STRATEGIC

COST
MANAGEMENT
DR. CESAR A.
MANSIBANG
PICPA HOUSE
Mandaluyong City
September 10, 2016
Course Objectives

At the end of this course, the participants shall be able to:

• define effective cost management strategies
• develop a systemic approach in managing cost for
strategic purposes
• understand and apply strategic management and
strategic cost analysis
• understand the dynamics of underlying systems which
drive and influence cost elements
Course Objectives

• analyze and evaluate the specific cost drivers of their

business
• deepen appreciation on the need for accurate product
costing for competitiveness
• apply cost management techniques in decision making
What is Strategic Cost Management?

Strategic Cost Management 

is the application of cost management techniques that
simultaneously improve the strategic position of a firm and reduce
costs (R. Cooper, 1998). 
Strategic cost management methods can be applied in service,
manufacturing, and not-for-profit arenas. 
Why Manage Cost Strategically
• To be able to sustain the viability of the company
• To enhance the competitiveness of the company against
competitors
• To maintain the strategic position of the company
• To gain differential advantage against competition
• To enable informed decisions (go or no go)
• To achieve the corporate goals of the company
• To provide value to the various stakeholders particularly
employees, customers, and suppliers
Management System Approach to
Cost Management

Planning
Directing and
Motivating

Controlling
Planning

Identify
alternatives.

Select alternative that does

the best job of furthering
organization’s objectives.

Develop budgets to guide

progress toward the
selected alternative.
Directing and Motivating
Directing and motivating involves managing
day-to-day activities to keep the organization
running smoothly.
• Employee work assignments.
• Routine problem solving.
• Conflict resolution.
• Effective communications.
Controlling
The control function ensures
that plans are being followed.

Feedback in the form of performance reports

that compare actual results with the budget
are an essential part of the control function.
Planning and Control Cycle
Formulating long-and
Begin
short-term plans
(Planning)

Comparing actual
Implementing
to planned Decision plans (Directing and
performance Making Motivating)
(Controlling)

Measuring
performance
(Controlling)
Line and Staff Relationships
Line positions are Staff positions support
directly related to and assist line
achievement of the positions.
basic objectives of an  Example: Cost
organization. accountants in the
manufacturing plant.
 Example: Production
supervisors in a
manufacturing plant.
Organizational Structure
Decentralization is the delegation of decision-making
authority throughout an organization.

Corporate O rganization Chart

B oa rd of D irectors

P resident

P urcha sing Personnel V ice P resident C hief Fina ncia l

O pera tions O fficer

T rea surer C ontroller

Strategy
A strategy
is a “game plan”
that enables a company
to attract customers
by distinguishing itself
from competitors.

The focal point of a

company’s strategy should
be its target customers.
Customer Value Propositions

Customer
Understand and respond to
Intimacy
individual customer needs.
Strategy

Operational Deliver products and services

Excellence faster, more conveniently,
Strategy and at lower prices.

Product
Leadership Offer higher quality products.
Strategy
Overarching Management
Goals

• Economy – avoiding, minimizing, and creating value

for money from input use
• Efficiency – implementing processes to improve the
use of inputs to achieve higher outputs
• Effectiveness – setting goals and objectives and
achieving them
The Chief Financial Officer
(CFO)/Cost Accountants
A member of the top management team responsible for:
• Providing timely and relevant data to support planning and
control activities.
• Preparing financial statements for external users.
• Helping in crafting strategies especially on strategic cost
exposures and their minimization
Concepts of Costs

• Exposures and expenditures of capital and their

attendant cost of management and opportunity
foregone:
• Outlay of capital
• Cost of operations
• Cost of capital and opportunity
Concepts of Costs

• Amounts of inputs and resources put into the cost

of the product (manufacturing/prime and
conversion costs):
• Product Costs
• Materials
• Labor
• Overhead
Concepts of Costs
• Amounts of inputs and resources spent for bringing
the product to the customers and for administrative
and backroom support:
• Marketing and Selling
• General Administrative
Concept of Costs
• Amount of inputs and resources brought about by
borrowing other statutorily imposed:
• Interest and financing
• Income taxation
Concept of Costs
• Amounts of inputs and resources lost and wasted
due to inefficiency, bottlenecks, over and under
spending, delays, returns, defects, lost discounts,
breakdowns, and other operating losses
Cost Behaviors and Functions

• Costs based on behavior

• Variable
• Fixed
• Costs based on discretion
• Costs based on traceability
• Direct
• Indirect
Production Concepts and Cost
Implications

Understand the basic

concepts underlying Lean
Production, the Theory of
Constraints, and Six Sigma.
Process Management
A business
process is a series of
steps that are followed in order to
carry out some task in
a business.

