Performance Measurement Flashcards
Describe the Theory of Scientific Management.
Taylor:
- Poor administration and inefficient management is a national loss
- training the workforce and developing a heart cooperation in the production process
- Main Focus on lowest level of organisation to make employee-supervisor relationship more efficient
Key elements:
- standardisation, rationalisation, specialisation, intensification of work
- planning process = separated from implementation = alienation of workers from its objective
Ford:
- systematic approach towards personell management
- shares responsibilities + hierarchical structure
Weber:
- administrative hierarchy and specialisation of labor
- shift from wertrational to zweckrational
- ideal bureaucracy = coherent system: fixed jurisdictional areas, firmly ordered hierarchy (supremacy + subordination), management based on written records, expert training, official prioritys over other activities
- bureaucracy as larger machine for attaining objectives of an organisation
Describe the Theory of Administration.
- improved governance and administration at all levels of the organisation
- priority of efficiency for the company as a whole
- organisations objectives and management are defined as: Planning, Organisation and Control
five principals:
- plan, organise, command, coordinate, control
Fayol:
- personal efforts and team dynamics were part of an ideal organisation
- importance of team spirit as key to efficiency
Describe the Human Relations Movement.
- Result out of neglect for human factor when attempting to improve performance
- adopted achievements from sociology and psychology
- knowledge of orga culture, types of motivation and behaviour
- focus on interpersonal relationships of people within the orga (not only production process and people)
- interactions of employees become essential (leader = informal integration without relying on authority or official power)
- group dynamics, social compositions as extremely important factors for productivity
- trust and openness in workforce environment
- change in leadership: group dynamics, teamwork, social systems
Describe the Behavioural Management Theory.
- Close interactions between internal capacity and personal needs of employees
- efficiency increase by management of employees as key task
- bureaucratic mgmt incompatible with individual needs of employees
- Main task: create conditions where employees will direct their effort towards achieving the goals of the orga in a way that will allow individual employee to achieve the personal goal
- informal organisation: understanding how decisions are made:
risk orientation, leadership, ambiguity of present and past, politics + interest of stakeholders, challenges giving + receiving advice, challenges orga + individual learning, challenges exploration and exploitation
Describe the Theory of Quantitative Management.
Theory of rational choice, equilibrium solutions, theories and models of optimisation and game theories.
- from static to dynamic mgmt
- changes of internal + external environment as essential
- dependency of complex hierarchical multi-component structure linked to outside world
- key factor to success based on internal and external environment
- corporate governance to boost performance through effective resource and inventory mgmt
Describe the Strategic Management Theory.
Organisation constantly adopting to external environment and changing internal structures at the same time.
- evaluation of performance due to influence from environment
- focus on approach of orga on all stakeholders (employees, individuals, stakeholders, groups, whole society)
- Organisational culture important for optimal performance
Three principals:
- alternation of role and value of manufacturing (result of scientific and technological change) importance on quality
- orga culture more important; democratic corporate governance, behavioural and social aspect of mgmt
- usage of product-market model for measuring orga performance
Modifications:
- TQM
- CRM
What is the TQM?
What are the basic principles?
- Total quality management (performance measurement approach)
- Part of Strategic Management Theory
- basic principles:
- continuous improvement of productivity and performance
- fact-based approach towards involvement of employees into decision making
- customer-oriented focus
- leadership and mutually beneficial relationships with suppliers (long term)
What is CRM?
- Customer Relationship Management
- Part of Strategic Management Theory
- Customer-oriented management strategy for orgas
Elements:
- strategic mgmt
- opportunity mgmt
- strategy for marketing mgmt
- documentation mgmt
Front office: customer faced
* marketing mgmt + customer service
back office:
* effectiveness optimization of sales and processing, logistics, monitoring financial flows and others
What is Performance Management?
- Performance of people as HR greatly contribute to orga performance
- regognizes strategic value of HRM integrated as functional system
- management of performance of orga or individual
- based on BSC
- measuring, managing and improving operational performance
- variety of activities including: planning, execution of actions required to ensure performance objectives are achieved
What is the difference between Performance Management and Performance Measurement?
Performance Measurement:
- deals specifically with performance measures
- how can progress of strategy implementation be tracked?
Performance Management:
- goes beyond measurement, requires process to evaluate and respond to indicators
- how can strategy be managed
What is the main criticism of traditional approaches of performance measurement?
