EMA Final - an assignment that i did on Environmental Management accounting. PDF

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an assignment that i did on Environmental Management accounting....

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Environmental Management Accounting

17140013 Sidra Ali

Contents 1. Introduction 2. Focus 3. Traditional Management Accounting And its Disadvantages 4. Reasons for EMA’S growing importance 4.1. Managing environmental costs 4.2. More Awareness 4.3. Environmental Pressure 5. Costs relating EMA 5.1 Internal Costs 5.2 External Costs 6. EMA Techniques 6.1. Input/outflow Analysis 6.2. Flow cost accounting 6.3. Accounting-based Costing 6.4. Life cycle costing 7. Disadvantages of EMA 8. Benefits of EMA application 9. References

Environmental Management Accounting Overview 1. Introduction: “EMA, Environmental management accounting is an accounting approach to increase material efficiency, reduce environmental impacts and risks by enabling to transmit data from financial accounting, cost accounting and mass balances and also helps to reduce costs of environmental protection which are set by legislation.”1 EMA is “the generation, analysis and use of financial and non-financial information in order to optimise corporate environmental and economic performance and to achieve sustainable business.”4 Bennett & James, 1998: 33 9

2. Focus: EMA addresses the management information for corporate activities that affect the environment. It also has environmental impacts on the corporation which include production effluent, recycling, water and power consumption and carbon footprint of an organisation.5 Management information can include: 

Environment-related activities and its costs can be identified and estimated5

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The use and cost of resources such as water, electricity and fuel, so costs can be identified, monitored and reduced 5

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Making sure environmental considerations form part of capital investment decisions 5

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What are the likelihood and its impact of environmental risks can be assessed 5

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environment-related indicators are also included as part of routine performance monitoring 5

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recognising what are benchmarking activities against environmental best practice and its impact.5

To provide mutual benefit to the company and environment, Environmental management accounting is used which includes some standard accountancy techniques to identify, analyse, manage and hopefully reduce environmental costs.3

3. Traditional Management Accounting And its Disadvantages: Management accounting is a process where the performance of a business is analysed however, it is not possible for traditional accounting system to deal with environmental costs properly as many organisations have different definition of their environmental costs. In hindsight, the managers might not be aware of these costs and would not know how to manage or reduce them.9 Distinction is made between four types of costs by US Environmental Protection Agency: 3 

Conventional Costs: Costs hidden within general overheads which are related to raw materials and energy3 often are not prioritised by management.9

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Relationship Costs: Producing environmental information for public and the costs related to it can be ignored by managers who does not know that they exist and are unaware. 9 Contingent Costs: Costs that are to be incurred at a future date, e.g. clean-up costs 3 when the site is decommissioned. 9 Reputational Cost: Intangible costs, for example, failing to address environmental issues which can be ignored by managers who are unaware of their risk.9

In April 2010, in the Gulf of Mexico, a Deepwater Horizon rig had a blast which killed eleven people and had the worst oil spills in history which had massive effects on the environment. It was concluded by the US presidential commission that BP, its partners and the government departments had loads of failures and blunders which resulted in the oil spill. 9 This has massively effected BP reputation and the effects have been deep and widespread.

4. Reasons for EMA’S growing importance 4.1

Managing environmental costs:

Nowadays most businesses are concerned whether the environment is affected by them and portray themselves as being environmentally friendly or carbon natural.2 The main focus of EMA is not just financial costs, it also “includes consideration of matters as buying from suppliers who are more aware of the environment and the benefits associated with it, or if the company has failed to comply with environmental legislations and the effects it has on its image”3, set up by the United Nations Division for Sustainable Development (UN DSD)1. For example, Lever Brothers, has used more innovation and technology in reducing the use of plastics, packaging, use of less water and having half the delivery lorries to develop a new product called “Small and Mighty” and are still developing new products which are environmental friendly.2 All the fast food chain branches have stopped the use of plastic straws and are providing customers with paper straws in order to minimise the single use plastic. Management of environmental costs is becoming increasingly important in organisations because of these three main reasons: 1) People have been increasingly aware of the “carbon footprint”, are more interested in environmentally friendly products and the recycling that is now taking place in many countries across the globe. A ‘carbon footprint’ (as defined by the Carbon Trust) measures the total greenhouse gas emissions caused directly and indirectly by a person, organisation, event or product. By increasing their environmentally friendly appearance and having low “Carbon footprint”, the companies can increase their appeal to their customers”.3 2) Companies that operate in highly industrialised sectors such as oil production companies have huge environmental costs with cost amounting to as much as 20% of its operating costs. Such significant costs need to be accounted for in annual statements of a company’s account and needed to be managed by the companies which can affect annual profit.3

3) Penalties for non-compliance are increasing as the laws and regulations regarding environment are increasing worldwide and not adhering to the laws can cost the companies a significant amount of money. In the UK, a plant hire firm, John Craxford Plant Hire Ltd, where its assets of £1.2m were seized and they had to pay £85,000 in costs and fines was classed as the largest seizure ever. This was because they buried their waste illegally and as a result breached its waste and pollution permits. This can affect the company as well as the company’s officers and even junior employees who could be fined and face criminal prosecution3.