Product Customer
R&D Design Manufacturing Marketing Distribution Service

Business functions making up the value chain

Process Management
There are three approaches to
improving business processes . . .
Theory of
Constraints (TOC)
 Lean  Six
Production Sigma
 Traditional “Push” Manufacturing
Company

Forecast Sales Order components Store Inventory

Make Sales from

Finished Goods Store Produce goods in
Inventory Inventory anticipation of Sales
 Traditional “Push” Manufacturing Company

Traditional “push” Large

manufacturing inventories

Raw Work in Finished

materials process goods

Materials waiting Completed products

to be processed. awaiting sale.

Partially completed products

requiring more work before they
are ready for sale.
Lean Production
 Identify value  Identify the
in specific business process
products/services. that delivers value.

The lean thinking  Organize work

arrangements around
model is a five
the flow of the
step approach. business process.

 Continuously pursue  Create a pull

perfection in the system that responds
business process. to customer orders.
 Lean Production
The five step process results in a “pull” manufacturing system
that reduces inventories, decreases defects, reduces
wasted effort, and shortens customer response times.

Customer places Create Production Generate component

an order Order requirements

Goods delivered Production begins Components

when needed as parts arrive are ordered
Lean Production
Lean thinking can be used to improve business
processes that link companies together. 

The term supply chain management refers to the

coordination of business processes across
companies to better serve end consumers.
Theory of Constraints
A constraint (also called a bottleneck) is anything that
prevents you from getting more of what you want.
The Theory of Constraints is based on the observation that
effectively managing the constraint is the key to success.

The constraint in a system is determined

by the step that has the smallest capacity.
 Theory of Constraints
Only actions 2. Allow the
that strengthen weakest link to set
the weakest link the tempo.
in the “chain”
improve the
process.
3. Focus on
1. Identify the improving the
weakest link. weakest link.

4. Recognize that the

weakest link
is no longer so.
Six Sigma
A process improvement method relying on customer feedback
and fact-based data gathering and analysis techniques to drive
process improvement.

Refers to a process that Sometimes associated

generates no more with the term zero
than 3.4 defects per million defects.
opportunities.
Six Sigma
The Six Sigma DMAIC Framework
Stage Goals
Define ● Establish the scope and purpose of the project.
● Diagram the flow of the current process.
● Establish the customer's requirements for the
process.
Measure ● Gather baseline performance data related to
the existing process.
● Narrow the scope of the project to the most
important problems.
Analyze ● Identify the root cause(s) of the problems
identified in the Measure stage.
Improve ● Develop, evaluate, and implement solutions
to the problems.
Control ● Ensure that problems remain fixed.
● Seek to improve the new methods over time.
Managing Costs through
Integrated Financial Analysis

• The Du Pont System is an exhaustive analysis of

financial data that enables the identification of the
cost effects and their drivers.
• The Du Pont System is Cause-Effect Analysis or also
called the Fishbone Analysis
 EXPANDED DU PONT SYSTEM – ROA/ROE

Materials Sales Earnings

+ - after tax Return
on
Total
Direct Labor : Assets
Total Cost & Sales
+ Expenses Sales Return
Overhead
on
+ Sales Volume X Asset X : Return
Selling on
X Sales Equity
+ Asset.
Administration Sales Price
Turn-
: Total
over
Cash
Total Working Equity
+ Capital
Total
Receivables Assets
+
+ Property, Plant
Inventories
& Equipment
Managing Costs through a
Disaggregation Approach

Traditionally, the approach to reducing costs is by

total percentage goals, e.g. reduce product cost by
5%. Disaggregation enables the breaking up of the
elements of product cost into their major
subcomponents to determine which subcomponent
cost can provide the best possible results to achieve
the goal. It enhances the critical ability of the Analyst
to look at out-of-line items, materiality of exposures,
non-value items, and their causes.
Manufacturing Costs
Direct Direct Manufacturing
Materials Labor Overhead

The Product
Direct Materials
Raw materials that become an integral
part of the product and that can be
conveniently traced directly to it.