Main criticism:
- accounting based performance measure
- encourage short term decision making
- inapplicability to modern manufacturing techniques
- potential to damage not only individual businesses but entire company
What types of performance measures focusing on financial aspects can be classified?
1 measures based on accounting data
2 market-based measures derived from stock or other financial market values
What are Accounting based performance measures?
What are interest groups?
- financially based
- internally focused
- retrospective
- local department oriented
- can differ significantly based on accounting standard used (US-GAAP, IFRS)
- Main focus on profitability
Groups:
- investors/shareholders
- employees
- lenders
- suppliers
- customers
- government
- public
What are the accounting-based interest groups?
What interest in accounting-based results do they have?
Groups:
- investors/shareholders
- employees
- lenders
- suppliers
- customers
- government
- public
interests:
1 comparison of current years result vs previous year (identify trends and performance drivers)
2 current year vs result vs company in same line of business (establish the orga is performing better or worse than its competitors)
3 current performance vs standard (benchmark of performance)
4 comparison of one segment or division of a business with each other (establish which parts of the business are achieving their goals)
What are financial performance indicators?
- profitability
- liquidity
- utilization
- financial structure
- investment-shareholder ratio
What is ROE and how is it calculated?
ROE = return on equity
How much profit a company generates with the money shareholders have invested
ROE = net income / shareholder equity
What is ROA and how is it calculated?
Return on asset
how profitable a company is relative to its total assets
how efficient management is at using its assets to generate earnings
ROA = net income / average total assets
What is ROI and how is it calculated?
Return on investment
Represents after-tax return which owners are receiving and should be compared with alternative investment forms
ROI = (gains from investment - cost of investment) / cost of investment
What is EPS and how is it calculated?
earnings per share
indicator of company’s profitability
EPS = Profit / weighted average common share
What is dividend payout-ratio and how is it calculated?
calculates the percentage of earnings paid to shareholders in dividends
dividend payout-ratio = dividends / net income for the same period
What is cash flow and how is it calculated?
Cash flow = liquidity of a company
CF = earnings + depreciation
What is the problem with ROE?
Return on equity = main number of company performance
obscures a lot of problems:
- artificially maintain high ROE temporarily by financial strategies
- high debt = debt leverage
- stock buybacks funded by accumulate cash
all of these “hide” deteriorating operational profitability
What is the problem with ROA?
Return on assets
avoids issues of ROE
- difficulty for asset heavy or asset light companies
- outsource asset intensive tasks to be asset light
What is capability leverage?
Outsourcing of activities to improve ROA
specialized outsourcing providers to supply key assets and capabilities quickly and profitable
- focus on specialised activities only
- option against financial leverage
- support vs all phases of economic cycle
- efficient downscale in downturn and easily upscalable
What is stock turnover-days?
How is it calculated?
number of times inventory is sold or used in a time period.
The lower, the faster stock is sold.
Inventory turnover = cost of goods sold / average inventory
IR used to calculate average days it takes to sell the inventory:
average days to sell inventory = 365 days / inventory turnover ratio
What is receivables turnover ratio?
How is it calculated?
average length of time from sale to cash collection
the lower the quicker an account is paid
accounts receivable turnover = net credit sale / average accounts receivable
average days to collect can be calculated:
average collection period = 365 / average receivable turnover
What is current asset/liability ratio?
How is it calculated?
extent to which current assets cover current liabilities
ability to meet short-term obligations (rule of thumb ratio is 2:1)
current ratio = current assets / current liabilities
What is debt/equity ratio?
How is it calculated?
measure the extent to which a business relies on external borrowings to fund its ongoing operations
debt/equity ratio = total liabilities / shareholders equity
What is interest coverage ratio?
How is it calculated?
measures the ability of the business to meet its interest commitments through profits
rule of thumb used by bank is 3:1
Interest coverage ratio = EBIT / interest expense
What is gross profit margin?
How is it calculated?
profitability of a business
reflection of control over cost of goods sold (COGS) and pricing policies
gross profit margin = revenue - COGS / revenue
What is breakeven sales?
The sales which need to be generated in order to cover expenses
What is the issue with accounting based financial measures?
What alternatives could be used?
- retrospective (performance over the last year)
- reflection of former performance but no reflection of future developments
- lagging indicator
- indicators might not be static and allow room for interpretation
- accounting principles are different (US-GAAP, IFRS):
goodwill, taxation, valuation of inventory, capitalization of losses
alternatives:
- enquiries
- numbers of customers per day
- average sales value
- number of quoted jobs lost
- customer satisfaction
What are market-based performance measures?
