Introduction to Management Control Systems (MCS) PDF

Introduction to Management Control Systems (MCS) ================================================ 1. **Definition and Importance**: - MCS are essential to align organizational actions with its mission, goals, and strategies. - Lack of MCS can lead to organizational failure....

Introduction to Management Control Systems (MCS) ================================================ 1. **Definition and Importance**: - MCS are essential to align organizational actions with its mission, goals, and strategies. - Lack of MCS can lead to organizational failure. 2. **Functions of MCS**: - Top-down: Explain organizational mission and allocate resources. - Bottom-up: Report goal achievement and provide input for goal adjustments. 3. **Key Components**: - Vision, strategy, and efficient execution. - Strategic and management control alignment. **Need for MCS** - **Challenges**: - Employees may lack understanding, agreement, or resources to align with organizational goals. - **Sources of Misalignment**: - Personal biases, lack of congruence with organizational goals, and resource limitations. **Control Practices** 1. **Input Controls**: - Employee selection, value statements, and socialization processes. 2. **Throughput Controls**: - Delegation of decision-making, organizational rules, and architecture. 3. **Output Controls**: - Accountability via budgets, performance measures, and risk management. **Control Classifications:** - **Enabling Controls**: - Encourage involvement and understanding. - Promote communication and visualization. - **Coercive Controls**: - Perceived as ensuring obedience, often viewed negatively by employees. **Key Theoretical Insights** 1. **Merchant\'s Framework (1982)**: - Types of controls: input, throughput, and output. - Feasibility determinants for control systems. 2. **Kaplan\'s Anecdote**: - Illustrates the gap in understanding of organizational goals among employees. **Application and Casework** - Cases like **Abrams Company** and **Enron** to ground theoretical understanding. - Topics to consider: - Controllability Principle in performance targets. - Organizational architecture alignment with critical success factors. - Incentive structures and transfer pricing fairness. **Learning Objectives** - Explain the need for MCS. - Discuss challenges with aligning employee actions to organizational goals. - Differentiate between top-down and bottom-up roles. - Identify types of control practices. - Contrast enabling vs. coercive control systems. **\ ** Lecture 3: Mission, Goals, and Strategies ========================================= **Learning Objectives** 1. **Types of Organizational Goals**: - Financial Goals: - Profitability (e.g., ROI, ROE, ROA). - Cost-effectiveness (for non-profits). - Strategic Goals: - Building or sustaining competitive advantage. 2. **Strategies**: - **Deliberate Strategies**: - Forward-looking and systematic. - Driven by management rationale. - **Emerging Strategies**: - Evolve based on practical problem-solving. - Often differ from initial design. 3. **Contingency Theory**: - Influence of external factors (environment, strategy, and technology) on MCS design. - External factors: - Volatility, uncertainty, complexity, ambiguity (VUCA). 4. **Corporate Governance**: - Definition: Mechanisms ensuring accountability and alignment with stakeholder interests. - Tools: - Board of directors, financial reports, audits, incentive programs, and media. - Impact: - Can lead to better-run companies or encourage short-term focus. 5. **Stakeholder vs. Shareholder View**: - **Shareholder View**: - Focus on owner demands. - Principal-agent relationship. - Financial capitalism and short-term focus. - **Stakeholder View**: - Broader focus on diverse groups (customers, employees, etc.). - \"Social License to Operate.\" 6. **Corporate Social Responsibility (CSR)**: - Communicates an organization's ethics to stakeholders and the public. - CSR tools: - Code of conduct, sustainability reporting, culture, training, and storytelling. **Strategic Considerations** 1. **Corporate Strategy (Where?)**: - **Single Industry**: Minimal connections between business units. - **Unrelated Diversification**: Financial connections only. - **Related Diversification**: Leverages common resources and synergies. 2. **Business Unit Strategy (How?)**: - Competitive Advantage: - Cost leadership (\"no frills\"). - Differentiation (unique offerings). - Avoid being \"stuck in the middle.\" **Connections to Management Control Systems** 1. **Influences on MCS**: - Aligns with strategic goals. - Considers external contingencies like market volatility. 2. **Integration with CSR and Governance**: - CSR enhances stakeholder alignment. - Governance mechanisms strengthen accountability. **Application** - Case: **Scania**: - Examines the relationship between contingencies, strategy adjustments, and MCS fit. - Case: **BioTool**: - Focuses on innovation and strategic evolution. **Exam-Relevant Points** - Key frameworks: deliberate vs. emerging strategies, contingency theory, shareholder vs. stakeholder views. - CSR and corporate governance as tools for achieving organizational goals. - Application of concepts to case studies like Scania and BioTool. **Summary** This lecture integrates organizational mission, goals, and strategies into MCS, emphasizing the importance of adapting to contingencies and balancing diverse perspectives. Understanding these foundational elements will be crucial for both conceptual and applied assessments in the course. Lecture 5: Managers, Human Behaviors, and Organizations ======================================================= **Learning Objectives** 1. **Human Behavior and MCS Design**: - Understand the importance of human behavior for effective management control systems (MCS). - Explore models of human behavior (economic, sociological, psychological) and their implications for MCS. 2. **Integration of Human Behavior Models**: - Apply integrated perspectives on human behavior for improved MCS design. 3. **Role of Culture, Social Values, and Ethics**: - Their impact on MCS design and application. **Core Concepts** **Models of Human Behavior** 1. **Economic Model**: - Assumes rationality and utility maximization. - Motivated primarily by monetary rewards. - Agency Theory: - Aligns agent's interests with principal's through contracts. - Use of performance metrics and output controls. 