Management Control Cycle
Accounting has always been an important component of the record-keeping and management control functions of governmental organizations. These control systems, for the most part, are based on double-entry accounting practices developed in the private sector. The role of accounting in public organizations is expanding, however, as a consequence of the increased attention in recent years to the need for greater economy, efficiency, and effectiveness in the operations of government. There is growing recognition that, in addition to the functions of financial record keeping and external reporting, accounting can and should serve as a tool for planning, decision making, and management control.
Financial Accounting
Financial accounting data form the basis for much of the cost analysis conducted in complex organizations. Although accounting data may be used as a basis for future plans (for example, for budget building), financial accounting is concerned primarily with the historical results of fiscal transactions and the consequent financial position of some organ-izational entity. The basic financial accounting equation can be expressed as follows:
Assets = Liabilities + Fund Equity + Revenue - Expense
Whereas for-profit entities seek to generate net income, not-for-profit organizations strive to "break even"--that is, to balance revenues and expenses. Key concepts in financial accounting for public organizations are defined in Exhibit 13.
| Fund | An independent fiscal, accounting, and often legal entity to which all resources and related liabilities, obligations, reserves, and equities are assigned. Transactions are made between funds |
| Financial Statements | Separate statement are prepared for each of the major funds and combined statements of funds with similar purposes often are distributed. |
| Income Statement | Reflects the profit performance of an entity for some specific period of time. |
| Revenue | Represents an inflow of money and/or other representations of value in return for selling goods or providing some type of service. |
| Expense | Represents an outflow of resources, or incurring of obligations, for goods and services required to generate revenues. |
| Net Income | The excess of revenue over expense. |
| Balance Sheet | Shows the financial position of an entity at a particular time--resources available (assets) and liabilities outstanding (obligations and debts). |
| Owner's Equity | Sometimes called net worth, capital, or proprietorship--represents the residual interest in the entity after various obligations have been deducted. In govern- mental accounting, the concept of fund equity is substituted for owner's equity. |
| Equity | Equal to the assets minus the liabilities of an entity. Claims for amounts due to creditors and employees (such as salaries payable) have legal priority. |
| Trial Balance | Offers proof that a ledger is in balance, but it does not verify that transactions have been correctly analyzed and recorded in the proper accounts. |
Fund Accounting
The primary mechanisms for the control of governmental activities are provided through fund accounting. Standard fund designations frequently applied in local governments are shown in Exhibit 14.
Revenues are controlled through the appropriation process, whereby public agencies are authorized to incur financial commitments based on estimated revenues to be collected. Proposed expenditures are controlled through budget line-items. Expenditures for any line item--such as salaries, supplies and materials, equipment, contractual services, or travel--cannot exceed the dollar amount that has been appropriated or allocated to that particular line item.
Two self-balancing groups of accounts constitute a second major component of governmental accounting. These account groups are not funds, because they do not contain resources that can be appropriated. These "holding areas" accomplish three purposes: (1) fixed assets and long-term liabilities are segregated from each other, thereby avoiding the tracking of meaningless data on capital surplus; (2) most funds can be operated on the basis of current assets and liabilities; and (3) related accounts are brought together in one compartment for control purposes.
| General Fund | Used to account for all financial resources, and activities financed by them, that are not accounted for in some special fund. |
| Special Revenue Funds | Used to account for taxes and other revenues (except special assessments) that are legally restricted for a particular purpose. |
| Debt Service Funds | Aaccount for the financing of interest and the retirement of principal of general long-term debt. |
| Capital Project Funds | Account for those capital projects that are financed either on a "pay-as-you-go" basis or out of capital reserves, grants-in-aid, or transfers from other funds. |
| Special Assessment Funds | Established to account for special assessments levied to finance improvements or services deemed to benefit properties or individuals against which the assessments are levied. |
| Enterprise Funds | Established to account for the financing of services rendered primarily to the general public for compensation. |
| Internal Service (Working Capital) Funds | Established to account for the financing of activities or services carried on by one department for other departments of the same governmental unit. |
| Trust and Agency Funds | Account for cash and other assets held by a governmental unit as trustee or agent (for example, employee pension funds). |
Budgetary Accounting
The emphasis on budgetary control is a major distinction between governmental accounting and for-profit accounting in the private sector. When concerned primarily with financial reporting, public activities are controlled primarily through the line-item or object-of-expenditure budget.
The adoption of a budget by the legislative body represents the legal authority to spend. In most cases, actual expenditures should closely coincide with budgetary appropriations--the budget should serve as both a mandate for and a limitation on spending. Appropriations may be subdivided according to agencies, programs, and classes of expenditures. These subdivisions, known as allocations, become the first accounting entries for the new fiscal period. Allocations may be made to specific line items or object codes, and specific limitations may be imposed as to the deviations permitted within these expenditure categories.
Provision also may be made for an allotment system through which allocations are further subdivided into time elements--for example, monthly allotments for personal services (salaries and wages and fringe benefits). Allotments are particularly useful where expenditures are contingent on future events, such as the availability of grants or the anticipated opening of a new capital facility. Allotment procedures that require monthly approvals of the governing body, however, can become cumbersome, generate operational uncertainties, and may result in false economies.
Good budgetary accounting provides for encumbrances to record the placement of purchase orders or letting of contracts as obligations against an agency's allocation. By reserving a part of the allocation (or appropriation) as an encumbered expenditure, the agency is prevented from overspending the funds available during any fiscal period. In some cases, specific allocations are encumbered and liquidated on an "as-billed" basis.
