Topic 5 - Performance Evaluation Flashcards
What is feedback in performance evaluation?
Feedback is used to describe both the process of reporting back control information to management and the control information itself.
What are the steps in the control cycle? 6
- Plans and targets are set.
- Plans are put into operation.
- Measure Outputs. Actual results are recorded and analyzed.
- Information is fed back to management. Feedback of information.
- Management compares actual results with targets.
- Control action
What are the possible management responses after comparing actual and planned results? 3
- Take control action
- Decide to do nothing - if its uncomtrobllable or insignificant
- Alter the plan or target - make it moore acheiveable
What are the key features of effective feedback? 5
- Exception principle (only highlighting significant differences)
- Identifying controllable costs and revenues
- Timely availability of reports
- Concise and sufficiently accurate information
- Communicating reports to responsible managers.
Which ONE of the following statements about management control reports is not correct?
* A Reports should be completely accurate.
* B Reports should be clear and comprehensive.
* C Reports could usefully include information about uncontrollable items.
* D Based on the information contained in reports, managers may decide to do nothing.
A Reports should be completely accurate.
What are the three styles of evaluation for managerial performance? 3
- Budget constrained - Managers’ performance is measured on ability to meet budget.
- Profit conscious - Managers’ focus is on increasing the effectiveness of a unit’s operations. The goal is to generate a positive return to shareholders.
- Non-accounting - Managers’ focus is non-financial. Measures such as feedback from colleagues is how performance is measured.
Managerial performance - Budget Constrained definition
Managers’ performance is measured on ability to meet budget.
Managerial performance - Profit conscious definition
Managers’ focus is on increasing the effectiveness of a unit’s operations. The goal is to generate a positive return to shareholders.
Managerial performance - Non-accounting definition
Managers’ focus is non-financial. Measures such as feedback from colleagues is how performance is measured.
How does a budget-constrained evaluation style affect managers? 4
- High involvement with costs
- High job-related tension
- Extensive manipulation of accounting reports
- Poor relations with supervisors and colleagues.
What are the effects of a profit-conscious evaluation style? 4
- High involvement with costs
- Medium job-related tension
- Little manipulation of accounting reports
- Good relations with supervisors and colleagues.
How does a non-accounting evaluation style impact managerial behavior? 4
- Low involvement with costs
- Medium job-related tension
- Little manipulation of accounting reports
- Good relations with supervisors and colleagues.
What is budget bias?
Budget bias refers to the manipulation of accounting reports to achieve short-term budget targets, often under managerial pressure.
How can budget bias happen in the process of preparing and then meeting budgets? 3
- Manipulating
- Overstated budget, underestimate revenue - are you look good if you are under or over
- Inflate budget to ensure spending is protected e.g. xmas party
How can budget bias affect performance measurement?
Managers may focus on improving their budget performance at the expense of long-term organizational goals.
Which ONE of the following is an example of budget bias?
* A A manager uses his best estimate of likely costs when setting the budget.
* B A manager’s advertising budget is disproportionately large in comparison with the budgeted revenue to be generated.
* C A manager underestimates revenues when setting the budget to ensure that the budget target can be easily exceeded.
* D A manager will consult with his team to try to establish an appropriate sales volume target.
C A manager underestimates revenues when setting the budget to ensure that the budget target can be easily exceeded.
Why is goal congruence important in performance measurement?
Ensures that managerial performance aligns with the overall objectives of the organization rather than individual or departmental goals.
What is budget bias?
Budget bias occurs when managers intentionally underestimate revenues or overestimate costs to ensure budget targets are met easily.
What is divisionalisation?
Divisionalisation is the division of a business into more or less autonomous regional or product-centred units, each with its own revenues, expenditures, and investments.
What are the advantages of decentralisation? 5
- Senior managers can focus on strategic issues
- Improved decision-making quality
- Increased managerial motivation
- Faster decision-making
- Valuable training for future senior managers.
What are the disadvantages of decentralisation? 5
- Difficult to coordinate activities across divisions
- Senior managers have less direct involvement in operations
- Weaker link between operational and senior management
- Performance management is more challenging
- Potential duplication of roles.
What is responsibility accounting?
Responsibility accounting decentralises authority, measuring the performance of different responsibility centres in accounting terms.
What are the four main types of responsibility centres? 4
- Cost centre
- Revenue centre
- Profit centre
- Investment centre.
What is a cost centre?
A responsibility centre where the manager is accountable for controlling costs but not revenues or investments. E.g. legal or HR department. E.g. cost per kg/unit, cost per employee (wage)
What is a revenue centre?
