Management Control Course Notes PDF

**[Management Control]** *Session 1 : What is management control ?* One widely used definition takes a broad view on management controls, and defines it as "those systems, rules, practices, values and other activities management put in place in order to direct employee behavior" (Malmi and Brown 2...

**[Management Control]** *Session 1 : What is management control ?* One widely used definition takes a broad view on management controls, and defines it as "those systems, rules, practices, values and other activities management put in place in order to direct employee behavior" (Malmi and Brown 2008, p. 290\*) - Management control as a package is a framework that encompasses accounting and measurement systems, and also organizational structure, administrative processes and cultural controls. - Both formal and informal controls - Objectives were : **Control costs & Coordinate decentralized decision making, while maintaining efficiency and dynamism** *Management accounting circle* 1. **[Planning ]** A broad concept that is concerned with formulating the direction for future operations. **Plans are statements of intent.** To execute them, organisations must provide: - the required resources - the enabling processes through which resources can be converted into valuable outputs - the means of monitoring activity to check that targets are achieved. **Data Planning** This is the sourcing, assembling, refining and presenting of all the data that will be needed to evaluate and prioritise options, set targets, predict outcomes and measure the execution of plans. Data plans should cover the entire value-generation process (or business model) and will, therefore invariably, include financial, non-financial and hybrid (e.g. cost/unit) data in a structured and controlled environment. 2. **[Decision-making ]** An effective management accounting function improves decision-making in organisations. This is because its people communicate **decision-relevant insight** and analysis to every decision-maker in the organisation, while being alert to the organisation's social and environmental duties. Good management accounting improves decision-making because it **extracts value from information**. It places the **best available evidence and forecasted** **information** at the centre of the decision-making process, providing more objective insight on which to reach conclusions or base judgements. 3. **[Controlling ]** Management accountants proactively control performance against predetermined targets at all levels of the organisation, which may include projects, people, activities, processes, sales volumes and revenues, resource quantities, operating costs and expenses, assets, liabilities and cash flows, as well as other non-financial measures. - Performance Reports *Session 2 : Accounting for Management Control* 1. **Financial Accounting vs. Management Control**: - **Financial Accounting**: A compulsory and standardized system used primarily for external reporting. It provides an accurate picture of a company's financial position, focusing on the consequences of past activities. Key elements emphasized include objectivity, verifiability, and precision. - **Management Control**: An internal, non-mandatory system designed to support decision-making for future activities. It helps identify areas of performance and non-performance, focusing on relevance and speed over precision. 2. **Accounting Systems Overview**: - **Financial Accounting**: Generates standardized financial statements such as the balance sheet, income statement, and cash flow statement, complying with frameworks like PCG, US GAAP, and IFRS. - **Cost Accounting**: Produces cost structure data essential for decision-making, including full, partial, and variable costs, as well as break-even points. - **Management Control**: Integrates financial and cost accounting information to create a comprehensive system for performance evaluation using tools like budgets, variance analyses, and scorecards 3. **Fundamentals of Profit and Cash Flow**: - Differentiates profit and cash flow, examining the impact of receivables, expenses, and assets over time. The analysis includes cash availability, financial structure balance, and operational profitability as central indicators for assessing overall financial health​ *Session 3: Responsibility Centers* 1. **Types of Responsibility Centers**: - **Cost Centers**: Focus on managing costs within a department or unit (e.g., manufacturing departments). - **Revenue Centers**: Generate and manage revenue but lack control over associated costs. - **Profit Centers**: Oversee both revenues and costs, allowing managers to focus on maximizing profitability (e.g., retail stores). - **Investment Centers**: Manage revenue, costs, and capital investment, holding