You are on page 1of 31

ZCZA6103 ACCOUNTING FOR DECISION MAKING

Financial and Non Financial Measures
SEMESTER 1 SESSION 2011/2012 UKM GSB

What are Financial Controls?

Financial control involves the use of financial measures to assess organization and management performance  The focus of attention could be a product, a product line, an organization department, a division, or the entire organization Financial control provides a counterpoint to the balanced scorecard view that links financial results to its presumed drivers  Focuses only on financial results Managers use and consider both:  Internal financial controls  Information used internally and not distributed to outsiders  External financial controls  Developed by outside analysts to assess organization performance

Responsibility Accounting
    

Responsibility accounting is an underlying concept of accounting performance measurement systems. Under responsibility accounting, managers’ performances are evaluated on matters directly under managers’ control. A responsibility center is an organization unit for which a manager is made responsible for specific financial results. Underlying the accounting classifications of responsibility centers is the concept of controllability The controllability principle states that the manager of a responsibility center should be held responsible only for the revenues, costs, or investment that responsibility center personnel control

Types of Responsibility Centers Cost center  Revenue center  Profit center  Investment center  .

flexible budgets and standard costing.e. .Cost Center    A responsibility center in which employees control costs but do not control revenues or investment level Organizations evaluate the performance of cost center employees by comparing the center’s actual costs with target or standard cost levels for the amount and type of work done Using variance analysis i.

sales price variances and sales mix variances.Revenue Center   A responsibility center is a responsibility center where managers are responsible mainly on generating revenue with relatively little costs. . Performance measures of profit centers are mainly on sales volume.

not the responsibility center manager.Profit Center    A responsibility center where managers and other employees control both the revenues and the costs of the product or service they deliver A profit center is like an independent business. controls the level of investment in the responsibility center Most units of chain operations are treated as profit centers . except that senior management.

000.000 125.000 RM 600.000 RM165.000 RM 235.00 0 400.000 RM 360.000 Business Products RM600.000 RM240.000 200.000 160.000 200.000 .000 Consumer Products RM400.000 75.000 RM 200.Profit Centre   Assessed by using segmented income statement which shows the profit and loss made for period under reviewed Example: Bersatu Sdn Bhd Total Sales Less: Variable costs Contribution margin Less: Traceable fixed expenses Segment margin Less: Common fixed expenses Net income RM1.000 240.000 RM 400.

Contribution approach is more appropriate in distinguish costs that are controllable and uncontrollable Costs are divide into:   Traceable costs including variable costs and traceable fixed costs Common costs is a fixed costs that support the operations of more than one segment and cannot be directly traceable to a particular segment.Profit Center    Segment margin is an performance indicator use to measure profit center. .

and the level of investment in the responsibility center Performance measures  Return on investment (ROI)  Residual Income  Economic value added .Investment Center   A responsibility center in which the manager and other employees control revenues. costs.

pioneered the systematic use of return on investment (ROI) to evaluate the profitability of its different lines of business ROI = Income/ Investment The following slide presents Dupont’s approach to financial control in summary form . as a multiproduct firm.Measuring Return on Investment    Dupont.

The Dupont ROI Control System .

The Dupont System  The Dupont system of financial control focuses on ROI and breaks that measure into two components:   A return measure that assesses efficiency A turnover measure that assesses productivity  It is possible to compare these individual and group efficiency measures with those of similar organization units or competitors .

accounts receivable. cash Equipment and buildings  The elements of permanent investment   Comparisons of these turnover ratios with those of similar units or those of competitors suggest where improvements are required .The Dupont System  The productivity ratio of sales to investment allows development of separate turnover measures for the key items of investment  The elements of working capital  Inventories.

Questioning The ROI Approach  Despite its popularity. ROI has been criticized as a means of financial control:   too narrow for effective control profit-seeking organizations should make investments in order of declining profitability until the marginal cost of capital of the last dollar invested equals the marginal return generated by that dollar .