Cost Accounting
Cost accounting procedures ensure the proper recording of cost flow by assembling and recording all elements of expense incurred to attain a purpose, to carry out an activity, operation, or program, to complete a unit of work or project, or to do a specific job. Cost accounting encompasses a body of concepts and techniques applicable in both financial accounting and managerial accounting. Basic terminology used in cost accounting is summarized in Exhibit 15.
| Absorption or Full Costing | Considers all the fixed and variable costs associated with the provision of the goods or services in question. |
| Unit Costs | Often determined simply by dividing the current budget allocation for a given activity by the number of performance units. |
| Overhead (Indirect Costs) | Includes the cost of various items that cannot conveniently be charged directly to those jobs or operations that are benefited. |
| Responsibility Costing | Assigns to an operating department only those costs that its managers can control or at least influence. |
| Direct Costing | Considers only the variable or incremental costs of a particular operation. |
| Job Order Costing | Used by companies in which products are readily identifiable by individual units or batches. |
| Process Costing | Most often found in industries characterized by the mass production of like units, which usually pass in continuous fashion through a series of uniform production steps called operations or processes. |
| Standard Costs | Relate the cost of production to some predetermined indices of operational efficiency to provide a means of cost control through the application of variance analysis. |
| Average Unit Costs | Determined by dividing accumulated costs by the quantities produced during the period. Unit costs for various operations can then be multiplied by the number of units transferred to obtain applicable total costs. |
| Workload Measures | Focus on time-and-effort indices such as number of persons served per hour, yards of dirt moved per day, or more generally, volume of activity per unit of time. |
Cost accounting seeks to assign accountability to those sectors of an organization in which day-to-day influence can be exercised over the costs in question. Passing the buck is an all-too-pervasive tendency in large organizations; this tendency can be minimized when responsibility is firmly fixed. Nevertheless, a delicate balance must be maintained between the careful delineation of responsibility, on the one hand, and a too rigid separation of responsibility, on the other.
Managerial Accounting
Financial accounting focuses on the accurate and objective recording of fiscal transactions and on the preparation of financial reports largely for external distribution. The outputs of financial accounting may be used for certain kinds of internal decisions. However, many management decisions must be based on other types of information. In recent years, the techniques of managerial accounting have been developed and refined to fulfill this informational need.
Managerial accounting involves the formulation of estimates of future financial performance and the analysis of actual performance in relation to these estimates (for example, through program evaluation and performance auditing techniques). Management accounting provides information to support decisions about program costs. Significant features of managerial accounting are summarized in Exhibit 16.
Exhibit 16. Significant Features of Managerial Accounting
o Greater emphasis on the generation of information for planning and programming purposes, seeking to establish a balance with the control function of accounting.
o Performance standards (workload and unit cost data) added to traditional control mechanisms based on legal compliance and fiscal accountability.
o Experimentation and innovation in the types of information supplied to management at various levels.
o Greater cost consciousness generated among operating units through the identification of cost and responsibility centers and the use of performance standards.
o Linkage among management control, program budgeting, and performance auditing facilitated by cost analyses.
Performance Evaluation
While performance evaluation has been a watchword in government for over three decades, the systematic assessment of public programs has remained more a promise than a practice. Public goals and objectives often are nebulous and ill-defined, and consequently, the identification and measurement of program results is even more elusive. For purposes of this discussion, program evaluation can be defined as: (1) an assessment of the effectiveness of ongoing and proposed programs in achieving goals and objectives and (2) an identification of areas needing improvement through program modification (including the termination of ineffective programs), which (3) takes into account the possible influence of external and internal organizational factors.
An evaluation can focus on process--the extent to which programs are implemented according to predetermined guidelines--or on impact-- the extent to which a program produces change in the intended direction. The purpose of many program evaluations has generally been to improve efficiency. Questions of efficiency often are defined and answered strictly in least-cost terms, with minimal consideration of priorities or of the relative worth of the programs pursued. It is possible to do things very efficiently, but if they are the wrong things to do, they will have little positive impact on the problems to which a public program is directed. Improving efficiency may not require any drastic changes in program strategies. Increasing effectiveness, however, often entails radical program adjustments--one reason why evaluations that focus on effectiveness may not be fully utilized.
Evaluations often provide the information necessary to design and/or modify service delivery systems. The final products of the formative evaluation process should be: (1) a service delivery plan, based on an understanding of the causal relations between the activities to be performed and the desired results; (2) a set of goal statements, outlining a course of action in broad terms; and (3) supporting objectives, which provide for the quantification of progress toward goal achievement.
The most comprehensive evaluations are little more than academic exercises if their findings have no impact on the processes by which programs are developed and policies are made. Sunset legislation management and performance audits, and program reconstruction are mechanisms for the further application of findings of evaluations. Sunset legislation requires periodic evaluations of programs and the termination of those programs for which continuance cannot be justified. Management audits involve an assessment of resource utilization practices, including the adequacy of management information systems, administrative proce-dures, and organizational structure. A performance audit extends the focus of a management audit to include an examination of program result to determine if (a) desired benefits were achieved, (b) program objectives were met, and (c) alternatives were considered that might yield the desired results at a lower cost. Program reconstruction is based on the feedback stage of the model, wherein initial program outputs are modified in response to the reactions of affected groups and sources of support.
Productivity/Quality Management
Leaders in both the private and public sectors have become very concerned by major declines in the nation's annual rate of growth in productivity and the apparent loss of competitive position to other nations. These concerns, in turn, have spawned a host of new initiatives to increase productivity. Many of these organizational approaches attempt to integrate more traditional measurement techniques with new forms of participative management. These new initiatives include: team building, quality circles, quality of worklife, quality improvement, total quality management, and gainsharing techniques. The full potential of evaluation and productivity/quality manage-ment techniques has not yet been realized in terms of their application to programs in the public sector. The increasing emphasis on efficiency, effectiveness, and accountability in the conduct of public programs, however, provides additional incentives for administrators to undertake evaluations and apply the results in the improvement of program performance.