UNIT 1 Introduction to Management Control Systems

1. Management Control System

1.1.1. Management: -
Management in all business and human organization activity is simply the act of
getting people together to accomplish desired goals.
According to Peter Drucker, “management is a multi-purpose organ that managers a
business, manages managers and manages workers and work.

1.1.2. Control: -
Control is the regulating, directing, restraining and also a unifying action in an
organization that brings unity out of the diverse activities performed by various units and
sub-units. It is the system of ensuring that actual state of affairs is in line with the desired
state of affairs.
A control system has the following four essential elements:
1. Detector or Sensor: It is a measuring device that identifies what is actually happening
in the process being controlled.
2. Assessor or Selector: It is a device for determining the significance of what is
happening, usually by comparing information on what is actually happening with
some standard or expectation of what should be happening.
3. Effectors or Feedback: It is a device that alters behavior if the assessor indicates the
need for doing so.
4. Communication Network: It transmits information between the ‘detector’ and
‘assessor’ and between the ‘assessor’ and ‘effectors’

Control Device 2) Assessor

3) Effectors
1) Detector

4) Communication

Entity being
controlled
1.1.3. System: -
System is a group of interacting, interrelated or interdependent functional
elements forming a collective entity. An organization consists of a number of units and
 sub-units carrying out diverse activities of achieving its goals. A system is a method of
carrying out those activities. It consists of a structures and a process.
Most systems share the same common characteristics. These common
characteristics include the following:
1. Systems are abstractions of reality.
2. Systems have structure which is defined by its parts and their composition.
3. Systems have behavior, which involves inputs, processing and outputs of material,
information or energy.
4. The various parts of a system have functional as well as structural relationships
between each other.

1.1.4. Meaning and Definition of Management Control Systems: -

Management Control Systems (MCS) is a system which gathers and uses
information to evaluate the performance of different organization resources like human,
physical, financial and also the organization as a whole considering the organizational
strategies.
According to Robert N. Anthony, Management Control is the process by which
managers influence other members of the organization to implement the organization’s
strategies. Management control systems are tools to aid management for steering an
organization toward its strategic objectives. Management controls are only one of the
tools which managers use in implementing desired strategies. However strategies get
implemented through management controls, organizational structure, human resources
management and culture. Anthony and Young showed that management accounting has
three major subdivisions:
1) Full cost accounting,
2) Differential accounting, and
3) Management control or responsibility accounting.

1.1.5. Evolution of Management Control Systems: -

The development of management control system is subconsciously started with
the development of the theory and practice of modern management theory. In fact, F.W
Taylor had suggested about control system in the theories he propounded. The shift in
the objective of management control had taken due to these with the changing paradigm
of industrialization.
System-based Information Control
Human Aspects of Control

Activity/Focus/management Control

Cost-based Control

Production Control

Control of Performance
 1914 1984 1940 1960 1980 1990 2000 AC

1.1.6. Characteristics of Management Control System: -

1) If focuses on ‘programmers’ and responsibility centre’.
2) For the purpose of control, managers use two types of data, viz., planned data and
actual data.
3) The control process is a set of actions such as programming, budgeting, monitoring,
evaluating, analyzing and reporting. It is a continuous or an ongoing process.
4) It is a total system covering all aspects of company’s operations. This is important
because management function assures that all parts are balanced with one another.
5) The system is normally co-ordinate and integrated so that the same set of information
can be used by other units for some other purpose.
6) The system is usually designed with financial figures and not with physical units of
input and output because, monetary unit is the only common denominator which can
be used to express heterogeneous input and resources, such as, kg, pcs, liter, machine-
hour, etc.
7) The system tends to be rhythmic, not ad hoc, one-time or occasional. It follows a
regular time table daily, weekly, fortnightly, monthly, quarterly, half-yearly and
annual, year after year.
8) Line and staff managers are equally involved in the control process, but more
significant decisions made by the line managers, not by the staff managers.

9) According to G.W. Dalton and P.R. Lawrence, who added two other features, in
Management Control System:
i) Reciprocity: Every living being tries to control its environment as a mean of
fulfilling its needs who in turn, must be controlled by someone. If anyone
refuses to be controlled by the other, he loses the control he has. It is the
reciprocal nature of the exchange that makes the control effective.
ii) Expansibility: Control in organization is a variable rather than a constant
element, because it can expand or contract. The influence of an individual in
the organization changes from time to time. Similarly, an organization’s
influence in the environment fluctuates.