2. **Psychological Model**: - Behavior driven by beliefs and desires. - Motivation: - Direction, amount, and persistence of effort. - Goal-Setting Theory: - Clear and challenging goals enhance motivation. - Limitations: Complex or overly difficult goals may demotivate. - **Self-Determination Theory**: - Intrinsic vs. extrinsic motivation. - Intrinsic motivation is fostered by enabling and bottom-up controls. 3. **Sociological Model**: - Behavior shaped by group norms and culture. - Emphasis on: - Collective behaviors. - Informal power and imitative behavior. - Influence of culture and social values on MCS. **Principles of MCS Design** 1. **Motivation (Principle 1)**: - Align goals and rewards with employee motivation. 2. **Ability and Innovation (Principle 2)**: - Encourage learning and innovation. - Recognize cognitive limitations and support tacit knowledge. 3. **Ethics and Culture (Principle 3)**: - Foster ethical practices and a supportive culture. - Consider social values, trust, and norms in MCS. **Key Behavioral Frameworks** 1. **Hofstede's and Minkov's Cultural Dimensions**: - Framework for analyzing cultural differences and their impact on organizations. 2. **Seven Habits of Highly Effective People**: - Principles such as proactivity and prioritization. 3. **Six Thinking Hats**: - Framework for diverse perspectives and decision-making. **Practical Applications** - **Goal-Setting**: - Align goals with organizational and individual objectives. - Combine monetary and non-monetary incentives. - **Equity and Justice in MCS**: - Ensure fairness (distributive and procedural justice). - **Agency Theory in Practice**: - Manage risk and uncertainty through appropriate contract design. **Casework and Examples** - **Netflix Case**: - Examine the applicability of economic, psychological, and sociological models. - Assess cultural dimensions using Hofstede's framework. - Reflect on intrinsic vs. extrinsic motivation within Netflix's culture. - Discuss cultural adaptability across global markets. **Exam-Relevant Points** - Understand the three models of human behavior and their MCS implications. - Apply principles of MCS design to real-world scenarios. - Discuss how culture and ethics influence MCS application. - Use frameworks like Hofstede's model to analyze organizational behavior. **Preparation for Case Studies** - Review cases like **Netflix Culture** for practical application of concepts. - Reflect on questions addressing cultural differences, motivation, and ethics. Lecture 7: Responsibility Centers ================================= **Learning Objectives** 1. **Responsibility Centre Types**: - Define and differentiate the four standard types of responsibility centres. - Understand performance criteria and evaluation methods for each type. 2. **Designing Responsibility Centres**: - Align organizational goals with responsibility assignment. - Apply controllability principles to ensure fair accountability. 3. **Evaluation Criteria**: - Emphasize efficiency and effectiveness in responsibility centre performance. **Core Concepts** **Responsibility Centres** - An **organizational unit** led by a manager responsible for its activities. - Purpose: Align individual unit goals with overall organizational mission and strategies. **Types of Responsibility Centres** 1. **Revenue Centres**: - Measure output in monetary terms (e.g., sales revenue). - No focus on input-output relationships. - Benefits: - Motivates sales performance. - Attracts and retains customers. - Challenges: - May prioritize revenue over profitability. - Risk of increased inventory and accounts receivable. 2. **Engineered Expense Centres**: - Found in manufacturing. - Inputs measurable in monetary terms; outputs measurable in physical terms. - Control methods: - Compare actual costs to standard costs. - Maintain specific quality standards. - Risks: - Focus on cost may reduce product quality. - Overproduction to improve unit cost metrics. 3. **Discretionary Expense Centres**: - Include R&D, marketing, and administrative units. - Outputs difficult to measure in monetary terms. - Controlled by: - Establishing budgets before expenses occur. - Non-financial performance measures. - Challenges: - Risk of \"empire building.\" - Goal incongruence due to functional focus over organizational goals. 4. **Profit and Investment Centres**: - Managers make trade-offs between revenues and expenses or assets employed. - Performance: - Profit centre: Revenue vs. expense trade-offs. - Investment centre: Profit vs. assets employed. - Requirements: - Access to relevant information. - Clear measurement of trade-off effectiveness. - Risks: - Potential loss of synergies if units are too autonomous. **Key Concepts in Responsibility Centre Design** 1. **Controllability Principle**: - Managers should only be held accountable for factors under their control. - Ensures fairness and realistic performance expectations. 2. **Trade-Offs in Profit and Investment Centres**: - Decisions involve balancing cost control, revenue generation, and asset utilization. 3. **Transfer Pricing**: - Used for internal transactions to assign costs between units. - Benefits: - Incentivizes revenue and cost considerations. - Challenges: - Can create issues of controllability and fairness. **Performance Metrics** - Financial Metrics: - Revenue, cost, profit, and ROI. - Non-Financial Metrics: - Quality, innovation, customer satisfaction. - Balanced Evaluation: - Combine financial and non-financial measures for holistic assessment. **Practical Applications** 1. **Case Study: Volvo Group**: - Evaluate responsibility structures in complex organizations. - Address the balance between unit autonomy and corporate constraints. 2. **Case Study: MoreSki**: - Analyze criteria for assigning responsibility centre types. - Evaluate challenges in engineered and discretionary expense centres. **Exam-Relevant Points** - Understanding the **four types of responsibility centres** and their evaluation criteria. - Application of the **controllability principle** to ensure fair performance assessment. - Importance of **transfer pricing** in internal transactions. - Trade-offs between autonomy and synergy in profit and investment centres. **Preparation for Case Studies** - Reflect on examples like Volvo and MoreSki to understand practical challenges in responsibility centre management. - Focus on aligning responsibility centres with organizational strategy and ensuring balanced performance metrics. Lecture 9: Transfer Pricing and Shared Service Centers ====================================================== **Learning Objectives** 1. **Transfer Pricing Objectives**: - Ensure relevant information for cost-revenue trade-offs. - Induce goal-congruent decisions. - Measure financial performance of responsibility centres. - Provide a simple, tax-compliant system. 