Example: A radio installed in an automobile

Direct Labor
Those labor costs that can be easily traced
to individual units of product.

Example: Wages paid to automobile assembly workers

Manufacturing Overhead
Manufacturing costs that cannot be traced
directly to specific units produced.

Examples: Indirect materials and indirect labor

Materials used to support the Wages paid to employees who

production process.
Examples: lubricants and cleaning
supplies used in the automobile
assembly plant.
are not directly involved in
production work.
Examples: maintenance workers,
janitors and security guards.
Nonmanufacturing Costs

Selling Administrative
Costs Costs

Costs necessary to secure All executive,

the order and deliver the organizational, and
product. clerical costs.
Product Costs Versus Period
Costs
Product costs include direct
materials, direct labor, and
manufacturing overhead.
Period costs include all selling
costs and administrative
costs.

Inventory Cost of Good Sold Expense

Sale

Balance Income Income

Sheet Statement Statement
Managing Costs through
Cost-Volume-Profit
Analysis
 Basics of Cost-Volume-Profit
Analysis
The contribution income statement is helpful to managers
in judging the impact on profits of changes in selling price,
cost, or volume. The emphasis is on cost behavior.
Racing Bicycle Company
Contribution Income Statement
For the Month of June
Sales (500 bicycles) $ 250,000
Less: Variable expenses 150,000
Contribution margin 100,000
Less: Fixed expenses 80,000
Net operating income $ 20,000

Contribution Margin (CM) is the amount remaining from

sales revenue after variable expenses have been deducted.
Basics of Cost-Volume-Profit
Analysis
Racing Bicycle Company
Contribution Income Statement
For the Month of June
Sales (500 bicycles) $ 250,000
Less: Variable expenses 150,000
Contribution margin 100,000
Less: Fixed expenses 80,000
Net operating income $ 20,000

CM is used first to cover fixed expenses. Any

remaining CM contributes to net operating income.
 The Contribution Approach
Sales, variable expenses, and contribution margin can also
be expressed on a per unit basis. If Racing sells an
additional bicycle, $200 additional CM will be generated
to cover fixed expenses and profit.
Racing Bicycle Company
Contribution Income Statement
For the Month of June
Total Per Unit
Sales (500 bicycles) $ 250,000 $ 500
Less: Variable expenses 150,000 300
Contribution margin 100,000 $ 200
Less: Fixed expenses 80,000
Net operating income $ 20,000
 The Contribution Approach
Each month, RBC must generate at least $80,000 in
total contribution margin to break-even (which is the
level of sales at which profit is zero).
Racing Bicycle Company
Contribution Income Statement
For the Month of June
Total Per Unit
Sales (500 bicycles) $ 250,000 $ 500
Less: Variable expenses 150,000 300
Contribution margin 100,000 $ 200
Less: Fixed expenses 80,000
Net operating income $ 20,000
The Contribution Approach
If RBC sells 400 units in a month, it will be
operating at the break-even point.
Racing Bicycle Company
Contribution Income Statement
For the Month of June
Total Per Unit
Sales (400 bicycles) $ 200,000 $ 500
Less: Variable expenses 120,000 300
Contribution margin 80,000 $ 200
Less: Fixed expenses 80,000
Net operating income $ -
 The Contribution Approach
We do not need to prepare an income statement to
estimate profits at a particular sales volume. Simply
multiply the number of units sold above break-even
by the contribution margin per unit.

If Racing sells
430 bikes, its net
operating income
will be $6,000.
CVP Relationships in Equation Form
The contribution format income statement can be
expressed in the following equation:

Profit = (Sales – Variable expenses) – Fixed expenses

Racing Bicycle Company

Contribution Income Statement
For the Month of June
Total Per Unit
Sales (401 bicycles) $ 200,500 $ 500
Less: Variable expenses 120,300 300
Contribution margin 80,200 $ 200
Less: Fixed expenses 80,000
Net operating income $ 200
CVP Relationships in Equation Form
This equation can be used to show the profit RBC
earns if it sells 401. Notice, the answer of $200 mirrors
our earlier solution.
Profit = (Sales – Variable expenses) – Fixed expenses

$80,000
401 units × $500
401 units × $300

Profit
$200 = ($200,500 – $120,300)
Variable expenses)
– $80,000
Fixed expenses
– Fixed
 CVP Relationships in Equation Form
When a company has only one product we can further
refine this equation as shown on this slide.

