it is an oil-rich region but which is largely because of greater oil efficiency among its new aircraft feets.

It is proposed in future studies that to foster effective management accounting, the business should firstly analyze the major outcome of implementing cost management to determine the specific needs of the organization (Drury, 2013). With the value chain approach earlier, the mire you investigate and identify the issues the mire it will become clear and easy to give safeguard since you have an idea of what is the root cause of the issue. Hence, it is really not necessary to be very keen in following the steps but it can be a guide as to what you can do first and then to what you have decided that suites the nature of the business.

References

Websites

  1. Costing Methods and Important Costing Terms. (2018, October 10). Retrieved from https://www.google.com/amp/s/www.edupristine.com/blog/costing-methods/amp
  2. Emirates ends 2017 on a high note reaching fleet and product milestones. (n.d.). Retrieved from https://www.emirates.com/media-centre/emirates-ends-2017-on-a-high-note-reaching-fleet-and-product-milestones
  3. Financial Analysis – Overview, Guide, Types of Financial Analysis. (n.d.). Retrieved from https://corporatefinanceinstitute.com/resources/knowledge/finance/types-of-financial-analysis/
  4. Financial Ratios – Income Statement | AccountingCoach. (n.d.). Retrieved from https://www.accountingcoach.com/financial-ratios/explanation/3
  5. Financial transparency | Our business model | About us | Emirates. (n.d.). Retrieved from https://www.emirates.com/english/about-us/business-model/financial-transparency.aspx
  6. Hargrave, M. (2003, November 24). What Is Inventory Turnover? Retrieved from https://www.investopedia.com/terms/i/inventoryturnover.asp
  7. IATA. (n.d.). Page not found. Retrieved from http://www.iata.org/publications/Pages/aeronautics-charges-monitor.aspx
  8. Operating Return on Assets (ROA) – Finance Train. (2013, September 8). Retrieved from https://financetrain.com/operating-return-assets-roa/
  9. Unit cost analysis of Emirates, IAG & Virgin; about learning from a new model, not unpicking it. (2014, January 11). Retrieved from https://centreforaviation.com/analysis/reports/unit-cost-analysis-of-emirates-iag–virgin-about-learning-from-a-new-model-not-unpicking-it-147262

Journals and PDFs

  1. Blocher, E. J., Stout, D. E., & Cokins, G. (2010). Cost Management: A Strategic Emphasis. Retrieved from 978-0-07-352694-2
  2. Drury, C. M. (2013). Management and Cost Accounting. Springer.
  3. Nataraja, S., & Al‐Aali, A. (2011). The exceptional performance strategies of Emirate Airlines. Competitiveness Review, 21(5), 471-486. doi:10.1108/10595421111171966
  4. Qasim, S. S., & Qureshi, T. (2018). Implementing an Effective Cost Control Strategy at Stations: Case Study of PIA. International Journal of Experimental Learning & Case Studies, 43-50.
  5. The Emirates Group. (2018). Annual Report 2017-2018. The Emirates Group.
  6. The Emirates Group. (2018). Strategic Plan 2014-2016. The Emirates Group.
  7. ZHANG, Y. (2016). A Strategic Analysis of Emirates Airline. DEStech Transactions on Social Science, Education and Human Science, (icaem). doi:10.12783/dtssehs/icaem2016/4347

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