2. **Transfer Pricing Methods**: - Understand qualitative and quantitative aspects of different methods. - Evaluate their advantages and challenges. 3. **Shared Service Centres**: - Define characteristics and benefits. - Examine management control considerations. **Core Concepts** **Transfer Pricing** - **Definition**: A method of accounting for the transfer of goods/services between responsibility centres. - **Objectives**: - Enable decision-making for cost and revenue optimization. - Align decisions with organizational goals (goal congruence). - Simplify administration and ensure tax compliance (arm's length principle). **Methods of Transfer Pricing** 1. **Market-Based**: - Uses external market prices. - Ideal for competitive markets with homogeneous products. - Challenges: - Not suitable for differentiated products or integrated production. - Limited freedom to source internally/externally. 2. **Cost-Based**: - Includes **variable cost**, **full cost**, or **cost-plus profit**. - Standard costs preferred over actual costs to avoid inefficiency. - Challenges: - Does not mimic market dynamics. - May lead to sub-optimal decisions. 3. **Negotiated Prices**: - Allows flexibility through internal negotiation. - Suitable for decentralized decision-making. - Challenges: - May lead to internal conflicts. 4. **Dual Pricing**: - Different prices for buying and selling units (e.g., market price vs. standard cost). - Addresses conflicts between units but complicates profit measurement. **Key Considerations in Transfer Pricing** - **Performance Evaluation**: - Ensure accurate measurement of unit profitability. - **Incentives**: - Encourage goal-congruent decisions and cost control. - **Tax Compliance**: - Adhere to the arm's length principle to avoid regulatory conflicts. **Shared Service Centres (SSC)** - **Definition**: A centralized business unit handling non-core functions (e.g., HR, IT, finance). - **Advantages**: - Economies of scale and reduced costs. - Clarity and focus for business unit managers. - Enhanced customer focus and service quality. - **Challenges**: - High project failure rates. - Difficulty standardizing services for varied needs. **Management Control in SSCs** - **Operational Models**: - Operates as an expense or profit centre. - Funded through service fees, encouraging cost-benefit optimization. - **Governance**: - Service level agreements (SLAs) outline expectations (e.g., cost, quality, timelines). - Balance between cost efficiency and service quality. **Practical Applications** 1. **Case: North Country Auto**: - Evaluate transfer pricing decisions and their impact on profitability. 2. **Examples of SSC Issues**: - Decision-making for internal vs. external sourcing. - Controlling shared service costs while ensuring quality. **Exam-Relevant Points** - Understand the **objectives and principles** of transfer pricing. - Apply and evaluate **different transfer pricing methods**. - Address **tax compliance and management control conflicts**. - Define and analyze the role of **shared service centres**. **Preparation for Case Studies** - Reflect on cases like **North Country Auto** to apply transfer pricing concepts. - Focus on the balance between internal cost controls and external compliance. Lecture 11: Organizational Structure and Cross-Functional Integration ===================================================================== **Learning Objectives** 1. Understand **differentiation and integration** in organizational structures and their interrelation. 2. Analyze the pros and cons of various **organizational structures**: - Functional. - Business units (divisions). - Matrix organizations. 3. Explore the principles and applications of **lean management**. 4. Describe **project management** phases, including: - Waterfall planning vs. Agile management. - The project management triangle (cost, time, quality). **Core Concepts** **Differentiation and Integration** - **Differentiation**: - Specialization of functions and expertise within departments. - Common in silo-based structures. - **Integration**: - Collaboration across specialized units for common goals. - Addressed through cross-functional coordination mechanisms like matrix structures. **Organizational Structures** 1. **Functional Organizations**: - **Advantages**: - Specialization and economies of scale. - Improved functional competence development. - **Disadvantages**: - Limited cross-functional collaboration (silos). - Disputes resolved only at the top level. 2. **Business Units (Divisions)**: - **Advantages**: - Close to market needs, promoting sound decisions. - Training ground for general management. - **Disadvantages**: - Duplication of work across units. - Weakened functional expertise. 3. **Matrix Organizations**: - Combines functional and business unit structures. - **Advantages**: - Shared accountability and resources. - Better cross-functional collaboration. - **Disadvantages**: - Conflicting orders from dual managers. - More complexity in structure. **Lean Management** - **Focus Areas**: - Resource efficiency: Maximizing utilization of resources. - Flow efficiency: Minimizing lead times and focusing on quality (\"Do it right the first time\"). - **Goals**: - Reduce costs, improve quality, and increase flexibility. - Align input, throughput, and output controls with lean principles. - **Implementation**: - Techniques like Just-in-Time (JIT) and Total Quality Management (TQM). **Project Management** 1. **Definition**: - A temporary endeavor to achieve specific objectives within set constraints. 2. **Key Characteristics**: - Single objective, time-bound, and less standardized than ongoing operations. - Unique organizational structures for project teams. 3. **The Project Management Triangle**: - Trade-offs between cost, time, and quality. **Project Planning Approaches** 1. **Waterfall Method**: - Sequential and structured (Critical Path Method). - Focus on estimating time and interdependencies. - Critical path activities receive higher priority. 