Profit = (Sales – Variable expenses) – Fixed expenses

Quantity sold (Q) Quantity sold (Q)

× Selling price per unit (P) × Variable expenses per unit (V)
= Sales (Q × P) = Variable expenses (Q × V)

Profit = (P × Q – V × Q) – Fixed expenses

CVP Relationships in Equation Form
This equation can also be used to show the $200
profit RBC earns if it sells 401 bikes.

Profit = (Sales – Variable expenses) – Fixed expenses

Profit = (P × Q – V × Q) – Fixed expenses

$200 = ($500 × 401 – $300 × 401) – $80,000

Profit
 CVP Relationships in Equation Form
It is often useful to express the simple profit equation in
terms of the unit contribution margin (Unit CM) as follows:

Unit CM = Selling price per unit – Variable expenses per unit

Unit CM = P – V
Profit = (P × Q – V × Q) – Fixed expenses
Profit = (P – V) × Q – Fixed expenses
Profit = Unit CM × Q – Fixed expenses
 CVP Relationships in Equation Form
Profit = (P × Q – V × Q) – Fixed expenses
Profit = (P – V) × Q – Fixed expenses
Profit = Unit CM × Q – Fixed expenses

Profit = ($500 – $300) × 401 – $80,000

Profit = $200 × 401 – $80,000
This equation
Profit = $80,200 – $80,000 can also be
Profit = $200 used to
compute RBC’s
$200 profit if it
sells 401 bikes.
 Managing Costs
through Variable
Costing
 Overview of Absorption and
Variable Costing
Absorption Variable
Costing Costing
Direct Materials
Product
Product Direct Labor
Costs
Costs Variable Manufacturing Overhead

Fixed Manufacturing Overhead

Period
Period Variable Selling and Administrative Expenses
Costs
Costs Fixed Selling and Administrative Expenses
Unit Cost Computations
Harvey Company produces a single product
with the following information available:

Number of units produced annually 25,000

Variable costs per unit:
Direct materials, direct labor,
and variable mfg. overhead $ 10
Selling & administrative expenses $ 3

Fixed costs per year:

Manufacturing overhead $ 150,000
Selling & administrative expenses $ 100,000
 Unit Cost Computations
Unit product cost is determined as follows:
Absorption Variable
Costing Costing
Direct materials, direct labor,
and variable mfg. overhead $ 10 $ 10
Fixed mfg. overhead
($150,000 ÷ 25,000 units) 6 -
Unit product cost $ 16 $ 10

Under absorption costing, all production costs, variable

and fixed, are included when determining unit product
cost. Under variable costing, only the variable
production costs are included in product costs.
Managing Costs through
Activity Based Costing
(ABC)
 Activity–Based Costing (ABC)
ABC is a
ABC is designed to provide good supplement
managers with cost to our traditional
information for strategic cost system
I agree!
and other decisions that
potentially affect capacity
and therefore affect
“fixed”
as well as variable costs.
How Costs are Treated Under
Activity–Based Costing
ABC differs from traditional cost accounting in three ways.

Manufacturing Nonmanufacturing
costs costs

Traditional ABC
product costing product costing

 ABC assigns both types of costs to products.

 How Costs are Treated Under
Activity–Based Costing
ABC differs from traditional cost accounting in three ways.

Manufacturing Nonmanufacturing
costs costs
Mo

Some
st, b
All

not ut
all
Traditional ABC
product costing product costing

 ABC does not assign all manufacturing costs to products.

How Costs are Treated Under
Activity–Based Costing
ABC differs from traditional cost accounting in three ways.
Level of complexity

Activity–Based
Costing

Departmental
Overhead
Rates
Plantwide
Overhead
Rate

Number of cost pools

 ABC uses more cost pools.
 How Costs are Treated Under
Activity–Based Costing
ABC differs from traditional cost accounting in three ways.

Each ABC cost pool has its

own unique measure of activity.

Traditional cost systems usually rely

on volume measures such as direct labor
hours and/or machine hours to allocate
all overhead costs to products.