1.1.7. Purpose: -
1) The formulation of ‘expectations’ upon which resource allocation decisions are to be
made,
2) The ‘allocation’ of an organization’s resources so as to ensure that goals and
objectives are met, and
3) The ‘monitoring performance’ and taking corrective action to ensure that the
organization remains on track in pursuit of its overall purpose.

1.1.8. Scope: -
 1) Programs/Goals: -This is a process of deciding the activities the activities’
predetermined objectives.
2) Budgeting: - The process of budgeting involves conversion of each programmer into
monetary terms.
3) Operating and Accounting: - This process is concerned with keeping records of the
resources that are actually consumed and the revenues actually earned.
4) Reporting and Analysis: - No Control program can function in the absence of
information.

1.1.9. Functions: -
1) Planning the activities of an organization.
2) Co-ordinating the activities of the organization.
3) Communicating information to different levels of the hierarchical structure.
4) Evaluating information and deciding the action to be taken.
5) Influencing people to change their behavior.

1.1.10. Process: -
1) Setting Performance Standards:
Performance standards may be set by staff or managers, by mangers and staff or
by managers with input from employees whose performance is being measured.

2) Measure and Compare Actual with Planned Results: -

As with setting standards, the objectivity of the measurement and the person who
measures and compares the performance are important.

3) Evaluate Results, give Feedback and Coach: -

The third steps is most effective when steering controls are selected. With these
controls, forecasters of the results can also be used for early warning that specific
actions may be required.

4) Take Corrective Action: -

Making changes as the activity is in progress is a form of corrective action. The
real correction occurs when warnings rose by the forecasters or predictors are
confirmed.

1.1.11. Techniques of Management Control Systems:-

1) Balanced Scorecard: -
The Balanced Scorecard (BSC) is a performance management tool which began
as a concept for measuring whether the smaller-scale operational activities of a
company are aligned with its larger-scale objectives in terms of vision and strategy.

2) TQM: -
Total Quality Management (TQM) is a business management strategy aimed at
embedding awareness of quality in all organization processes.
 i) Total :- Involving the entire organization, supply chain and/or product life
cycle.
ii) Quality: - With its usual definitions, with all its complexities.
iii) Management: - The system of managing with steps like Plan, Organize,
Control, Lead, Staff, provisioning and organizing.

3) Kaizen (Continuous Improvement): -

Kaizen (Japanese for “improvement”) is a Japanese philosophy that focuses on
continuous improvement throughout all aspects of life.

4) Activity-Based Costing: -
Activity-Based Costing (ABC) is a costing model that identifies activities in an
organization and assigns that const of each activity resource to all products and
services according to the actual consumption by each it assigns more indirect costs
(overhead) into direct costs.

5) Target Costing: -
Target costing is a pricing method used by firms. It is defined as “a cost
management tool for reducing then overall cost of a product over its entire life-cycle
with the help of production, engineering, research and design”.

6) Benchmarking and Bench-trending: -

Benchmarking is the process of comparing the cost, cycle time, productivity or
quality of a specific process or method to another that is widely considered to be an
industry standard or best practice.

7) JIT: -
i) Just-In-Time Compilation:
A technique for improving the performance of virtual machines in
computing
ii) Just-In-Time (Business)
A business inventory strategy

8) Budgeting: -
Budget generally refers to a list of all planned expenses and revenues. It is a plan
for saving and spending.

9) Capital Budgeting: -
Capital budgeting (or investment appraisal) is the planning process used to
determine whether a firm’s long-term investments such as new machinery,
replacement machinery, new plants, new products and research development
projects are worth pursuing. It is budget for major capital or investment,
expenditures.

1.1.12. Criteria for Successful Management Control Systems: -

 A control system is necessary in any organization in which the activities of
different divisions, departments sections and so on need to be co-ordinate and controlled.
There are three fundamental beliefs underlying most successful control systems:
i) Planning and control are the two most closely interrelated management
functions.
ii) The human side of the control process needs to be stressed as much as, it
not more than, the tasks or ‘numbers crunching’ side.
iii) Finally, evaluating, coaching and rewarding are more effective in the long-
term than measuring, comparing and pressuring or penalizing.