2. **Agile Management**: - Flexible and iterative planning. - Emphasis on face-to-face communication and frequent meetings. - Prioritizes customer feedback and adaptability. **Project Evaluation** - **Post-Project Evaluation**: - Assess management effectiveness. - Analyze budget vs. actual outcomes. - Reflect on process efficiency and results achieved. **Practical Applications** 1. **Lean Management**: - Case: Analyze scenarios requiring integration of lean principles. - Focus on reducing waste and enhancing process flow. 2. **Project Management**: - Case: Evaluate new product development processes (e.g., Big Fish). - Compare Agile and Waterfall approaches for different industries. **Exam-Relevant Points** - Understand how **differentiation and integration** affect organizational performance. - Evaluate the **advantages and disadvantages** of various organizational structures. - Apply principles of **lean management** to enhance efficiency. - Contrast **Waterfall and Agile** project management methods. - Use the **project management triangle** to analyze project constraints and decisions. **Preparation for Case Studies** - Reflect on cases like **Big Fish** to explore real-world implications of structure and integration. - Consider how lean management and project methodologies impact organizational success. Lecture 13: Management Control Systems and Inter-Organizational Relationships ============================================================================= 1. Understand the drivers of **inter-organizational relationships**. 2. Explore common forms of inter-organizational relationships, such as strategic alliances and joint ventures. 3. Distinguish between **internal and inter-organizational management control systems (MCS)**. 4. Identify changes to internal MCS needed to enhance inter-organizational collaboration. 5. Discuss methods for **joint development of inter-organizational control practices** with key customers and suppliers. - **Globalization**: Creates new opportunities and increased competition. - **Technological Advancements**: - Increased product complexity. - Dependence on external expertise and resources. 1. **Customer-Supplier Relationships**: - Technology licensing, fees, or royalty payments to reduce costs and accelerate market entry. 2. **Strategic Alliances**: - Shared resources and joint development of technology or products. - Risks: Exploitation, dependency, and confidentiality breaches. 3. **Joint Ventures**: - New organizational structures with shared ownership and control. 1. **Input Controls**: - Building trust as a key input. - Actions to foster trust: - Regular meetings. - Transparent communication. - Joint conflict resolution mechanisms. 2. **Throughput Controls**: - Guidelines, policy documents, and joint value chain analysis. - Formalized forums for collaboration (e.g., alliance boards). 3. **Output Controls**: - Joint performance measures with financial and non-financial metrics. - Open-book accounting for transparency. - Joint reward systems for cost reductions and productivity gains. - **Challenges**: - Pressure on smaller suppliers/customers through payment terms. - **Improvements**: - Faster inventory turnover and efficient cash flow management. - Collaboration to reduce costs across the supply chain. - **Steps**: - Define target price, profit, and cost. - Cooperate with customers to understand future trends. - Collaborate with suppliers for cost reduction and product redesigns. - **Approaches**: - Concurrent cost management for fundamental changes. - Incentives like rank-based rewards for suppliers. - Changes in one relationship can impact others in the network. - Use **value flow charts** to visualize key relationships and their impact. - Include **indirect benefits** in customer profitability analysis. - **Challenges**: - Short-term buyer-supplier relationships. - Environmental and ethical issues (e.g., child labor, sustainability). - **Solutions**: - Buyer's Internal Controls: - Strengthen supplier assessment and evaluation processes. - Implement stronger codes of conduct. - Supplier's Internal Controls: - Invest in sustainable production practices. - Improve transparency and compliance with ethical standards. - Joint Inter-Organizational Controls: - Establish shared standards and joint audits. - Collaborate on sustainable innovations. - Explain the **drivers and benefits** of inter-organizational relationships. - Apply the principles of **trust, transparency, and collaboration** to control systems. - Understand and analyze **joint performance measures** and reward systems. - Address challenges in **working capital and sustainability** in case scenarios. - Use examples like the **clothing industry** to illustrate inter-organizational MCS applications. - Explore how inter-organizational MCS can enhance supply chain sustainability and performance. - Focus on the practical implications of trust-building, collaboration, and joint controls. Lecture 14: Managing Competences with Intellectual Capital Statements (ICS) =========================================================================== **Learning Objectives** 1. Understand the importance of **knowledge resources** and their management. 2. Define **Intellectual Capital (IC)** and its elements. 3. Comprehend the **Danish framework** for IC management and reporting. 4. Learn how to prepare and utilize an **Intellectual Capital Statement (ICS)**. 5. Explore the **four elements** of an ICS and their interconnections. **Core Concepts** **Intellectual Capital (IC)** - **Definition**: - Accumulated knowledge and competencies of an organization. - Complements financial capital and includes intangible assets. - **Components**: - **Human Capital**: - Employee knowledge, skills, and experiences. - Not owned by the organization. - **Relational/Customer Capital**: - Relationships and networks inside and outside the organization. - Source of innovations and revenue streams. - **Structural/Organizational Capital**: - Proprietary knowledge, systems, and processes owned by the firm. - Includes intellectual property and organizational routines. **Importance of Knowledge Management** - **Shift to Knowledge Economies**: - Knowledge is a critical driver of competitive advantage in the 21st century. - **Challenges**: - Intangible nature of knowledge makes it difficult to manage and measure. - **Benefits of IC Accounting**: - Enhances transparency and reduces information asymmetry. - Focuses on knowledge-based value creation. **The Danish Framework for IC Statements** - **Development**: - Created during the 1997-2002 period, involving 100+ companies. - **Characteristics**: - Narrative-based approach emphasizing value creation. - Indicators complement conventional financial performance measures. **Four Elements of an Intellectual Capital Statement** 1. **Knowledge Resources**: - Core areas include employees, customers, processes, and technology. - Must be identified and systematically managed. 