Chapter Chapter 1111

Fundamentals of Fundamentals of ManagementManagementControl Control

SystemsSystems

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Learning ObjectivesLearning Objectives

4.Explain the relation between organization structure and responsibility centers.

2. Identify the advantages and disadvantages of decentralization.

3.Describe and explain the basic framework for management control systems.

5.Understand how managers evaluate performance.

1.Explain the role of a management control system.

6.Analyze the effect of dual versus single rate allocation systems.

7.Understand the potential link between incentives and illegal or unethical behavior.

11-3Management Control Management Control SystemSystemL.O. 1 Explain the role of a management control

system.

A management control system is designed to influence subordinates to act in the organization’s interest.

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DecentralizationDecentralizationL.O. 2 Identify the advantages and disadvantages of

decentralization.

The delegation to subordinates the authority to make decisions in the organization’s name.

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Decisions are made by relatively few individuals in the high ranks of the organizations.

Decentralization ContinuedDecentralization Continued

Decisions are spread among relatively many managers.

Decisions are delegated to divisional managers

Centralized Organization

Decentralized Organization

Few decisions are delegated

11-6Advantages of Advantages of DecentralizationDecentralizationLocal managers have information about local conditions and can react quicker than top management.

Local managers have opportunity for on-the-job training in decision making and have the satisfaction of making their own decisions.

Top managers have knowledge about strategic issues and have more time for strategic decision making.

11-7Disadvantage of Disadvantage of DecentralizationDecentralization

Dysfunctional decision makingWhen local managers make decisions in their best interest that may not be in the best interest of the organization.

Duplication of administrationLocal managers make the same types of decisions made at headquarters.

11-8Management Control Management Control SystemsSystemsL.O. 3 Describe and explain the basic

framework for management control systems.

Delegated decision authority

Performanceevaluation and measurement

Compensationand reward

decision

A system designed to influence subordinates to act in the organization’s interest

Used by principals (owners) to influence agents’ (managers’) behavior

11-9Delegated Decision Delegated Decision AuthorityAuthority

A management control system specifies what decisions the subordinate manager can make in the name of the organization.

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Performance Evaluation and Performance Evaluation and MeasurementMeasurement

A management control system specifies how the subordinate manager’s performance is measure and evaluated.

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Compensation or RewardCompensation or Reward

A management control system defines how the subordinate manager is compensated.

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Balancing the ElementsBalancing the Elements

The goal of the organization is to make money. The goal of the subordinate manager is to make money.

An effective management control system influences the subordinate manager through compensations and rewards to make decisions that make money for the organization.

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Responsibility AccountingResponsibility AccountingL.O. 4 Explain the relation between organization

structure and responsibility centers.

Costs and revenues are reported at the level within the organization having the related responsibility.

Responsibility center

Cost center

Revenue center

Profit center

Investmentcenter

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Cost CenterCost Center

Cost center Manager is responsible for

costsCost and volume of inputs used to produce an output

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Revenue CenterRevenue Center

Selling a product

Revenue center

Manager is responsible for revenues

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Profit CenterProfit Center

Profit center

Manager is responsible for revenues AND costs

Revenues, costs, production, sales volume

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Investment CenterInvestment Center

Profits, capital budgeting, use of assets

Investment center

Manager is responsible for profits AND investment in assets

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Responsibility Centers and Organization Responsibility Centers and Organization StructureStructureOrganizational Structure and Responsibility Centers Group Vice-President

aInvestment centers

Division Vice-PresidentProfit centers

Staff managers

Discretionary cost centers

Plant managers

Cost centers

District sales managersRevenue centers

a Group refers to a group of divisions.

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Goal CongruenceGoal Congruence

Agreement by all members of a group on a set of objectives

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Evaluating PerformanceEvaluating PerformanceL.O. 5 Understand how managers evaluate

performance.

Controllability conceptManagers should be held responsible for costs or profits over which they have decision-making authority

Relative performance evaluation (RPE)

Compares divisional performance with that of peer group divisions

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Compensation SystemsCompensation Systems

Performance basedContingent compensation

Fixed compensation

Not performance based

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Corporate Cost AllocationCorporate Cost AllocationL.O. 6 Analyze the effect of dual versus single rate

allocation systems.Global Electronics

Latin America DivisionIncome for the Year (in thousands)

Global Electronics allocates corporate overhead based on relative revenue.

Actual Target

Revenue 70,000$ 70,000$ (Percentage of corporate revenue) 16% 14%

Direct division costs 51,800$ 51,800$ Allocated corporate overhead 4,800$ 3,500$

Operating profit 47,000$ 48,300$

11-23Corporate Cost Allocation Corporate Cost Allocation ContinuedContinued

Global ElectronicsLatin America DivisionIncome for the Year (in

thousands)

Actual Target

Revenue 70,000$ 70,000$ Direct division costs 51,800$ 51,800$

My revenue and costs were on target.

11-24Corporate Cost Allocation Corporate Cost Allocation ContinuedContinued

Global ElectronicsLatin America DivisionIncome for the Year (in

thousands)

a $70,000/16%b $70,000/14%

I’m not responsible

for corporate revenue.

Actual Target

Revenue 70,000$ 70,000$ (Percentage of corporate revenue) 16% 14%

Corporate revenue 437,500$ a 500,000$ b

11-25Corporate Cost Allocation Corporate Cost Allocation ContinuedContinued

Global ElectronicsLatin America DivisionIncome for the Year (in

thousands)

I’m not responsible

for corporate costs.a $4,800/16%

b $3,500/14%

Actual Target

Allocated corporate overhead 4,800$ 3,500$ (Percentage of corporate revenue) 16% 14%

Corporate costs 30,000$ a 25,000$ b

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Separates a common cost into fixed and variable components and then allocates each component using a different allocation base

Corporate Cost Allocation Corporate Cost Allocation ContinuedContinued

Dual rate method

Activity

Cost

ActivityC

ost

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Performance Evaluation Systems Performance Evaluation Systems IncentivesIncentives

L.O. 7 Understand the potential link between incentives and illegal or unethical behavior.

Does the measure reflect the results of the actions that improve the organization’s performance?

What actions can improve reported performance but which are detrimental to organizational performance?

11-28Unrealistic Budget Unrealistic Budget PressurePressure

Unrealistic budget pressures, particularly for short-term results, occur when headquarters arbitrarily determines profit objectives and budgets without considering actual conditions.

HELP!!This is

impossible

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Financial PressureFinancial Pressure

Financial pressure resulting from bonus plans that depend on short-term economic performance is particularly acute when the bonus is a significant component of the individual’s total compensation.

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Chapter 11Chapter 11

Sometimes I just don’t get it. What do they want?