1.1.13. Future of Management Control Systems: -

As organizations mature and as environments change, managers must expand and
refine their management control tools.
Different goals require different actions and related targets as well as different
benchmarks for evaluating performance. The management control system must evolve,
too or the organization may not manage its resources effectively or efficiently.
1) Always expect that individuals will be pulled in the direction of their own self-interest.
2) Design incentives so that individuals who pursue their own self-interest also achieve the
organization’s objectives.
3) Evaluate actual performance based on expected or planned performance, revised, if
possible, for actual output achieved.
4) Consider non-financial performance to be an important determinant of long-term success.
In the short-run, a manager may be able to generate good financial performance while
neglecting non-financial performance, but it is not likely over a longer haul.
5) Array performance measures across the entire value chain of the company. This ensures
that the management control system incorporates all activities that are critical to the long-
run success of the company.
6) Periodically review the success of the management control system.
7) Learn from the management control successes (and failures) of competitors around the
world.

1.1.14. Areas of Management Control Systems: -

The implementation of strategy comes in the domain of management control
systems. The consider strategic planning, management control and task control as three
interrelated processes of planning and control. They view management control as a
“process by which managers influence other members of the organization to implement
the organization’s strategies”.

Strategic Management Operational

Planning Control Control

Figure: Types of Planning and Control Systems

To summarize, the domain of Management control systems includes the following:
 1) Strategic planning,
2) Management control
3) Task (operational) control,

1.2. STRATEGIC PLANNING

Strategic planning concerned mainly with the designing
1) The direction in which the company should move,
2) The implementation of the plan for the subsequent period, and
3) The alternatives, which are to be sacrificed, if the plan is accepted and
implemented.

1.2.1. Nature and Scope of Strategic Planning:-

1) Serves as a route map for the corporation.
2) Lends a framework for systematic handling of corporate decisions.
3) Lays down growth objectives of the firm and also provides strategies needed
for achieving them.
4) Ensures the firm remains a prepared organization.
5) Ensures that firm’s businesses, products and markets are chosen wisely.
6) Ensures best utilizations of the firm’s resources among the product-market
opportunities.
7) Serves as a hedge against uncertainty arising from environmental turbulence.
8) Helps the firm understand trends in advance and provides the benefit of a lead
time for taking crucial decisions and actions.
9) Helps avoid haphazard response to environment.
10) Provides the best possible fit between the firm and the external environment.
11) Helps build competitive advantages and core competencies.
12) Draws from both intuition and logic.
13) Prepares the firm to not only face the future but even shape the future in its
favor.
14) Seeks to influence the firm’s mega environs (surroundings) in its favor,
working into the environs and shaping it.

1.2.2. Reasons for the Growth of Strategic Planning: -

1) Increasing Rate of Technological Change: -
2) Long-term Business plan Orientation: -
3) Increasing Complexity of External Environment: -
4) Offset Uncertainty and Change: -
5) Focus Attention on Objectives: -
6) Increase Organizational Effectiveness: -
7) Meet the Challenges: -
8) Provides Better Basis for Making Judgments: -
9) Continuous Process:-
1.2.3. Process of Strategic Planning: -

Establishing Establishing Planning Premises Deciding Finding

Goals Planning Alternative
1) Internal and External
Period Course of
2) Tangible and Intangible
3) Controllable and Non-controllable Action

Evaluation and
Selection

Control Implementation Develop

derivative plans

Process of Strategic Planning

1.2.4. Benefits of Strategic Planning: -

1) Framework for Developing the Operating Budget
2) Management Development Too
3) Mechanism to Force Managers to Think Long – Term
4) Help in Aligning Managers with Corporate Strategies
5) Framework for Short-Run Actions

1.2.5. Limitations of Strategic Planning: -

1) Managements Fail To Monitor
2) Reluctant to Formulate Objectives
3) Afraid of Failure
4) Fail to Integrate Plans
5) Unskilled Managers
6) Mislead Forecast
7) Inefficient Planning
8) Inter-Group Conflicts
1.3. Management Control: -
According to Robert Anthony, “Management Control is a total system that embraces all
aspects of all the firm’s operations and assures that all operations are in balance”.
1) Organizational objectives are achieved, and
2) The use of resources is made effective and efficient.