2. **Management Challenges**: - Address overarching challenges such as employee retention, market visibility, and process optimization. 3. **Knowledge Narrative**: - Explains the company's knowledge management ambitions and strategy. - Articulates how knowledge resources create value. 4. **Indicators**: - Metrics for evaluating knowledge management activities and results. - Enable follow-ups and provide actionable insights. **Preparing an Intellectual Capital Statement** - **Process**: 1. Map existing knowledge management activities. 2. Identify gaps and align initiatives with strategic goals. 3. Develop a coherent knowledge narrative connecting resources, initiatives, and outcomes. 4. Define indicators to track progress and impact. - **Iterative Approach**: 1. Requires multiple iterations to refine coherence among the elements. **Practical Applications** - **Examples of Initiatives**: - Establish educational programs. - Implement knowledge-sharing incentives. - Create partnerships with academic institutions. - **Indicators**: - Examples: Employee turnover rates, customer satisfaction scores, and time-to-market metrics. **Exam-Relevant Points** 1. Define and explain the **three elements of IC** (human, relational, structural). 2. Illustrate how the **Danish framework** operationalizes IC reporting. 3. Discuss the **four elements** of an ICS and their role in knowledge management. 4. Provide examples of initiatives, challenges, and indicators in knowledge management. **Preparation for Questions** - Practice creating examples of IC components and their interrelations. - Reflect on how IC management links to broader organizational strategy. - Familiarize yourself with the steps to prepare an ICS. Lecture 15: Budgeting and Forecasting ===================================== **Learning Objectives** 1. Explain the different **roles of budgeting** in organizations. 2. Compare and contrast **top-down** vs. **bottom-up** budgeting and **tight** vs. **loose** budgetary controls. 3. Understand **budget gaming** and the factors influencing it. 4. Discuss criticisms of traditional budgeting and evaluate alternatives like **rolling forecasts** and **beyond budgeting**. **Core Concepts** **Definition and Purpose of Budgets** - **Definition**: - Quantitative expression of a management plan for a future period. - Includes both financial and non-financial aspects, often consolidated into a **master budget**. - **Functions**: - **Planning**: - Predict results, allocate resources, and set goals. - **Coordination**: - Align activities across departments. - **Accountability**: - Evaluate manager performance and provide feedback. - **Motivation**: - Set targets to incentivize effort and achievement. **Budgeting Processes** 1. **Top-Down Budgeting**: - Centralized control where upper management sets goals. - **Benefits**: - Faster process with clear strategic alignment. - **Challenges**: - Limited input from lower-level managers, reducing realism and buy-in. 2. **Bottom-Up Budgeting**: - Inputs from lower-level managers aggregated upward. - **Benefits**: - Increases managerial motivation and commitment. - **Challenges**: - Risk of budget slack and misalignment with top-level objectives. 3. **Iterative Budgeting**: - Combines top-down and bottom-up, with revisions through multiple cycles. - **Benefits**: - Balanced participation and alignment. - **Challenges**: - Time-consuming and prone to gaming behaviors. **Tight vs. Loose Budgetary Control** 1. **Tight Control**: - Strict evaluation and minimal tolerance for deviations. - **Pros**: - Enforces discipline and accountability. - **Cons**: - Can demotivate and foster risk-averse behaviors. 2. **Loose Control**: - Flexible and focuses on learning and improvement. - **Pros**: - Encourages creativity and adaptability. - **Cons**: - May enable gaming behaviors. **Budget Gaming** - **Definition**: Dysfunctional behaviors to manipulate budgets for personal or departmental gain. - **Common Tactics**: - Creating slack by underestimating revenue or overestimating costs. - Accelerating or deferring sales/spending near year-end. - **Factors Influencing Gaming**: - **Control Type**: Tighter controls may lead to hedging, while looser controls can increase detection risk. - **Reward Systems**: High stakes may incentivize manipulation. - **Economic Conditions**: Uncertainty may encourage slack creation. **Criticisms of Traditional Budgeting** 1. Encourages **myopia** and short-termism. 2. Time-consuming and resource-intensive. 3. Rigid and inflexible to changing environments. 4. May foster gaming and inefficiencies. **Alternatives to Traditional Budgeting** 1. **Rolling Forecasts**: - Continuous updates (e.g., quarterly) instead of static annual plans. - **Benefits**: - Increases adaptability and relevance. - Focuses on KPIs rather than detailed line items. - **Challenges**: - Requires a culture shift and ongoing effort. 2. **Beyond Budgeting**: - Decentralizes decision-making and removes fixed performance targets. - **Key Principles**: - Emphasize governance through clear principles and values. - Use relative performance measures and benchmarks. - **Benefits**: - Reduces gaming and aligns with dynamic environments. - **Criticisms**: - Difficult to implement and requires strong organizational commitment. **Practical Applications** - **Case Study: Hampton Freeze Inc.**: - Setting up a master budget including operational (sales, production) and financial (cash flow, income statement) components. - **Research Insights**: - Budget gaming behaviors and their prevalence in different environments. **Exam-Relevant Points** 1. **Explain**: - The roles of budgeting in planning, accountability, and motivation. 2. **Compare**: - Different budgeting approaches and their benefits/challenges. 3. **Discuss**: - Criticisms of traditional budgeting and evaluate alternatives like rolling forecasts or beyond budgeting. 