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Financial & Managerial Financial & Managerial Accounting 2002eAccounting 2002e
Belverd E. Needles, Jr.Belverd E. Needles, Jr.Marian PowersMarian PowersSusan CrossonSusan Crosson
- - - - - - - - - - -Multimedia Slides by:
Harry Hooper Santa Fe Community College
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Chapter 23Chapter 23Performance Performance
Management and Management and EvaluationEvaluation
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LEARNING OBJECTIVESLEARNING OBJECTIVES
1. Describe how the balanced scorecard aligns performance with organizational goals and explain the balanced scorecard’s role in the management cycle.
2. Discuss performance measurement and state the issues that affect management’s ability to measure performance.
3. Define responsibility accounting and describe the role responsibility centers play in performance management and evaluation.
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LEARNING OBJECTIVESLEARNING OBJECTIVES
4. Prepare performance reports for the various types of responsibility centers, including reports based on the flexible budget for cost centers and variable costing for profit centers.
5. Use the traditional performance measures of return on investment and residual income to evaluate investment centers.
6. Use economic value added to evaluate investment centers.
7. Explain how properly linked performance incentives and measures add value for all stakeholders in performance management and evaluation.
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Organizational Goals and the Organizational Goals and the Balanced ScorecardBalanced Scorecard
OBJECTIVE 1
Describe how the balanced scorecard aligns performance with organizational goals and explain the balanced scorecard’s role in the management cycle.
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The Balanced ScorecardThe Balanced Scorecard
A framework that links the perspectives of an organization’s 4 stakeholder groups: Financial (investors) Learning and growth (employees) Internal business processes (management) Customers
with the organization’s: Mission and vision Performance measures Strategic plan Resources
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The Balanced ScorecardThe Balanced Scorecard
To succeed, an organization must add value for all stakeholders.
Determine each group’s objectives. Translate their objectives into
performance measures that have specific, quantifiable performance targets.
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The Balanced Scorecard and the The Balanced Scorecard and the Management CycleManagement Cycle
PlanningExample: Strategy is to achieve customer satisfaction
Perspective Objectives Performance Measures
Financial (investors) Revenue growth % growth in sales dollars
Learning and growth (employees)
Trained employees Number of trained employees, employee
turnover
Internal business processes
Reliable products, short delivery cycles
Number and cost of breakdowns, repair
costs, mean time between order and
delivery
Customers Customer loyalty Number of repeat customers, $ purchases
per customer
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The Balanced Scorecard and the The Balanced Scorecard and the Management CycleManagement Cycle
Executing• Use agreed-upon strategic objectives as a basis for
decision-making.
Reviewing • Review financial and nonfinancial results frequently.• Compare objectives with actual results.• Determine if measures or objectives need revision.
Reporting• Prepare reports which show performance measures
for each stakeholder group.
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DiscussionDiscussion
Q.Q. Who are the stakeholders in an organization?
1. Investors
2. Employees
3. Management (Internal business processes)
4. Customers
A.A.
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Performance MeasurementPerformance Measurement
OBJECTIVE 2Discuss performance measurement and state the issues that affect management’s ability to measure performance.
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What to Measure, How to MeasureWhat to Measure, How to Measure
Performance measurement is the use of quantitative tools to gauge an organization’s performance in relation to a specific goal or expected outcome.
Product or service quality is NOT a measure; it is what management wants to measure. Quantifiable measures must be developed to measure quality.
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Other Measurement IssuesOther Measurement Issues What performance measures can be used? How can managers monitor the level of quality? How can managers monitor processes to identify
areas that need improvement? How can managers measure customer
satisfaction? How can managers monitor financial
performance? Are there other stakeholders? What performance measures do governments
impose? How can a manager measure the effect on the
environment?
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DiscussionDiscussion
Q.Q. How does a company measure the quality of its products and services?
It develops quantitative measures which indicate whether quality objectives are being achieved.
A.A.
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Responsibility AccountingResponsibility Accounting
OBJECTIVE 3Define responsibility accounting and describe the role responsibility centers play in performance management and evaluation.
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Responsibility AccountingResponsibility Accounting
Responsibility accounting classifies data by areas of responsibility and reports on only the revenues, costs and resources that the assigned manager can control.
A responsibility centerresponsibility center is an organizational unit whose manager is responsible for a portion of the organization’s resources and its activities.
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Types of Responsibility CentersTypes of Responsibility Centers
Cost Centers – the manager is accountable only for controllable costs.
Discretionary Cost Centers – the manager is accountable only for costs; the relationship between resources and products or services
produced is not well defined. Administrative or support functions are often discretionary cost centers.
Revenue Centers – the manager is accountable primarily for controllable revenue generated.
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Types of Responsibility CentersTypes of Responsibility Centers(continued…)(continued…)
Profit Centers – the manager is accountable for revenues, costs and the resulting operating income.
Investment Centers – the manager is accountable for profit generation and can make decisions about resources used.