500.Using Economic Value Added  Economic value added (EVA—previously called residual income) equals income less the economic cost of the investment used to generate that income  If a division’s income is $13.000 . which has an average cost of 10%: Economic value added = Income – Cost of capital =$13.500.000.000 x 10%) =$3.000 – ($100.5 million and the division uses $100 million of capital.

Using Economic Value Added    Like ROI. EVA evaluates income relative to the level of investment required to earn that income Unlike ROI. EVA has been extended to adjust GAAP income for the conservative approach that GAAP uses to determine income and value assets . EVA does not motivate managers to turn down investments that are expected to earn more than their cost of capital Recently.

or customer Organizations can also use economic value added to evaluate operating strategies . or customers This allows them to calculate the EVA by product. product line. services.Using Economic Value Added  Organizations now use economic value added to identify products or product lines that are not contributing their share to organization return. given the level of investment they require    These organizations have used activity-based costing analysis to assign assets and costs to individual products.

instead considering how well the organization or one of its responsibility centers has performed this quarter or this year   . seldom focusing on long-term improvement or trend analysis.Critics of Financial Control  Financial information is delayed—and highly aggregated—information about how well the organization is doing in meeting its commitments to its shareowners This information measures neither the drivers of the financial results nor how well the organization is doing in meeting its other stakeholders’ requirements Financial control may be an ineffective control scorecard for three reasons:  Focuses on financial measures that do not measure the organization’s other important attributes  Measures the financial effect of the overall level of performance achieved on the critical success factors. and it ignores the performance achieved on the individual critical success factors  Oriented to short-term profit performance.

financial results provide crucial help in assessing the organization’s long-term viability and in identifying processes that need improvement Financial control should be supported by other tools since it is only a summary of performance Financial control does not try to measure other facets of performance that may be critical to the organization’s stakeholders and vital to the organization’s long-term success Financial control can provide an overall assessment of whether the organization’s strategies and decisions are providing acceptable financial returns Organizations can also use financial control to compare one unit’s results against another .The Efficacy of Financial Control      If used properly.

by focusing only on financial performance.Integration of Financial and Non Financial Performance Measures    The impact of intense competition in business environment resulted changes in the business activities and structure.  Kaplan & Norton (1992). . it can give misleading signals for continuous improvement and innovation activities of customer focused manufacturing strategy.  Maskell (1989) suggested that day to day control of manufacturing and distribution are better handle with non financial measures Continuous use of financial measures in nowadays environment affected on the behaviors of individual such as myopic behaviour. Most of the activities required non financial information.

control systems is primarily based on financial measures and consider as a component of planning and control cycle Holistic view is based on multiple non financial measures where performance measurement acts a an independent process integrated in a broader set of activities.Contemporary Performance Measurement Systems     Changing evolution from cybernetic to holistic view A cybernetics model of control includes stated objectives or goals. a predictive model and a tool to facilitate the choice of alternative actions In a cybernetic view. .

al.  Determinants and results matrix (Fitzgerald et. 1991). 1992) . 2002)  Balanced scored card (Kaplan & Norton.Contemporary Performance Measurement Systems  Performance pyramid (Lynn & Cross. 1991)  Performance prism (Neely et al.

“  2000 24 .February 1992 “Putting the Balanced Scorecard to Work” September .Balanced Scorecard history Measurement and Reporting 1992 Articles in Harvard Business Review: Alignment and Communication Enterprise-wide Strategic Management 2000 Acceptance and Acclaim: 1996   “The Balanced Scorecard — Measures that Drive Performance” January .February 1996 1996  “The Balanced Scorecard” is translated into 18 languages  Selected by Harvard Business Review as one of the “most important management practices of the past 75 years.October 1993 “Using the Balanced Scorecard as a Strategic Management System” January .

Balanced Scorecard history Strategy-mapping Strategy linkages Intellectual Capital Model – Converting INTANGIBLE ASSETS into TANGIBLE OUTCOMES 2004 25 .

26 .