4. **Analyze**: - How gaming behaviors affect budget reliability and how to mitigate them. Lecture 17: Financial and Non-Financial Performance Measurement Systems ======================================================================= **Learning Objectives** 1. Understand the selection and evaluation of **financial and non-financial performance measures**. 2. Recognize the **pitfalls** associated with financial and non-financial measures. 3. Learn about the **Balanced Scorecard (BSC)** framework and its implementation. 4. Explore considerations for integrating BSC into performance measurement systems. **Core Concepts** **Performance Measurement Systems** - **Purpose**: - Help managers and employees implement and refine organizational goals and strategies. - Provide a mix of financial (e.g., ROI, revenues) and non-financial (e.g., customer satisfaction) measures. **Financial Performance Measures** 1. **Advantages**: - Precise, objective, and cost-effective. - Reflect organizational goals of profit maximization. - Familiarity due to accounting standards and external reporting requirements. 2. **Common Measures**: - **Market Measures**: - Shareholder returns, stock price changes. - **Accounting Measures**: - EBIT, ROI, Residual Income (RI), Economic Value Added (EVA). 3. **Limitations**: - Focus on past performance (lagging indicators). - May encourage short-termism at the expense of long-term value. - Dependent on accounting rules, introducing potential biases. **Non-Financial Performance Measures** 1. **Categories**: - Customer-oriented: Market share, satisfaction, retention. - Business process-oriented: On-time delivery, capacity utilization. - Employee-oriented: Training hours, retention rates. - Innovation/environment: Product launches, sustainable practices. 2. **Benefits**: - Provide leading indicators of future performance. - Highlight drivers of long-term success. 3. **Challenges**: - Lack of standardized measurement units. - Expensive and time-consuming to measure. - Difficult to link directly to financial outcomes. **Balanced Scorecard (BSC) Framework** 1. **Definition**: - A performance management tool combining financial and non-financial measures across four perspectives. 2. **Perspectives**: - **Financial**: ROI, EVA, sales growth. - **Customer**: Profitability, retention, satisfaction. - **Internal Processes**: Quality, cost, process efficiency. - **Learning and Growth**: Employee skills, innovation, IT capabilities. 3. **Features**: - Integrates leading (predictive) and lagging (outcome) indicators. - Aligns short- and long-term goals. - Highlights cause-effect relationships through strategy maps. 4. **Implementation Considerations**: - Top management commitment and employee involvement. - Align measures across business units and corporate levels. - Regular updates to reflect strategy changes. - Balance between too few and too many measures to avoid overload. **Pitfalls of the Balanced Scorecard** 1. **Assumptions**: - Incorrect cause-effect relationships (e.g., customer satisfaction ≠ profitability). - Ignores time lags in achieving outcomes. 2. **Stakeholder Balance**: - May overlook critical stakeholders like suppliers or regulators. 3. **Interdependencies**: - Strategic uncertainties (e.g., external threats) not well captured. **Practical Applications** - **Case: Frescent and Sustainability**: - Explore how sustainability goals integrate with the BSC framework. - Focus on balancing environmental, social, and financial metrics. - **ROI and NPV Examples**: - Understand how financial metrics influence investment decisions. **Exam-Relevant Points** 1. Explain the **advantages and disadvantages** of financial measures like ROI, RI, and EVA. 2. Describe categories of **non-financial measures** and their role in performance evaluation. 3. Outline the **Balanced Scorecard framework**, including its perspectives and benefits. 4. Discuss **implementation challenges** for the BSC and ways to address them. 5. Analyze scenarios requiring a mix of financial and non-financial measures. **Preparation for Case Studies** - Reflect on how financial and non-financial measures complement each other in achieving organizational goals. - Understand practical implementation of the Balanced Scorecard in diverse industries. Lecture 19: Value-Based Management and Economic Value Added (EVA) ================================================================= **Learning Objectives** 1. Understand the objectives of **Value-Based Management (VBM)**. 2. Explore **Economic Value Added (EVA)** as a performance measure. 3. Evaluate the advantages and limitations of EVA in performance measurement and compensation systems. **Core Concepts** **Value-Based Management (VBM)** - **Definition**: A management approach aligning decision-making with value creation for shareholders. - **Objectives**: - Support **strategic planning** and decision-making. - Provide performance incentives linked to value creation. - Measure divisional performance accurately. - Communicate value creation to internal and external stakeholders. **Economic Value Added (EVA)** 1. **Definition**: - EVA measures residual income after accounting for the cost of capital. 2. **Components**: - **NOPAT**: Net Operating Profit After Tax. - **WACC**: Weighted Average Cost of Capital, reflecting the blended cost of equity and debt. - **Invested Capital**: Total funds invested in a business. 3. **Advantages**: - Focuses on long-term value creation. - Aligns managerial decisions with shareholder interests. - Highlights underperforming assets. 4. **Limitations**: - Complex accounting adjustments (e.g., for R&D capitalization). - Increased objectivity challenges with adjustments. - May lack understandability for all users. **Cost of Capital and WACC** - Reflects opportunity cost and risk of alternative investments. - Calculated as a weighted average of the cost of equity and debt: **EVA in Managerial Compensation** 1. **Design Principles**: - Bonuses tied to EVA improvements over multiple years. - \"Bonus Banks\" to defer payouts, aligning with long-term goals. - Adjust book value and operating profit for accounting distortions. 2. **Benefits**: - Encourages investment in value-enhancing projects. - Promotes efficient asset use and competitive advantage. 