4.2

More Awareness:

Businesses have become increasingly aware of their environmental implications because of how they operate, the type of products they produce and what services they provide and the effect of their actions on the environment. In order to run a successful business, companies cannot ignore environmental risks as they are as much important as product design, marketing, and sound financial management. If the company does not have good environmental behaviour, it may have a real adverse impact on its business and finances.14 They can be punished by having increased liability to environmental taxes, fines, having to lose the value of land, destroying their brand values, losing sales, customer boycotting the company’s products or services, not being able to secure finance, losing insurance cover, lawsuits, and damaging their corporate image. 8

4.3

Environmental Pressure:

Environmental pressure can affect nearly all aspects of business, including accounting. To disclose environmental issues, companies were pressurised to produce external reports or financial reports that included environmental disclosures.15 It was not possible to deal with environmental issues solely through external reporting, these issues needed to be managed internally before they can be reported on, and this required changes to management accounting systems. 8

5. Costs relating EMA: There are costs such as costs of material, utilities and waste disposal that are difficult to separate and identify as most of them are found in “general overheads”, and they need to be correctly identified which can be a long process, particularly in a large organisation where these costs can easily be hidden. It makes it very difficult for the management to identify theses costs and find ways to cut these environmental costs as the resources are becoming scarcer. These costs are categorised as internal and external costs.3

5.1

Internal Costs: These costs directly impact on the Company’s Income statement.

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To avoid penalties, there should be improved systems and checks in place Costs associated with waste disposal

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product return costs Taxes obtaining permits and its costs decommissioning costs after the project is completed 9 Transport and travel costs Consumable and raw material costs 3

5.2

External Costs: These are costs that are imposed on society at large 9

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carbon emissions usage of energy and water forest degradation health care costs social welfare costs 9

6. EMA Techniques: EMA is applied in major areas of a business such as product pricing, budgeting, investment appraisal, calculating costs and having to set performance targets which are quantified. 8 Businesses has to concentrate on importance of allocating environmental costs to any process or product where the cost has risen as then the organisation can make a uniformed decision of whether the particular product or process is making a profit or loss and whether to continue with the operation or not. For example, if we look at a furniture manufacturing company which may be deciding whether they should continue with a production of one type of its chairs. The organisation would need to know exactly what raw materials and products are put into the process and what is the outputs, how much waste is created during the production of that particular chair, how much labour and fuel is used in making the chair, how much packaging that particular type of chair uses and what percentage if any is recyclable etc. Unless these costs are identified and allocated to the product, an informed business decision can be made about the environmental effects of production of that product.9 The UNDSD in 2003, identified four management accounting techniques to identify and allocate environmental costs such as:    

input/ outflow analysis, flow cost accounting, activity-based costing and lifecycle costing9

7.1) Input/outflow analysis: Input/outflow analysis is a technique used in environmental management accounting is based on what comes in should go out to record material inflow and balances that with outflow. For example, a company had bought 1000kg of a material and have only used 800kg of the material is produced then the rest of the material should be accounted for in some way. There may be reason that the 10% of the unused material may have been sold as scrap and the rest 90% of it is waste and been disposed of. Accounting for output in terms of physical quantities and in monetary terms, the business can be forced to focus on environmental costs of usage and waste.10

https://www.acowtancy.com/textbook/acca-pm/environmental-accounting/accounting-forenvironmental-costs/notes

7.2) Flow cost accounting: Gibson and Martin (2004:49) contended that material flow analysis is basically “intended to define the material and energy flows moving through a value-creating system (such as business) over a certain period”. This technique uses not only material flows but also the organisational structure. This accounting technique views a company as a material flow system11 and makes material flows transparent by dividing the system into various production and cost centres, looking at the physical quantities involved, their costs and their value. It divides the material flows into three categories: material, system and delivery and disposal3. It also comprises any material losses such as rejects, scraps, chipping, expired items or damaged products. The costs and values of each of the material flows is then calculated which uses the organisational structure of a company. The aim is to reduce the waste of the materials leaving an organisation having a positive effect on the environment and as well as on a business’ total cost in the long run.11

7.3) Activity-based costing (ABC): Medley (1997) and Scavone (2006) contended that activity-based costing (ABC) is a good tool for calculating comprehensive cost11 It distinguishes between environment-related costs and environment-driven costs which are hidden in general overheads. Sometimes costs related to environment can be attributed to joint sectors such as incinerators and sewage plants, using ABC method can distinguish between these costs. For example, accounting-based costing may be used to ascertain the costs of washing towels at a hotel. The energy used to wash the towels is environmental cost and the washing is cost driver. There may be a case of hotel customers using all the towels in a and they need to be replaced every day. The hotel could put a sign up in every bathroom suggesting that if the towel is used can be placed on the floor and if the towels aren’t used or the customer does not want them change to save on washing can be placed on the rails. As many of the hotels in UK are using this approach given that this is seen as “environmentally friendly” and the customers are acknowledging this approach. The costs to be saved by this includes running of fewer washing machines and staff costs. Since the towels are not washed so frequently, they will not be replaced by new ones that often. In addition to all

these savings, there is the bonus of savings to the environment having to use less power and cotton and the hotel be an environmentally friendly organisation.