STRATEGIC DIRECTION MISSION Why We Exist VALUES What’s Important to Us STRATEGIES TRANSLATTION VISION What We Want To Be Linking Strategy to Performance Management STRATEGY What Our Game Plan STRATEGY MAP Translate the Strategy BALANCED SCORECARD Measure and Focus TARGET and INITIATIVES What We Need to Do PERSONAL OBJECTIVES What I Need to Do 27 PERFORMANCE MEASURES .

Balanced Scorecard Linked to Organizational Performance The most commonly used key performance indicators found in a survey are-    Financial Perspective Customer Perspective Internal Perspective Innovation and Learning Perspective 13-28 .

@ Measurement is used to communicate. how will we look to our shareholders?” Customer Perspective “To achieve my vision. how must I look to my customers?” Internal Perspective “To satisfy my customer. how must my organization learn and improve?” 29 . not to control. @ Strategy can be described as a series of cause and effect relationship Financial Perspective “If we succeed. at which processes must I excel?” Organization Learning “To achieve my vision.Principle of the Strategy Focused Organization: TRANSLATE THE STRATEGY TO OPERATIONAL TERMS The Strategy @ Measurement is the language that gives clarity to vague concepts.

Balanced Scorecard Strategy Map: Diagram of the cause-and-effect relationships between strategic objectives Strategic Theme: Operating Efficiency Financial Profitability Fewer planes More customers Statement of what strategy must achieve and what’s critical to its success How success in achieving the strategy will be measured and tracked The level of performance or rate of improvement needed Key action programs required to achieve objectives Customer Flight Is on time Lowest prices Objectives Internal Fast ground turnaround Measurement Target Initiative • Fast ground turnaround • On Ground Time • On-Time Departure • 30 Minutes • 90% • Cycle time optimization Learning Ground crew alignment 30 .

6th Edition. A group work of 4 students Time given: 1 hour 15 minutes One group will be selected to present. Chadwick Incorporation. Read this case before class and do necessary preparation. 79. .CLASS CASE DISCUSSION       Atkinson et al. Case 2-53 pg.

73.02.843  42:892 47.088082:89 0.3/ 2574.9430.843  42:8944942 .9.0 %4.733 %4.!73.!07850.:80.9.7-0/.904.9 70.3:.574..00/ 4 044944:7 8.43.3.:0 .8:7020398:80/ 94.9.80708 41.90 0....0 %48.02.0598  0..90.9812.0.9.3/0110.7994.:80/ 7..0  .94385 3.3.43974 $97..3-0 /08.0 7.0 108:.08 .9430.:894207  .8.:8942078 39073..09.704/078 :894207!07850.3..!07850.90 349 94.8:702039890 .422:3.943 %#$%%$%#%%  !#% %#$ %0$97.3.504190$97.0.9.

:8942078 $9.970.03.7.74:3/ 0.74:3/ W W 374:3/%20 3 %2005.0/ %00.8:70/.9.08 -0.5.047 7.709 39..3.9.9 8 ... !7419.08 $97.0..4-0.90-0 20..32039  .943858 -09003897.9041 2574.28 706:70/94 .0.3/ 97. 3.:80 .24190 ..733 74:3/. .3.3/ 0110.308 :894207 9 843920 4089 57.041 5071472.0..0920 4592.0 4-0.9.79:70 W W  3:908   W .943 0.9.02039 300/0/ 0..-9 0075..0 W ..08 39073.088 48:.470.70 .0 .9498 8:.90.9311.90.9897.90..390 897.8974:3/ 9:73.79.943 5747.90203941 .8974:3/ 9:73..90 2:89.0/$.0883 .3.%020 507.3/.08 470 .7/ $97..8:702039 %.

/../98.943 #0.80 5  .7.90/945708039  .088.034:723:908 3074:5-0800.47547.3//430..75705.80-01470.3.88 .943  74:5474189:/0398 %20.$$$$&$$  < < < < < < 9384309. 9 /943 .