3. **Challenges**: - Short-term focus if improperly implemented. - Complexity in adjustments can reduce transparency. **Practical Applications** - **Examples**: - Companies like BMW and Mercedes Benz use EVA to measure performance and align strategies. - **Case Studies**: - Scenarios evaluating ROI, Residual Income, and EVA. **Exam-Relevant Points** 1. **Explain**: - The objectives of VBM and how EVA aligns with these goals. 2. **Calculate**: - EVA using NOPAT, WACC, and invested capital. 3. **Compare**: - EVA vs. other financial measures (e.g., ROI, Residual Income). 4. **Critique**: - The complexity and limitations of EVA in practical applications. **Preparation for Case Studies** - Analyze real-world scenarios where EVA is applied. - Consider how EVA impacts strategic decisions and managerial incentives. Lecture 21: Monetary Incentive Systems and Motivation ===================================================== 1. Understand the roles of compensation in organizations. 2. Differentiate between various forms of incentives. 3. Explain how **Agency Theory** and **Self-Determination Theory (SDT)** influence incentive design. 4. Discuss critiques of these theories and justify preferences for one over the other. - Attract and retain talent. - Recognize performance and encourage effort. - Align employee goals with organizational goals (goal congruence). - Offer flexibility via variable pay to share performance risks. 1. **Basic Salary**: - Fixed pay, shows appreciation, impacts motivation. 2. **Short-Term Variable Pay**: - Performance-based bonuses tied to measurable outcomes. 3. **Deferred (Long-Term) Pay**: - Bonuses earned over time, incentivizing long-term goals. 4. **Stock Options**: - Align managers\' interests with shareholders but may create risk-related challenges. 5. **Intrinsic Incentives**: - Non-financial motivators, such as meaningful work and teamwork. 1. **Agency Theory**: - Principal (owner) and agent (manager) relationship. - Incentives aim to align the agent's goals with the principal's. - Emphasizes extrinsic motivators, such as monetary rewards. - Challenges: - Effort aversion and information asymmetry (hidden actions). - Risk-sharing trade-offs in incentive contracts. 2. **Self-Determination Theory (SDT)**: - Differentiates **intrinsic motivation** (driven by interest, satisfaction) from **extrinsic motivation** (reward-driven). - Psychological needs: - Competence. - Relatedness. - Autonomy. - Risks: - **Crowding Out Effect**: Extrinsic rewards may reduce intrinsic motivation if perceived as controlling. - Occurs when external rewards impair self-determination or self-esteem. - Conditions: - Perceived external control. - Lack of acknowledgment of intrinsic motivation. - **Crowding In**: - Rewards seen as supportive can enhance intrinsic motivation. - Fair compensation (acknowledgment). - Interesting and challenging tasks. - Opportunities for competence development. - Employee involvement and autonomy in decision-making. 1. **Agency Theory**: - Assumes rational, self-interested behavior, which may oversimplify human motivation. - Ignores ethical considerations. 2. **SDT**: - Experimental evidence may not generalize to real-world settings. - Hidden costs of extrinsic rewards are subtle and harder to measure. -- -- -- -- -- -- - **Case Example: Creative Organizations**: - Address pitfalls in aligning cost-efficiency with creativity. - Highlight the balance between intrinsic and extrinsic motivators in innovative environments. 1. **Explain**: - Roles of monetary incentives and their impact on motivation. 2. **Differentiate**: - Agency Theory vs. SDT in designing incentive systems. 3. **Discuss**: - Conditions under which external rewards crowd out/in intrinsic motivation. 4. **Critique**: - Analyze strengths and limitations of motivational theories. Lecture 23: Risk Management Systems =================================== 1. Understand the **importance of risk management** for organizational success. 2. Discuss the integration of **risk management systems** into management control systems. 3. Explain different theoretical and practical **conceptions of risk**. 4. Identify and distinguish the **steps in the risk management process**. 5. Explore the **Enterprise Risk Management (ERM) Frameworks**. - **Definition**: - Continuous awareness and proactive processes to identify, assess, and mitigate risks that can negatively impact organizational objectives. - **Key Characteristics**: - Structured rather than reactive. - Integrated with other management control practices. - Cost-benefit oriented. 1. **Statistical Notion**: - Neutral concept involving probabilities of outcomes. 2. **Behavioral Aspects**: - Managers often rely on available or familiar information rather than comprehensive data. - Optimism or pessimism can distort risk evaluations. 3. **Economic Perspective**: - Risk involves trade-offs and expected outcomes. 4. **Psychological Factors**: - Personal attitudes, biases, and cognitive limitations influence risk-taking behaviors. 1. **Assess Risk Appetite**: - Define the level of risk the organization is willing to accept in achieving its mission and objectives. - Risk appetite acts as a guardrail for decision-making. 2. **Define Responsibilities**: - Assign roles (e.g., risk managers, CFO, COO) for monitoring and mitigating risks. 3. **Analyze Risks**: - Categorize risks as strategic, operational, financial, legal, market, political, or technological. - Use tools like **risk assessment matrices** to evaluate likelihood and impact. 4. **Communicate and Report**: - Share risk information internally and externally. - Use frameworks such as risk event cards to document and assess risks. 1. **Strategic Risks**: - Arise from high-level decision-making and alignment with organizational goals. 2. **Preventable Risks**: - Internally generated risks that can be avoided or controlled. 3. **External Risks**: - Risks outside organizational control (e.g., economic downturns, natural disasters). 1. **COSO ERM (2004)**: - Focuses on aligning risk appetite with strategy. - Covers strategic, operational, compliance, and reporting risks. - **Process**: - Identify potential events (risks and opportunities). - Assess risks as inherent, control, or residual. - Develop risk responses: reduce, share, avoid, or accept. 2. **Updated COSO ERM (2017)**: - Emphasizes value creation through proactive risk management. - Integrates risk management into strategic decision-making. 1. **Reduce**: - Implement controls to mitigate risks. 2. **Share**: - Transfer risks via insurance, outsourcing, or hedging. 