managers accountable for profit generated and the capital employed (e.g., company divisions)​ 2. **Controllability Principle**: - This principle suggests that managers should be held accountable only for elements they can control, focusing on fairness and feasibility. By aligning a manager's responsibilities with the aspects they directly influence, performance evaluations become more accurate and just​ 3. **Centralization vs. Decentralization**: - **Decentralization** allows quicker decision-making and places authority with those who have detailed, day-to-day operational knowledge. It boosts responsiveness, motivates managers, and aids their professional growth. - **Challenges**: Decentralized structures may suffer from lack of coordination, potential goal conflicts, and difficulties in spreading innovative practices across the organization​ 4. **Examples and Implications of Responsibility Structures**: - Case studies illustrate various centers (cost, revenue, profit, and investment) within organizations, highlighting how each is structured to match accountability with specific types of output (e.g., profitability or cost efficiency)​ *Session 4: Performance Measurement* 1. **Designing Accounting-Based Performance Measures**: - Five essential steps include: - Selecting financial goals (e.g., operating profit). - Defining measurement items (e.g., asset definition). - Deciding on valuation methods (e.g., current vs. historical costs). - Setting performance targets (e.g., required rate of return). - Determining feedback timing (e.g., daily, weekly, monthly). 2. **Key Performance Indicators**: **[Du Pont analysis]** - **Return on Investment (ROI)**: A popular measure combining profitability and investment. It can use operating profit or net profit in the numerator and total assets or capital employed in the denominator. - **Residual Income (RI)**: Measures the absolute profit exceeding a company's required rate of return, fostering alignment between divisional and company-wide goals.  - **Return on Sales (ROS)**: A profitability metric indicating profit margin on sales revenue, commonly used within DuPont analysis to support ROI​ 3. **Alternative definition of investment** - **Total assets available** -- includes all assets, regardless of their particular purpose. - **Total assets employed** -- includes total assets available minus the sum of idle assets and assets purchased for future expansion. - **Total assets employed minus current liabilities** -- excludes that portion of total assets employed that are financed by short-term creditors. - **Stockholders' equity** -- requires allocation of the long-term liabilities to the subunits (in our example the 3 hotels), which would then be deducted from the total assets of each subunit. 4. **Asset Measurement Methods**: - **Current Cost vs. Historical Cost**: Current cost reflects fair market value, while historical cost represents original acquisition cost. Though historical cost is simpler and more common, it may discourage investments and expansions, as it might not accurately reflect economic returns - **Gross vs Net book value** : Gross book value is the original cost for obtaining the asset. - It is consistent with the total assets shown on the balance sheet - It is consistent with net profit computations that include deductions for depreciation 5. **Practical Application - Comfort Hotel Example**: - Performance comparison of different hotel locations using ROI, RI, and ROS, each with distinct insights on profitability and asset utilization. This comparison helps determine which location performs best and identify measurement weaknesses​. *Sessions 5-6-7: Budgeting and Forecasting Processes* 1. **Roles and Objectives of Budgeting**: - **Coordination**: Ensures alignment between operational plans and corporate strategy, facilitating inter-departmental communication and strategic cohesion. - **Delegation**: Assigns specific goals to managers, enhancing empowerment and partial delegation, which fosters accountability. - **Performance Management**: Serves as a benchmark, comparing actual results against budgeted expectations, allowing for corrective measures. - **Decision-Making Tool**: Consolidates relevant information for forecasting and resource allocation to achieve business objectives​ 2. **Types of planning** 3. **Criticisms of Traditional Budgeting**: - **Gaming**: Managers may manipulate budgets to present overly optimistic or conservative forecasts to suit personal or departmental goals. - **Myopia**: Budgeting can lead to short-termism, with managers focusing on meeting immediate targets rather than long-term organizational health. - **Rigidity**: Fixed budgets are criticized for being resource-intensive and inflexible, especially given rapidly changing market conditions 4. **Beyond Budgeting**: - Advocates for shifting from fixed performance contracts to relative performance targets, enabling greater flexibility and adaptability. This approach encourages a continuous planning mindset and reduces dependency on rigid annual budgets​ 5. **Sales Forecast to Purchases Exercise**: - Example calculation of components needed based on sales forecasts, illustrating the link between sales predictions and procurement planning. This exercise underscores the need for integrated planning across departments​ 6. **Free Cash flow calculation** - **Cash flow** = Cash collection -- Cash disbursements - **Final cash balance** = Initial cash balance -- Cash flow - Operating income + Depreciation and amortization = **EBITDA** - **Change in WRC =** change in inventory + change in AR -- change in AP *Sessions 8-9: Budgetary Control and Variance Analysis* 1. **Variance Definitions and Types**: - Variance analysis involves the difference between actual and budgeted figures, classified into revenue and cost variances. A positive revenue variance is favorable, while a positive cost variance is unfavorable​ 2. **Revenue Variances**: - **Volume Variance**: Assesses if the company achieved its budgeted sales quantity. **Volume Variance** = (**Qa** -- **Qb**) x **Pb** - **Price Variance**: Evaluates if sales prices met expectations. These variances help analyze profitability based on sales targets and market pricing​. **Price variance** = (**Pa** -- **Pb**) x **Qa** 3. **Direct Cost Variances**: - Focuses on raw materials and direct labor variances, breaking down total variance into volume and cost components. This allows companies to identify areas where budget deviations occur, aiding in cost management and resource optimization​. - **Cost Variance** = (Ca -- Cb) x Qa - **Volume variance** = (Qa -- Qb) x Cb - Must be less than 0 4. **Example Calculations**: - Practical exercises cover direct costs variance for raw materials and labor - in a single product, illustrating how variances in quantity and cost contribute to overall budget discrepancies. This level of detailed variance analysis enables precise corrective actions *Session 10 : Sustainability & Management Control * **1. Sustainable Development** - **Origins:** Sustainable Development Goals (SDGs) adopted in 2015 by the UN, as part of the 2030 Agenda. They include 17 goals with specific targets. - **Concept:** \"Meeting the needs of the present without compromising the ability of future generations to meet their own needs, while preserving Earth\'s life-support systems.\" (Griggs et al., 2013) - **Challenges:** Integrating the economic, social, and environmental spheres. **2. Role of Businesses** - **Global impact of decisions:** - **Direct:** Economic, social, and environmental impacts. - **Indirect (feedback):** Value chain (upstream and downstream impacts). - **Key themes:** - **Environment:** Climate, biodiversity, water. - **Society:** Equality, health. - **Governance:** Transparency, anti-corruption efforts. **3. Sustainability Indicators** - Proposed by the World Economic Forum (WEF) via common metrics: - **Environmental:** Greenhouse gas emissions, land use, water consumption. - **Social:** Diversity, pay equity, safety, training. - **Governance:** Composition of governing bodies, ethics. **4. Motivation of Companies** - **External factors:** - Laws and regulations (e.g., EU CSRD directive). - Stakeholder pressures. - **Internal factors:** - Economic opportunities. - Interest in sustainable financing. **5. Management Controls and Sustainability** - **Traditional systems:** Focused on economic objectives. - **Modern systems:** Include sustainability goals through adapted systems (Crutzen et al., 2017). **Components of Sustainable Management Controls (Crutzen et al., 2017):** 1. **Administrative controls:** - Policies, codes of conduct, dedicated structures (e.g., sustainability department). 2. **Cybernetic controls:** - Measurement systems (often basic, rarely linked to economic performance). 3. **Planning:** - Written action plans integrating social and environmental issues. 4. **Rewards and compensations:** - Rarely used for sustainability (limited to senior managers). 5. **Cultural controls:** - Informal tools: intranet platforms, internal events, shared values. **Control Typologies:** - **Complete package:** Combination of formal and informal mechanisms (rare). - **Advanced formal controls:** Planning + advanced indicators (less frequent). - **Dominant informal controls:** Values, symbols (more common). **6. Strategic Integration** - **Double materiality:** - **Financial materiality:** Impact of sustainability on the company. - **Impact materiality:** The company's influence on the environment and society. - **Integrated systems:** Merging traditional and sustainable systems to support sustainable strategies.