7.4) Lifecycle costing: “Within the context of environmental accounting, lifecycle costing is a technique which requires the full environmental consequences, and, therefore, costs, arising from production of a product to be taken account across its whole lifecycle, literally ‘from cradle to grave’.”10 It considers any costs and revenue related to a product over its lifecycle rather than one accounting period.3 The conventional approach to life cycle also includes environmental and social costs e.g. zero complaints, zero spills, zero pollution, zero waste and zero accidents.10 For example, in the case of Xerox Limited, the cost of packaging was reduced by inventing a new system which used a standard pack (tote), which can be used as original packaging to lease out photocopiers and to re-used by customers to return carcasses at the end of its lease instead of having the cost of disposal of the old packaging which couldn’t be reused. The tote system not only saved on costs but also reduced “de-pack” times and improved customer relations.10 (Bennett and James, 1998b)

8) Disadvantages of EMA: There could be some disadvantages in which environmental issues impact the organisation’s financial performance. 

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Costs involved in producing products or services which are environmentally friendly could increase the sales, but it is possible for the organisations to find low-cost opportunities which can produce significant cost savings and offset the cost of operating EMA. It is also possible that poor environmental management can result losses rather than improved sales as all the businesses would be expected to meet minimum standard related to environmental management. EMA is an investment that requires the organisation to commit time and resources Staff or management can find EMA unnecessary, so the organisation should communicate the benefits to them early in the process Training costs should be considered as some members of staff would need to have knowledge of EMA12

8) Benefits of EMA application: There are several benefits of application of EMA in practice:      

EMA identifies and estimates costs that are related to environment activities and find ways to control all these costs It also identifies and monitors the usage and any costs related to resources such as water, fuel and electricity and helps them to be reduced It also makes sure that capital investment decisions are formed by environmental considerations It assesses environmental risks Monitoring routine performance for any environment-related indicators Making sure that any activities against environmental best practice are benchmarked

Some of the other benefits are:    

Cleaner production Better product pricing and increased shareholder value Improved corporation reputation Less harmful effect on the environment 11

EMA doesn’t only focus on financial costs, it also takes into consideration any decision made related to environmental cost or benefit.9 There are benefits of EMA implementation in some companies in Japan where cost flow analysis enabled Tanabe Seiyaku to identify waste processing costs and large raw material processing losses. The cost analysis benefited Tanabe Seiyaku on cost savings and providing relevant monetary and physical environmental information. Nippon oil, Ricoh, Canon Schweiz and Hitachi also revealed that they have applied eco-efficiency measures to further improve their environmental management.11 (Burritt and Saka, 2006) US Environment Protection Agency (2000) implemented EMA to improve lean and green supply chain. Companies worked closely with their suppliers to identify and save environmental costs. Nortel and Intel, two big US electronic companies, have had considerable savings and have also reduced their waste. GM also reduced its disposal costs by $12m from material handling innovation by developing reusable packaging system with suppliers.11 In Lithuania, total cost assessment (TCA), flow cost accounting and other EMA techniques were implemented in companies, which revealed that EMA helped companies to reduce operating costs, better price their products and save natural resources.11

THE END

17140013 Sidra Ali

References https://www.sciencedirect.com/science/article/pii/S0959652602001075 Colin Drury Management and Cost accounting 9th Edition https://www.accaglobal.com/content/dam/acca/global/pdf/SA_july2010_F5_EMA.pdf http://eprints.glos.ac.uk/5594/1/PHD_Kaiser_Final_Thesis.pdf https://www.cgma.org/resources/tools/cost-transformation-model/environmentalmanagement-accounting.html 6. Eco-Management Accounting by Matteo Bartolomeo, M.D. Bennett, J.J. Bouma, Peter Heydkamp, Peter James, T.J. Wolters, F.B. de Walle 7. The Role of Environmental Management Accounting as a Tool to Calculate Environmental Costs and Identify their Impact on a Company’s Environmental Performance Asian Journal of Business and Management (ISSN: 2321 - 2802) Volume 03 – Issue 01, February 2015 Asian Online Journals (www.ajouronline.com) 8. https://www.accaglobal.com/ca/en/student/exam-support-resources/professionalexams-study-resources/p5/technical-articles/environmenta-management.html 9. https://kfknowledgebank.kaplan.co.uk/environmental-management-accounting(ema)10. https://www.acowtancy.com/textbook/acca-pm/environmental-accounting/accountingfor-environmental-costs/notes 11. https://poseidon01.ssrn.com/delivery.php? ID=27008707000712306900706506502400902601902000404401202010211308407 70800970740070910871260021060370441120551120650011191180280710300090 70086068020107110022083073027091073066035121113110107071004069012118 094081014069024095066020071121001116092120027121087&EXT=pdf 12. https://www.nibusinessinfo.co.uk/content/advantages-and-disadvantagesenvironmental-management-systems-ems 13. Bennett, M. & James, P. (1997), Environment related management accounting: current pract...