MVA
reflect the present value of future streams of income
- fluctuate daily
- incorporate internal as well as external factors in development in valuation
- focus on whole company not on individual projects
based on market capitalization (number of shares * price of share)
difference between company’s market cap vs shareholder equity + debt
What is price-to-book ratio (P/B)?
How is it calculated?
compare a stock’s market value with its book value
P/B Ratio = market cap / total assets - liabilities
What is price-to-earnings ratio (P/E)?
How is it calculated?
valuation ratio of companies market cap to its earnings
P/E = market cap / earnings
What is dividend yield?
How is it calculated?
shows how much a company pays out in dividends each year relative to its share price
dividend yield = annual dividends per share / price per share
What is NPV?
How is it calculated?
net present value
capital budgeting to analyze the profitability of specific investments
NPV = SUM( cash flow t / (1+r)^t) - C0
What is IRR?
internal rate of return
the higher the more desirable to undertake investment
IRR = rate of growth a project is expected to generate
What are key trends in performance management?
- reviewing and enhancing organizational management profitability and the methodologies of recounting them
- emphasizing the use of business-unit key performance indicators
- refining customer- and channel-profitability measurement and analytics
- improving alignment of the components of the performance management process
- improving systems support and automation of the performance management process
- improving data quality and consistency
What is EVA?
How is it calculated?
measuring the value of a company creates or destroys by subtracting the capital charge from the cash returns generated on the capital invested
builds on residual income approach
how much profit remains for investment in the business or distribution to the owners after subtracting expected returns on investment
residual income = profit - capital charge
If possible, results in increase of total market value
MVA is the present value of all future EVA
EVA = (NOPAT + AcctAdj) - [c * (IC + AcctAdj) ]
What are the main differences between EVA and traditional approaches?
How are both calculated?
- inclusion of capital cost
- post-tax profits: incentivies management to actively take taxes into consideration
- interest is not deducted to avoid double accounting interest
EVA calculation: revenue - operational cost = EBIT - taxes = NOPAT - WACC = EVA
traditional calculation: revenue - operational cost = EBIT - interest = earnings before taxes - taxes = profit after taxes
What is EBEI?
How is it calculated?
Earnings before extraordinary items
provision for the cost of debt
EBEI = cash flow operating activities + total operating accruals
difference between EBEI and NOPAT:
EBEI is taking after tax interest expense into account
NOPAT - interest expense after provision for tax = EBEI
What is RI?
How is it calculated?
Residual Income
RI = NOPAT - ( c* IC)
positive IC generates profits in excess of their total cost of capital
What are alternative value-based financial performance measures?
-CVA
(cost value added) = alternative to EVA; deprecations and accruals are added when calculating the operating cash flow values in CVA
Pro/Cons with different deprecation policies
CFROI
(cash flow return on investment) = inflation adjusted investment in asset
Using inflation adjusted cash flow generated by employed assets
Input:
- average life of the depreciating asset
- total amount of assets (both depreciating + non-d) adjusted for inflation
- inflation adjusted cash flows generated by the asset over their lifetime
- final inflation adjusted residual value of the non-d asset at the end of lifetime
What are basic shared elements of value-based management?
organisation management:
- gain understanding of value creation in each business
- transform the company to align with the ultimate goal of shareholder value maximization
- communicate results internally and externally
managerial bonus plan:
- awards targets for meeting expectations
- usually exceeding expectation is capped (no further motivation)
- use of value-based bonus plan to include fixed percentage of excess value
- bonus bank to balance downfalls
- not motivating if: older manager near retirement; strong wealth incentives; cyclical industry; start-up EVA is not relevant
Communication:
- good clear com
- holistic view
- well coordinated inside and outside (esp. banks)
What are notions of value according to value-based mgmt?
- shared ethical values-belief in intrinsic value of each person
- success in the marketplace based on delivering max value to the customer
- rewards based on the value people contribute to the orga; as team; individually, as employees; as owners
supported by strong corporate culture:
- orga core values; ethical principles
- code of ethics - habits of good behaviour
- service to the customer as primary goal
supported by compensation and reward system:
- monthly, bimonthly, quarterly bonuses liked to each worker’s profit center
- annual corporate-wide performance bonuses rewarding each worker’s contribution to overall profits
- structured, profit-based program of shared ownership (ESOP) by cash dividend payouts
