Management Control Systems

Chapter 2
Understanding Strategies
Understanding Strategies

 Management control system are tools to implement strategies.

 Strategies differ between organizations.
 Controls should be tailored to be requirements of specific strategies.
 Different strategies require different task priorities, different key success factors,
and different skills, perspectives, and behavior.
 A continuing concern in design of control systems should be whether the
behavior induced by the system is the one called for by the strategy.
 Strategies are plans to achieve organization goals.
GOALS

 Corporate goals are determined by the chief executive officer (CEO)

of the corporation, with the advice of other members of senior
management, and they are usually ratified by the board of directors.
 In many corporations, the goals originally set by the founder persist
for generations.
Profitability

 Profitability is usually the most important goal.

 Profitability is expressed by Return on Investment.
= (Revenue-Expense) x Revenue
Revenue Investment
= Profit Margin percentage x Investment Turnover
 Profitability refers to profits in the long run, rather than in the current quarter or
year.
 Many current expenditures reduce current profits but increase profits over time.
Maximizing Shareholders Value

 Maximize shareholders value concept is the appropriate goal of a for-profit-

corporation.
 However, satisfactory profit is a better way of stating a corporations goal.
 There’s 2 reasons:
1. Maximizing is to find the maximum amount that a company can earn. But,
management usually select the one it believes will increase profitability the most
with all identifiable alternatives.
2. Optimizing shareholders value is not the only goal. Company has to behave
ethically, and most fell an obligation to other stakeholders.
Risk

 An organization’s pursuit of profitability is affected by management’s willingness

to take risks.
 The degree of risk taking varies with the personalities of individual managers.
 There is always an upper limit. Some organizations explicitly state that
management’s primary responsibility is to preserve the company’s assets, with
profitability considered a secondary goal.
Multiple Stakeholders Approach

 Organizations participate in 3 markets:

- capital market (raises funds  stockholders)
- product market (sells product and services  customers)
- factor market (competes for resources  employees, suppliers, and
communities)
 The firm has a responsibility to all these multiple stakeholders: shareholders,
customers, employees, suppliers, and communities.
 Management control system should identify the goals for each of these groups
and develop scorecards to track performance.
The Concept of Strategy

 Strategy describe the general direction in which an organization plans to move to

attain its goals.
 Strategy formulations (Kenneth R. Andrews) is a process that senior executives
use to evaluate a company’s strengths and weaknesses in light of the opportunities
and threats present in the environment and then to decide strategies that fit the
company’s core competencies with environmental opportunities.
Strategy Formulation
Two levels of strategy
Corporate-Level Strategy

 Corporate strategy is about being in the right mix of business.

WHERE to compete  corporate-level strategy
HOW to compete in a particular industry  business-unit strategy
 Issues at corporate level strategy:
1. The definition of business in which the firm will participate,
2. The deployment of resources among those business.
 Company categories in terms of their corporate-level strategy: single industry,
related diversification, unrelated diversification (conglomerates).
Corporate-Level Strategy
Implications of Control System Design

 The planning and control requirements of companies pursuing different corporate

level diversification strategies are quite different.
 The key issue for control systems designers is: How should the structure and form
of control differ across a single industry firm, a related diversified firm, or an
unrelated diversified firm.
Corporate-Level Strategy
Business Unit Strategy

 Business unit strategies deal with how to create and maintain competitive
advantage in each of the industries in which a company has chosen to participate.
 The strategy of a business unit depends on:
1. Business unit mission
2. Business unit competitive advantage
Business unit mission

 One important task is RESOURCE DEPLOYMENT.

 Several planning models have been developed to help corporate level managers
of diversified firms to effectively allocate resources.
 A firm has business units in several categories, identified by their mission.
Together, the several units make up a portfolio.
 They have the same set of missions to choose: build, hold, harvest, and divest.
Business unit mission
Business unit competitive advantage

Three interrtelated questions have to be considered in developing the business unit’s

competitive advantage:
1. What is the structure of the industry in which the business unit operates?
2. How should the business unit exploit the industry’s structure?
3. What will be the basis of the business competitive advantage?

Michael Porter has described two analytical approaches: industry analysis and value
chain analysis.
Five Forces Model
Industry Analysis

The structure of an industry should be analyzed in terms of collective strength of five

competitive forces.
 The more powerful the five forces are, the less profitable an industry is likely to be.
 Depending on the relative strength of the five forces, the key strategic issues facing the
business unit will differ from one industry to another.
 Understanding the nature of each force helps the firm to formulate effective strategies.

Business has two generic ways in responding opportunities:

LOW COST and DIFFERENTATION
Value Chain Analysis
 Competitive advantage in the market-place ultimately derives from providing
better customer value for an equivalent cost or equivalent customer value for a
lower cost.
 The value chain disaggregates the firm into its distinct strategic activities.
 The value chain is the complete set of activities involved in a product, beginning
with extraction of raw material and ending with post-delivery support to
customers.
 The value chain framework is a method for breaking down the chain—from basic
raw materials to end-use customers—into specific activities in order to
understand the behavior of costs and the sources of differentiation.
Value Chain Analysis
Case 2-5

Cisco Systems (B)

(page 91-95)

Question:
1. What do you think of the way Cisco funds new e-business initiatives?
2. Do you think Cisco should centralize any aspect of the innovation process? Which of the
three possibilities above seems most appropriate (or can you suggest a different one)?
Why? How would you define the specific charter of the new organization?
3. Can Cisco measure its innovative efforts? Tie compensation to these efforts? If so, how?