A responsibility centre where the manager is responsible for generating revenue but not for controlling costs or investments. E.g. sales. E.g. revenue per product, sales growth %
What is a profit centre?
A responsibility centre where the manager is responsible for both revenues and costs, measuring profitability. E.g. product A department. E.g. profit margin %, profit growth %
What is an investment centre?
A responsibility centre where the manager is responsible for revenues, costs, and investment decisions, with performance measured by return on investment (ROI). E.g. European division e.g. ROI and RI
Gamma Division is an investment centre within Planets plc. Over which of the following is/are the manager of Gamma unlikely to have control?
i) Local (ie divisional) inventory levels
ii) Transfer prices from Gamma to other divisions within Planets plc iii) Apportioned head office costs iv) Fixed costs incurred in the division
* A i), ii) and iii) only
* B i), ii) and iv) only
* C iii) only
* D iii) and iv) only
C iii) only
What are shared service centres? What is the aim?
Shared service centres consolidate transaction-processing activities like HR, payroll, and IT into a centralised unit to improve efficiency. The aim of a shared service centre is to achieve significant cost reductions while improving service levels through the use of standardised technology and processes and service level agreements.
What are the benefits of shared service centres? 3
- Significant cost reductions
- Improved service levels through standardisation
- Increased efficiency in transaction processing.
What are the disadvantages of shared service centres? 2
- Loss of business-specific knowledge
- Weakened relationships due to removal from daily operations.
What is cloud accounting?
Cloud accounting is where accountancy software is provided as a hosted service, accessible via the internet from any device.
What are the benefits of cloud accounting? 4
- Access data from anywhere
- Improved security through cloud providers
- Software updates and backups managed externally
- Reduced IT infrastructure costs.
What are the risks of cloud accounting? 4
- Dependency on internet access
- Potential data security breaches
- Compliance risks due to jurisdictional differences in data laws
- Unannounced software updates causing disruptions.
What is real-time monitoring in accounting?
Real-time monitoring updates financial data instantly as transactions occur, allowing more informed decision-making.
What are the benefits of real-time monitoring? 4
- Faster response to market changes
- Improved cash flow management
- Increased accuracy due to reduced time lags
- Better regulatory compliance.
What are the general requirements for effective performance measures? 3
- Promote goal congruence
- Incorporate only controllable factors
- Encourage pursuit of long-term objectives.
What are the potential problems with inappropriate performance measures? 4
- Managers may manipulate information
- Can cause demotivation and stress
- May promote excessive focus on short-term costs
- May lead to an isolated assessment of responsibility centres.
What performance measures are suitable for an investment centre? 5
- Liquidity ratios (current ratio, quick ratio)
- Rate of inventory turnover
- Receivables and payables periods
- Return on investment (ROI)
- Residual income (RI).
What is Return on Investment (ROI)?
ROI measures how much profit has been earned in relation to the amount of capital invested in an investment centre.
How is ROI calculated?
ROI = (Controllable divisional profit / Divisional capital employed) × 100%. Profit should be before interest and tax.
Capital employed formula - 2 ways
- Total assets - Total liabilities
- Fixed assets + Working capital
What are the problems with using ROI? 3
- May lead to dysfunctional behaviour (only projects increasing ROI are accepted)
- Can be distorted by the age of assets - older assets/lower value
- Profit can be manipulated - uses diff values e.g. depreciation
Net book value (NBV) formula
Purchase cost - Accumulated depreciation
* As acc dep INcreases NBV DEcreases
What is Residual Income (RI)?
RI is a measure of the centre’s profits after deducting a notional or imputed interest cost of the capital invested in the centre. It is an absolute measure.
What is imputed interest?
Imputed interest is estimated to be collected by the lender, regardless of what the lender actually received.
How is RI calculated?
RI = Controllable profit - Imputed interest charge on controllable investment.
What is the decision rule for accepting projects using ROI?
A project should be accepted if it increases the division’s ROI.
What is the decision rule for accepting projects using RI?
A project should be accepted if it generates a positive residual income.
What are the advantages of using RI over ROI? 2
- RI ensures that investments generating a profit above the cost of capital are undertaken
- RI can accommodate different costs of capital for investments with different risk characteristics.
* INC risk expect INC return
* Riskier project has a higher cost of capital. Project less likely to have a +ve RI
* Harder for project t get a higher imputed interest
What are the disadvantages of RI? 2
- Comparisons between divisions are more difficult
- RI does not relate the size of a centre’s income to the size of the investment.