3. **Avoid**: - Refrain from engaging in high-risk activities. 4. **Accept**: - Tolerate risks when the cost of mitigation exceeds benefits. - **SWOT Analysis**: - Analyze Strengths, Weaknesses, Opportunities, and Threats to identify risks and opportunities. - **Risk Assessment Matrix**: - Evaluate risks based on likelihood and impact. 1. **Define**: - Key components of the risk management process. 2. **Differentiate**: - Between strategic, preventable, and external risks. 3. **Explain**: - The importance of COSO ERM frameworks and their applications. 4. **Discuss**: - Behavioral aspects influencing managerial risk decisions. - Analyze real-world cases (e.g., Toshiba) to evaluate risk management practices. - Explore how structured risk management aligns with organizational goals and strategies. Aarhus BSS KPMG Presentation on Digital Finance and Advisory Services ===================================================================== 1. **Focus Areas**: - Digital transformation in finance. - Data-driven decision-making. - Optimization of financial processes. 2. **Learning Objectives**: - Understand how digital finance enhances operational and strategic capabilities. - Explore tools and practices for improving financial reporting, compliance, and performance measurement. 1. **Key Service Lines**: - **Controlling and Reporting**: - Ensuring compliance and financial reporting accuracy. - **Financial Management**: - Strategic planning and risk management. - **Project Management**: - Managing significant business transformations. 2. **Digital Finance Offerings**: - **Robotic Process Automation (RPA)** and **Machine Learning** for process optimization. - **Predictive Analytics** for better forecasting. - Tools for **interactive dashboards** and reporting automation. 1. **Enterprise Performance Management**: - Integrated business planning with KPIs. - Predictive models and driver-based planning. - ESG reporting and sustainability-focused tools. 2. **Finance Strategy**: - Future operating models with digital integration. - Governance enhancements for efficiency. 3. **Process Automation**: - Automating accounts payable/receivable and control execution. - Cognitive automation for real-time compliance and risk mitigation. 1. **Role**: - Bridges IT systems with financial expertise. - Enhances decision-making through integrated tools like ERP, Power BI, and Tableau. 2. **Tools and Models**: - **Reconciliation Models**: - Automates complex processes for transparency. - **Accrual Engine**: - Machine learning to estimate operational expenses (OPEX). - **Cash Flow Models**: - Optimizes working capital by analyzing cash conversion cycles. 1. **Financial Controlling**: - Budget oversight and variance analysis. - Internal controls for financial integrity. 2. **Business Controlling**: - Operational cost analysis and scenario planning. - Decision support through profitability evaluations. 3. **Business Partnering**: - Cross-functional collaboration for strategic goals. - Driving innovation and process improvement. 1. **Dynamic BI Dashboards**: - Automates reporting, enhancing efficiency. 2. **Fast Close Solutions**: - Streamlined processes for quicker financial closings. 3. **Generative AI**: - Automates controlling and BI report commentary. 1. **Explain**: - How digital finance supports process optimization and decision-making. 2. **Identify**: - Tools and practices for improving financial performance and reporting. 3. **Discuss**: - The role of automation and advanced analytics in modern finance. Lecture 28: The Role of Controllers =================================== 1. Define the various **roles of controllers**. 2. Discuss the roles of controllers in designing and using **management control systems** (MCS). 3. Explore the impact of **social and technological developments** on these roles. - **Definition**: - Controllers manage financial reporting, prepare budgets, analyze performance, and ensure compliance. - Chief Financial Officer (CFO) is typically the most senior controller. - **Responsibilities**: - Guide top management in designing input, throughput, and output controls. - Safeguard assets from theft and fraud. - Monitor adherence to spending limitations. - Provide performance analyses and strategic planning insights. 1. **Dual Reporting**: - Report to both the CFO and operational managers (e.g., profit center leaders). - Ensures alignment with corporate strategies while supporting unit-level objectives. 2. **Independence vs. Collaboration**: - Conflict of interest may arise due to dual responsibilities. - Balance between maintaining financial integrity and supporting operational decision-making. 1. **Policing Role**: - Focus on enforcing compliance, safeguarding financial integrity, and ensuring adherence to internal controls. 2. **Consulting Role**: - Act as advisors, providing insights for strategic and operational decisions. - Requires greater collaboration and trust within the organization. 1. **Digital Transformation**: - Increased reliance on data analytics and automation. - Use of advanced tools like ERP systems and Power BI for real-time reporting. 2. **Sustainability and CSR**: - Greater emphasis on integrating financial ethics and sustainability into reporting. - Controllers help align corporate strategies with ESG (Environmental, Social, and Governance) goals. 3. **Cross-Functional Integration**: - Facilitate collaboration across departments to achieve strategic objectives. 4. **Shift Toward Agility**: - From rigid monitoring to adaptive management. - Focus on intrinsic motivation and customer-centric approaches. 1. **Maintaining Independence**: - Avoiding undue influence from operational managers. 2. **Managing Complexity**: - Adapting to diverse and decentralized organizational structures. 3. **Adding Value**: - Moving from traditional roles to being proactive decision architects. 1. **Define**: - The roles of controllers as both enforcers and advisors. 2. **Explain**: - How technological and social changes are reshaping the controller's responsibilities. 3. **Discuss**: - The importance of independence and the challenges of dual reporting. 4. **Apply**: - Case study insights to analyze the behavioral and functional dynamics of controllers. - Understand the impact of organizational culture and structure on controller behavior. - Analyze cases (e.g., Case 12.1) where social pressures affect controllers\' fiduciary duties.