 ABC uses more cost pools.

How Costs are Treated Under
Activity–Based Costing
An event that causes the
Activity consumption of overhead
resources.

A “cost bucket” in which costs

Activity
related to a single activity
Cost Pool measure are accumulated.
$$
$
$ $
$
How Costs are Treated Under
Activity–Based Costing
The term cost driver is
Activity
also used to refer to
Measure
an activity measure.

An allocation base
in an activity-based
costing system.
How Costs are Treated Under
Activity–Based Costing
Two common types of activity measures:

Transaction Duration
driver driver

Simple count A measure

of the number of of the amount
times an activity of time needed
occurs. for an activity.
 How Costs are Treated Under
Activity–Based Costing
ABC defines
five levels of activity
that largely do not relate
to the volume of units
produced.

Traditional cost systems usually rely on volume

measures such as direct labor hours and/or machine
hours to allocate all overhead costs to products.
How Costs are Treated Under
Activity–Based
Unit-Level Costing Batch-Level
Activity Activity

Manufacturing
companies typically combine
their activities into five
classifications.

Product-Level Customer-Level
Activity Organization- Activity
sustaining
Activity
 Characteristics of Successful
ABC Implementations

Strong top
management support
Link to evaluations
and rewards

Cross-functional
involvement
Define Activities, Activity Cost Pools,
and Activity Measures

Activity Cost Pools at Baxter Battery

Activity Cost Pool Activity Measure
Customer orders Number of customer orders
Design changes Number of design changes
Order size Machine-hours
Customer relations Number of active customers
Other Not applicable
Managing Costs by
Profit Planning and
Budgeting
The Basic Framework of
Budgeting
A budget is a detailed quantitative plan for
acquiring and using financial and other resources
over a specified forthcoming time period.
1. The act of preparing a budget is called
budgeting.
2. The use of budgets to control an
organization’s activities is known
as budgetary control.
 Planning and Control
Planning – Control –
involves developing involves the steps taken by
objectives and management to increase
preparing various the likelihood that the
budgets to achieve objectives set down while
those objectives. planning are attained and
that all parts of the
organization are working
together toward that goal.
Advantages of Budgeting
Define goals
and objectives
Communicate Think about and
plans plan for the future

Advantages
Coordinate Means of allocating
activities resources

Uncover potential
bottlenecks
Responsibility Accounting

Managers should be held

responsible for those
items - and only those
items - that they can
actually control
to a significant extent.
 Choosing the Budget Period
Operating Budget

2008 2009 2010 2011

Operating budgets ordinarily

A continuous budget is a
cover a one-year period
12-month budget that rolls
corresponding to a company’s
forward one month (or quarter)
fiscal year. Many companies
as the current month (or quarter)
divide their annual budget
is completed.
into four quarters.
 Self-Imposed Budget
Top M an ag em en t

M id d le M id d le
M an ag em en t M an ag em en t

S u p ervis or S u p ervis or S u p ervisor S u p ervis or

A self-imposed budget or participative budget is a budget that is

prepared with the full cooperation and participation of managers
at all levels.
 Advantages of Self-Imposed
1. Budgetsat all levels of the organization are viewed as
Individuals
members of the team whose judgments are valued by top
management.
2. Budget estimates prepared by front-line managers are
often more accurate than estimates prepared by top
managers.
3. Motivation is generally higher when individuals participate
in setting their own goals than when the goals are
imposed from above.
4. A manager who is not able to meet a budget imposed
from above can claim that it was unrealistic. Self-imposed
budgets eliminate this excuse.
Self-Imposed Budgets
Self-imposed budgets should be reviewed by
higher levels of management to prevent
“budgetary slack.”
Most companies issue broad guidelines in
terms of overall profits or sales. Lower level
managers are directed to prepare budgets
that meet those targets.
Human Factors in Budgeting
The success of a budget program depends on three
important factors:
1.Top management must be enthusiastic and
committed to the budget process.
2.Top management must not use the budget to
pressure employees or blame them when
something goes wrong.
3.Highly achievable budget targets are usually
preferred when managers are rewarded based on
meeting budget targets.
The Budget Committee
A standing committee responsible for
 overall policy matters relating to the budget
 coordinating the preparation of the budget
 resolving disputes related to the budget
 approving the final budget
The Master Budget: An Overview
Sales budget

Selling and
Ending inventory administrative
Production budget
budget budget

Direct materials Direct labor Manufacturing

budget budget overhead budget

Cash Budget

Budgeted
Budgeted
income
balance sheet
statement
 Managing Costs
through Standards
 Standard Costs
Standards are benchmarks or “norms” for
measuring performance. In managerial accounting,
two types of standards are commonly used.