What is goal congruence in financial performance measurement?
Goal congruence ensures that managers make decisions that align with the overall objectives of the organisation.
How do ROI and RI differ in promoting goal congruence?
ROI may discourage managers from accepting profitable investments if they lower the division’s overall ROI, while RI encourages profitable investments as long as they exceed the cost of capital.
What is transfer pricing?
Transfer pricing is used when divisions of an organisation need to charge other divisions of the same organisation for goods or services that they provide to them.
What are the aims of a transfer pricing system? 5
- Enable the realistic measurement of divisional profit
- Provide the supplier with a realistic profit and the receiver with a realistic cost
- Give more autonomy to managers
- Encourage goal congruence
- Ensure profit maximisation for the company as a whole.
Why might it be difficult to establish a transfer pricing system? 1
Conflict between divisional managers, want the best for their team
Which two of the following criteria should be fulfilled by a transfer pricing system?
* A Should encourage dysfunctional decision making
* B Should encourage output at an organisation-wide profit-maximising level
* C Should encourage divisions to act in their own self-interest
* D Should encourage divisions to make entirely autonomous decisions
* E Should enable the realistic measurement of divisional profit
B Should encourage output at an organisation-wide profit-maximising level
E Should enable the realistic measurement of divisional profit
What are the practical methods of transfer pricing? 4
- Market price
- Cost-plus price
- Two-part transfer pricing
- Dual pricing
What is market price transfer pricing?
If a perfectly competitive market exists for a product, then the external market price is the optimum transfer price if the supplying division is operating at full capacity.
The market price should be adjusted for savings in certain costs that may not be incurred on internal transfers. What costs might be saved? 3
Distribution
Packaging
Advertising/Marketing the product
What is cost-plus transfer pricing?
A cost-plus approach ensures that overheads are recovered by the supplying division by setting the transfer price on total cost. MININUM. VC per unit.
What is two-part transfer pricing?
Transfers are charged at a predetermined standard variable cost, with a periodic charge for fixed costs made by the supplying division to the receiving division.
What is dual pricing in transfer pricing?
The supplying division is credited with a different price than that charged to the receiving division, where the receiving division is charged for all transfers at variable or marginal cost, and the supplying division is credited with the market value or a cost-plus transfer price.
Why might a dual pricing system reduce suboptimal decision making? 2
Keeps everyone happy, reduce conflict therefore increase in goal congruence.
Make sure transfer happens
What problem might there be in running a dual pricing system?
Hard for accounts to follow, as one accounts books says 20 and the other 30 so where does the other 10 go??
What are the advantages of using residual income (RI)?
- Acceptable projects increase the RI of a division giving a simpler decision rule
- RI can be more flexible as different costs of capital can be applied to investments with different risk characteristics.
What are the disadvantages of using residual income (RI)?
- Comparisons are more difficult
- RI does not relate the size of a centre’s income to the size of the investment.
How does residual income (RI) compare with return on investment (ROI)?
RI will increase if a new investment is undertaken which earns a profit in excess of the imputed interest charge on the value of the asset acquired, making marginally profitable investments more likely.
What is the balanced scorecard?
A strategic performance management tool that includes financial and non-financial measures to assess business performance.
What are the four perspectives of the balanced scorecard? 4
- Financial perspective, 2. Internal business perspective, 3. Innovation and learning perspective, 4. Customer perspective.
What is the purpose of the balanced scorecard?
To link financial and non-financial measures to a company’s strategy, ensuring balanced performance evaluation.
What are the key features of the balanced scorecard? 4
- Focuses on both internal and external factors, 2. Balances financial and non-financial measures, 3. Encourages continuous improvement, 4. Identifies key performance indicators (KPIs).
What are examples of financial perspective measures?
Revenue, Cost, Profit. E.g.
• Customer spend per head on food
• Customer spend per head on drinks
• Profit margins on food and drink
What are examples of internal business perspective measures?
Effectiveness of internal functions, Operational efficiency. E.g, • Amount of time it takes for customers to be sat at a table
• Amount of time it takes to ‘turn’ a table
• Amount of time it takes between customers ordering their food and it arriving at their table
What are examples of innovation and learning perspective measures?
Staff training, Development of new products and processes. E.g, • Number of new dishes on the menu
• Number of specials/one-offs/seasonal ingredients
• Number of training days for staff
What are examples of customer perspective measures?
Customer satisfaction, Product returns, Product lead times. E.g. • Customer complaints
• Repeat visits by customers
• Customer referrals