1.3.1. Features of Management Control: -

1) Process
2) Managers
3) Strategies
4) Assures
5) Effectively
6) Efficiently

1.3.2. Principles of Management Control: -

1) Principle of Assurance of Objective
2) Principle of Efficiency of Control
3) Principle of Control Responsibility
4) Principle of Future Controls
5) Principle of Direct Control
6) Principle of Reflection of Plans
7) Principle of Organization Suitability
8) Principle of Individuality of Controls
9) Principle of Standards
10) Principle of Controlling Strategic Points
11) Principle of Exception
12) Principle of Flexibility of Controls
13) Principle of Review
14) Principle of Action

1.3.3. Process of Management Control

Organization the Segmenting the Risk

Process Organization Assessment

Reporting

Corrective Management Control Planning Further

Actions Evaluation Activities
 Figure: Process of Management Control

1.3.4. Factors Affecting Management Control: -

1) Indentify the key factors in the business operations. These factors need to be
controlled in order to achieve the given targets or goals.
2) The basis for establishing standards of performance such as budgets, standard cost,
ratios, etc. These variables form the basis of comparison with actual.
3) Define the information required for measuring the performance. The data may relate
to accounting information or operational information.
4) Establishing a reporting system is essential to indentify and evaluate performance and
reporting the results to superiors.
5) The process of measuring may lack objectivity and thus, get biased. This is a common
problem faced in social sciences.
6) The traditional measurement system often conceals more than it highlights. The need
here is for management control that focuses attention on crucial events and results.
7) The control system should be able to monitor the external environment for it is this
environment that affects the earning potential of the organization.
8) Management control specialists should be able to understand and report on
measurable variables, the past and the future and the internal and external
environment. Failure to do this renders management control ineffectiveness.

1.3.5. Management Control Activities.

1) Management control of operating activities, and
2) Control of operational projects.
1.3.5.1. Management Control of Operating Activities: -
1) Programming
2) Budget Preparation
3) Execution and Evaluation
1.3.5.2. Management Control of Operational Projects: -
A project is a set of activities intended to accomplish a specified end result of
sufficient importance to be it interest to management

In a project and in each of its components, the focus is on three aspects:

1) Its scope (i.e., the specifications for the end product)

2) Its schedule (i.e., the time required) and
3) Its Cost.
1.4. OPERATIONAL CONTROL
Operational control is also referred as Task Control. Operational control is
concerned individual and group performance as compared with the individual and group
role prescriptions required by organizational plans.
1) Focusing on specific, discrete tasks, and
2) The process of ensuing that those tasks are done effectively and efficiently.
1.4.1. Relationship between strategic Planning, Management Control and Operational
Control:
Strategic Planning, Management Control and Operational Control are
interdependent and interrelated activities.
Strategic Planning deals with deciding the goals of an organization and providing
resources needed for attaining the goals and policies. It thus, lays the foundation for
management Control because once goals are determined the management translates them
into specific tasks and pursues the goals.
Management Control focuses on the performance of each responsibility centre. It
involves control of managers of responsibility centers by the higher ups. As such it sets
guidelines for Operational Control.
The managers of responsibilities centre in turn identify specific tasks and exercise
control over them. It goes without saying that if operational control is not properly
exercised, attainment of goals is just not possible. This creates imbalances and poses
threats before the organization that may be forced to look again at its strategies and
introduces necessary changes.
1.5. CYBERNETIC PARADIGM OF GRIESINGER : -
Management control systems use feedback loops like machine and biological
systems. The complexity of managing machines is not similar to the basic steps of control
in biological systems. It is called as cybernetic paradigm and can be explained as in
figure below.

Environment Decision-Maker Goal

(Internal-Org. Factual

External – Ind/Eco) Premise Value Premise

Feed Back Perception
Sensor Comparator

Behavior
Repertoire
Effectors
 Figure: Cybernetic Paradigm by Griesinger

1) Set Goals and Performance Measures

2) Measure Achievements
3) Compare Achievements with Goals
4) Computer Variance
5) Determine the Causes of Variance
6) Take Action to Eliminate Variance
7) Follow Up
Questions in this chapter:

Q1. Explain the term M.C.S. & its essentials. What are factors affecting management
control

 Refer from 1.11 to 1.1.4

 Refer 1.3.4.

Q2.Explain various techniques in management control systems.

 Refer 1.1.11
Q3. Explain the process, benefits & limitations of strategic planning.

 Refer 1.2.3 to 1.2.5

Q4. Explain Cybernectic paradigm of Griesinger

 Refer 1.5
For further reference management control systems by Anthony& Govindrajan