Quantity standards Price standards

specify how much of an specify how much
input should be used to should be paid for
make a product or each unit of the
provide a service. input.

Examples: Firestone, Sears, McDonald’s, hospitals,

construction and manufacturing companies.
 Standard Costs
Deviations from standards deemed significant
are brought to the attention of management, a
practice known as management by exception.

Standard
Amount

Direct
Material
Direct Manufacturing
Labor Overhead

Type of Product Cost

Variance Analysis Cycle
Take
Identify Receive corrective
questions explanations actions

Conduct next
Analyze period’s
variances operations

Prepare standard
Begin
cost performance
report
Setting Standard Costs
Accountants, engineers, purchasing
agents, and production managers
combine efforts to set standards that encourage
efficient future operations.
 Setting Standard Costs
Should we use I recommend using practical
ideal standards that standards that are currently
require employees to attainable with reasonable
work at 100 percent and efficient effort.
peak efficiency?

Engineer Managerial Accountant

Managing Costs through Segment Reporting,
Decentralization, and Balance Scorecard
Decentralization in
Organizations
Benefits of Top management
Decentralization freed to concentrate
on strategy.
Lower-level managers
gain experience in
decision-making. Decision-making
authority leads to
job satisfaction.
Lower-level decisions
often based on
better information.
Lower level managers
can respond quickly
to customers.
 Decentralization in
Organizations
May be a lack of
coordination among
autonomous
Lower-level managers managers.
may make decisions
without seeing the
“big picture.” Disadvantages of
Decentralization
Lower-level manager’s
objectives may not
be those of the May be difficult to
organization. spread innovative ideas
in the organization.
 Cost, Profit, and Investments
Centers

Cost Profit Investment

Center Center Center

Cost, profit,
and investment
centers are all
known as Responsibility
Center
responsibility
centers.
 Cost Center
A segment whose manager has control over costs, but not
over revenues or investment funds.
Profit Center

Revenues
A segment whose manager
has control over both costs Sales
and revenues, Interest
but no control over Other
investment funds. Costs
Mfg. costs
Commissions
Salaries
Other
Investment Center
Corporate Headquarters

A segment whose
manager has control
over costs, revenues,
and investments in
operating assets.
 Responsibility Centers
Investment
Centers S upe rior Foods Corpora tion
Corporate H eadquarters
P resident and CEO

O perations Finance Legal P e rsonnel

V ice P resident Chief FInancial Officer G eneral Counsel V ic e P resident

S alty S nacks Beverages Confec tions

P roduct M anger P roduc t M anager P roduct M anager

Bottling P lant W arehouse Distribution Cost

Centers
M anager M anager M anager

Superior Foods Corporation provides an example of the

various kinds of responsibility centers that exist in an
organization.
 Responsibility Centers
S upe rior Foods Corpora tion
Corporate H eadquarters
P resident and CEO

O perations Finance Legal P e rsonnel

V ice P resident Chief FInancial Officer G eneral Counsel V ic e P resident

S alty S nacks Beverages Confec tions

P roduct M anger P roduc t M anager P roduct M anager

Bottling P lant W arehouse Distribution

Profit
M anager M anager M anager
Centers
Superior Foods Corporation provides an example of the
various kinds of responsibility centers that exist in an
organization.
 Responsibility Centers
S upe rior Foods Corpora tion
Corporate H eadquarters
P resident and CEO

O perations Finance Legal P e rsonnel

V ice P resident Chief FInancial Officer G eneral Counsel V ic e P resident

S alty S nacks Beverages Confec tions

P roduct M anger P roduc t M anager P roduct M anager

Bottling P lant W arehouse Distribution Cost

Centers
M anager M anager M anager

Superior Foods Corporation provides an example of the

various kinds of responsibility centers that exist in an
organization.
The Balanced Scorecard
Management translates its strategy into
performance measures that employees understand
and influence.