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Organizational Structure and Organizational Structure and Performance ManagementPerformance Management
An organization chart shows the hierarchy of responsibility for the purpose of management control.
Performance reporting by responsibility level traces the source of a cost, revenue or resource to the manager who controls it enabling his or her performance to be evaluated.
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DiscussionDiscussionQ.Q. Name the types of responsibility
centers?
1. Cost Centers
2. Discretionary Cost Centers
3. Revenue Centers
4. Profit Centers
5. Investment Centers
A.A.
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Performance EvaluationPerformance Evaluation
OBJECTIVE 4Prepare performance reports for the various types of responsibility centers, including reports based on the flexible budget for cost centers and variable costing for profit centers.
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Evaluating Cost Center Performance• Use flexible budgets to identify variances between
actual and expected costs.
Evaluating Profit Center Performance• Compare actual results to budgeted income
statement.• Use variable costing (contribution method) income
statements to focus on cost variability and the profit center’s contribution to operating income.
• Only show controllable costs.• Show other, nonfinancial performance measures.
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DiscussionDiscussion
Q.Q. What type of Income Statement should be used to evaluate profit centers?
Variable Costing Income StatementA.A.
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Evaluating Investment Center Evaluating Investment Center PerformancePerformance
OBJECTIVE 5
Use the traditional performance measures of return on investment and residual income to evaluate investment centers.
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Return on Investment (ROI)Traditionally the most common performance measure
ROI
= Operating Income
Average Assets Invested
= Operating Income x Sales
Sales Average Assets Invested
= Profit Margin x Asset Turnover
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Other Measures used in conjunction with ROI include:
Revenues Costs Operating Income Revenue growth Market share % changes in ROI
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Residual IncomeResidual Income
The operating income earned above a minimum desired return on invested assets.
Residual Income = Operating Income – (Desired ROI x Average Assets Invested)
Residual income eliminates the possibility of missed income opportunities that exist if ROI is used as a performance measure. BUT residual income does not provide a meaningful comparison between investment centers of a different size because residual income shows absolute dollars not a percentage.
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DiscussionDiscussion
Q.Q. What measure of investment center performance is best used to compare managers of different size investment centers?
ROI, because it provides a ratio. Residual income provides an absolute dollar amount.
A.A.
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Economic Value Added (EVA)Economic Value Added (EVA)
OBJECTIVE 6
Use economic value added to evaluate investment centers.
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Economic Value Added – the shareholder wealth created by an investment center.
Cost of Capital – the minimum desired rate of return on an investment.
EVA = After Tax Operating Income
– [Cost of Capital x (Total Assets – Current Liabilities)]
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Economic Value AddedEconomic Value Added
Compare EVAs from previous periods, target EVAs, and EVAs from other investment centers.
Affected by decisions on pricing, sales volume, taxes, cost of capital, etc.
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DiscussionDiscussionQ.Q. Why should multiple performance
measures be used to evaluate investment center performance?
Because any one performance measure tends to emphasize only one particular aspect of performance.
A.A.
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Performance IncentivesPerformance Incentives
OBJECTIVE 7
Explain how properly linked performance incentives and measures add value for all stakeholders in performance management and evaluation.
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Linking Goals, Objectives, Measures Linking Goals, Objectives, Measures and Performance Targetsand Performance Targets
The links should be causal:
Goal Objective Measure Performance Target
To be a friend
of the environment
To reduce the company’s
environmental risk
Number of products recycled
To recycle at least 10% of products sold
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Performance-Based PayPerformance-Based Pay
Responsibility center managers are more likely to achieve their performance targets if their pay depends on it.
Cash bonuses, awards, profit-sharing and stock options are forms of incentive compensation.
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The Coordination of GoalsThe Coordination of Goals Incentive plans to coordinate goals
must consider: When to give rewards? Who shall be rewarded? How should the reward be computed? Does the incentive plan address the interest of
all stakeholders? Performance Management and Evaluation
systems should balance and benefit all stakeholders.
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DiscussionDiscussionQ.Q. What does “an organization will get what
it measures” mean?
If performance measures (and incentives) are based on specific objectives, managers will be motivated to achieve the objectives that are being measured.
A.A.
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OK, LET’S REVIEW . . .OK, LET’S REVIEW . . .
1. Describe how the balanced scorecard aligns performance with organizational goals and explain the balanced scorecard’s role in the management cycle.
2. Discuss performance measurement and state the issues that affect management’s ability to measure performance.
3. Define responsibility accounting and describe the role responsibility centers play in performance management and evaluation.
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CONTINUING OUR REVIEWCONTINUING OUR REVIEW . . . . . .
4. Prepare performance reports for the various types of responsibility centers, including reports based on the flexible budget for cost centers and variable costing for profit centers.
5. Use the traditional performance measures of return on investment and residual income to evaluate investment centers.
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AND FINALLY . . .AND FINALLY . . .
6. Use economic value added to evaluate investment centers.
7. Explain how properly linked performance incentives and measures add value for all stakeholders in performance management and evaluation.