Financial Customers

Performance
measures
Internal Learning
business and growth
processes
 The Balanced Scorecard: From
Strategy to Performance Measures
Performance Measures
Financial What are our
Has our financial
financial goals?
performance improved?

Customer What customers do Vision

we want to serve and
Do customers recognize that
how are we going to and
we are delivering more value? win and retain them? Strategy

Internal Business Processes What internal busi-

Have we improved key business ness processes are
processes so that we can deliver critical to providing
more value to customers? value to customers?

Learning and Growth

Are we maintaining our ability
to change and improve?
 The Balanced Scorecard:
Non-financial Measures
The balanced scorecard relies on non-financial measures
in addition to financial measures for two reasons:

 Financial measures are lag indicators that summarize

the results of past actions. Non-financial measures are
leading indicators of future financial performance.

 Top managers are ordinarily responsible for financial

performance measures – not lower level managers.
Non-financial measures are more likely to be
understood and controlled by lower level managers.
The Balanced Scorecard for
Individuals
The entire organization
should have an overall
balanced scorecard.
Each individual should
have a personal
balanced scorecard.

A personal scorecard should contain measures that can be

influenced by the individual being evaluated and that
support the measures in the overall balanced scorecard.
The Balanced Scorecard
A balanced scorecard should have measures
that are linked together on a cause-and-effect basis.

If we improve Another desired

Then
one performance performance measure
measure . . . will improve.

The balanced scorecard lays out concrete

actions to attain desired outcomes.
The Balanced Scorecard and
Compensation
Incentive compensation should be linked to
balanced scorecard performance measures.
 The Balanced Scorecard ─ Jaguar
Example
Profit
Financial
Contribution per car

Number of cars sold

Customer
Customer satisfaction
with options

Internal
Business Number of Time to
options available install option
Processes

Learning Employee skills in

and Growth installing options
 The Balanced Scorecard ─
Jaguar ExampleProfit
Contribution per car

Number of cars sold

Customer satisfaction Results

with options Satisfaction
Increases
Strategies
Increase Number of Time to
Options options available install option Time
Decreases

Increase Employee skills in

Skills installing options
The Balanced Scorecard ─
Jaguar ExampleProfit
Contribution per car
Results
Cars sold
Number of cars sold Increase

Customer satisfaction
with options Satisfaction
Increases

Number of Time to
options available install option

Employee skills in
installing options
The Balanced Scorecard ─
Jaguar ExampleProfit
Results
Contribution per car Contribution
Increases

Number of cars sold

Customer satisfaction
with options Satisfaction
Increases

Number of Time to
options available install option Time
Decreases

Employee skills in
installing options
 The Balanced Scorecard ─
Jaguar ExampleProfit Results
Profits
Increase
If number
Contribution per car Contribution
of cars sold Increases
and contribution
Cars Sold
per car increase, Number of cars sold
Increases
profits
increase. Customer satisfaction
with options

Number of Time to
options available install option

Employee skills in
installing options
 Managing Costs
through Transfer
Pricing
 Key Concepts/Definitions
A transfer price is the price
charged when one segment of
a company provides goods or
services to another segment of
the company.

The fundamental objective in

setting transfer prices is to
motivate managers to act in the
best interests of the overall
company.
Three Primary Approaches
There are three primary
approaches to setting
transfer prices:
1. Negotiated transfer prices;
2. Transfers at the cost to the
selling division; and
3. Transfers at market price.
 Negotiated Transfer Prices
A negotiated transfer price results from discussions
between the selling and buying divisions.
Range of Acceptable
Transfer Prices
Advantages of negotiated transfer prices:
Upper limit is
1. They preserve the autonomy of the determined by the
divisions, which is consistent with buying division.

the spirit of decentralization.

2. The managers negotiating the
transfer price are likely to have much
better information about the potential
costs and benefits of the transfer
than others in the company.
Lower limit is
determined by the
selling division.
Managing Costs through
Capital Expenditures
Planning
Typical Capital Budgeting
Decisions
Plant expansion

Equipment selection Equipment replacement

Lease or buy Cost reduction

Typical Capital Budgeting Decisions
Capital budgeting tends to fall into two broad categories . . .

Screening decisions. Does a proposed project meet some

preset standard of acceptance?

Preference decisions. Selecting from among several competing

courses of action.
Time Value of Money
A dollar today is worth
more than a dollar a year
from now. Therefore,
projects that promise
earlier returns are
preferable to those that
promise later returns.
Time Value of Money
The capital
budgeting
techniques that best
recognize the time
value of money are
those that involve
discounted cash
flows.
 The Net Present Value Method
To determine net present value we . . .
Calculate the present value of cash inflows,
Calculate the present value of cash outflows,
Subtract the present value of the outflows from the
present value of the inflows.
The Net Present Value Method
If the Net Present
Value is . . . Then the Project is . . .
Acceptable because it promises
Positive . . . a return greater than the
required rate of return.

Acceptable because it promises

Zero . . . a return equal to the required
rate of return.

Not acceptable because it

Negative . . . promises a return less than the
required rate of return.
The Net Present Value Method
Net present value analysis
emphasizes cash flows and not
accounting net income.
The reason is that
accounting net income is
based on accruals that
ignore the timing of cash
flows into and out of an
organization.
GENERAL PARADIGM FOR
COST AND EXPENSE
REDUCTION STRATEGIES
1. Cut or eliminate all
2. Cut some
3. Add but cut some more
Specific Tips for Managing Costs and Expenses
of Small Business Organizations
• Minimize overhead through various cost-savings
techniques
• Use technology especially those that are packaged
and easier to implement (Quick Books)
• Train employees on time management
• Outsource or subcontract projects
• Avoid wastage and wasteful ways
• Negotiate for better terms and conditions
Other Approaches to
Manage Costs and
Expenses
1. Work/Process Simplification
2. Forms Simplification
3. Substitution
4. Value Analysis and Value
Engineering
Specific Tips to Manage Expenses
and Reduce Costs

1. Consolidate purchases and negotiate better pricing and

terms. 
2. Get vendors to compete for the orders
3. Review vendors regularly
4. Train staff to ask for and get discounts
5. Wherever possible, make expenses variable versus fixed
6. Cultivate fiscal discipline as a core company value. 
 Other Tips on how to cut
cost
 Sell more products and/or services. People forget that greater
revenues help to reduce cost saving targets. In other words,
selling doesn’t cost but pays.

 Benchmark key activities and costs to identify long-term

opportunities for significant cost reductions.

 Identify your major costs, such as staff, raw materials and

other supplies, premises, utilities, IT costs, travel, transport,
capital expenditure and financing costs.
 Other Tips on how to cut
cost
 Establish cost budgets and monitor actual costs
against budget as part of a systematic cost-control
process.

 Review how activities and costs contribute to

achieving your business objectives and quality
standards.

 Involve employees by explaining what you are doing

and encouraging cost-saving suggestions; consider
offering incentives.
 Other Tips on how to cut
cost

 Eliminate unnecessary activities, duplication of effort and

unnecessary waste; reduce obvious overcapacity.

 Control excessive costs – for example, over-specified supplies

 Other Tips on how to cut
cost
 Identify opportunities to improve efficiency; use technology
where appropriate and consider outsourcing non-core activities.

 Design products and services to use standard or easily repeatable

processes; improve quality control to minimize waste.

 Improve financial control; refinance expensive overdrafts with

loans and minimize working capital.
 Other Options on how to
cut cost

 Always shop around when buying any product or

service and decline the first price offered.

 Shop around for cheaper versions of everything at

least once a year.

 Review renting or leasing equipment rather than

buying it. 
Time management
 Time Robbers
 Inundation of emails, telephone calls, etc.
 Too many ‘casual’ office conversations
 Procrastination
 Too many (and often, unnecessary) meetings
 Micro-managing
 Lack of technical knowledge
 General work overload
 Conflicting priorities
 Inability to say ‘no’
Time management
techniques
 Delegate responsibility
 Learn to make quick decisions
 Run effective meetings
 Tackle difficult parts first
 Manage your travel
 Overcome procrastination
 Learn to say no
Dealing with burnout
 Take a step back immediately and reassess the
situation.
 An impromptu three day weekend can do wonders
for you.
 Focus on some things you find enjoyable and try to
avoid other external stresses
 You may be surprised how a simple few days of
relaxation and downtime can refresh you and re-
energize you.