Lecture 9 Performance Measurement

Question 1

What is performance measurement?

Answer 1

Evaluates how well a business, project, or individual performs against targets

Involves both financial and non-financial performance and supports decisions on pay, bonuses, promotions, etc.

Question 2

What are the steps in the performance measurement process?

Answer 2

1. Establish performance measures
2. Establish performance targets
3. Measure performance
4. Provide rewards/penalties

These steps are essential for effective performance evaluation.

Question 3

What is goal congruence?

Answer 3

Aligning individual managers’ goals with the organisation’s goals

Ensures that personal objectives support overall organizational objectives.

Question 4

What is a responsibility centre?

Answer 4

A unit of an organisation where an individual manager is held responsible for the unit’s performance

Includes various types such as cost centres, revenue centres, profit centres, and investment centres.

Question 5

What is a cost centre?

Answer 5

Managers accountable for costs under their control

Focuses on managing expenses rather than revenues.

Question 6

What is a revenue centre?

Answer 6

Managers accountable for generating sales revenues, but not for costs of goods they sell

Focuses on sales performance without direct cost responsibility.

Question 7

What is a profit centre?

Answer 7

Managers accountable for production and sales, with more power

Responsible for both revenues and costs, influencing profitability.

Question 8

What is an investment centre?

Answer 8

Managers accountable for sales revenues and costs and can make capital investment decisions

Represents the highest level of responsibility among the centres.

Question 9

What does controllability refer to in performance measurement?

Answer 9

Managers should only be accountable for items that they can significantly influence

Important for fair performance evaluation, distinguishing between controllable and non-controllable items.

Question 10

What is a major problem in distinguishing controllable items?

Answer 10

It is hard to distinguish, so some items are partially controllable, like competitor pricing

This complicates manager performance evaluation.

Question 11

What are divisional structures in large companies?

Answer 11

Large companies are often split into divisions for decentralised control

This structure allows for faster decisions but may lead to division rivalry and lack of coordination.

Question 12

What are the advantages of divisional structures?

Answer 12

Faster decisions and motivate managers

Encourages autonomy and responsiveness to market changes.

Question 13

What are the disadvantages of divisional structures?

Answer 13

Division rivalry and lack of coordination

Can lead to inefficiencies and conflicting objectives between divisions.

Question 14

What does ROI stand for?

Answer 14

Return on Investment

ROI is a key performance measure in accounting.

Question 15

What is the formula for calculating ROI?

Answer 15

ROI = Accounting Net income / Total Investments (Assets)

ROI is a single metric blending revenues, costs, and investment.

Question 16

What are the advantages of using ROI?

Answer 16

• Relative measure good for comparing divisions
• Widely used

ROI is a popular metric in performance measurement.

Question 17

What are some problems associated with ROI?

Answer 17

• Can create goal incongruence
• Managers may avoid good investments to protect ROI
• Can lead to short-term thinking

These issues can affect decision-making and investment strategies.

Question 18

What does RI stand for?

Answer 18

Residual Income

RI is another performance measure used in accounting.

Question 19

What is the formula for calculating Residual Income?

Answer 19

RI = Divisional Profit - (Investment x Interest Rate)

The interest rate used is the cost of capital.

Question 20

What are the tailoring options for Residual Income?

Answer 20

• Divisions: use total profit/investment
• Managers: use controllable items only

This allows for more specific performance evaluations.

Question 21

What are some problems associated with Residual Income?

Answer 21

• Absolute measure hard to compare different sizes
• May discourage investment due to larger capital charge

These challenges can impact its effectiveness as a measure.

Question 22

What does EVA stand for?

Answer 22

Economic Value Added

EVA is a measure that reflects a company’s financial performance.

Question 23

What is the formula for calculating Economic Value Added?

Answer 23

EVA = NOPAT - (Cost of capital x Invested Capital)

NOPAT is Net Operating Profit After Tax.

Question 24

What is NOPAT?

Answer 24

Net Operating Profit After Tax = EBIT * (1 - Tax rate)

This calculation adjusts for taxes to reflect true operational profit.

Question 25

How is invested capital defined in the context of EVA?

Answer 25

Invested capital = shareholders equity + beginning Long-term debt ## Footnote This provides a comprehensive view of the capital invested in the business.

Question 26

What are some adjustments made in calculating EVA?

Answer 26

* Add back: expenses treated as investments (e.g., R&D) * Subtract: unrealistic gains like asset revaluation ## Footnote These adjustments help reflect true economic profit.

Question 27

What are some problems associated with Economic Value Added?

Answer 27

* Complex and less transparent * Requires many adjustments ## Footnote These issues can complicate its application.

Question 28

What is the Balanced Scorecard?

Answer 28

A strategic framework linking performance metrics to overall strategy ## Footnote Developed by Kaplan & Norton.

Question 29

What is the purpose of the Balanced Scorecard?

Answer 29

To broaden focus beyond just financial metrics and to communicate and track strategic goals ## Footnote This helps organizations align their activities to the vision and strategy.

Question 30

What are the four perspectives of the Balanced Scorecard?

Answer 30

* Financial * Customer * Internal Business * Learning & Growth ## Footnote Each perspective addresses different aspects of organizational performance.

Question 31

What does the financial perspective of the Balanced Scorecard focus on?

Answer 31

ROI, RI, EVA - measures of profitability ## Footnote These metrics help assess the financial performance of an organization.

Question 32

What does the customer perspective of the Balanced Scorecard evaluate?

Answer 32

Customer satisfaction, loyalty, retention ## Footnote This perspective emphasizes the importance of customer relationships.

Question 33

What is emphasized in the internal business perspective of the Balanced Scorecard?

Answer 33

Efficiency in processes like innovation and service ## Footnote This perspective focuses on optimizing internal operations.

Question 34

What key factors are included in the learning & growth perspective of the Balanced Scorecard?

Answer 34

* Employee training * System capabilities * Motivation ## Footnote This perspective underlines the importance of developing human and organizational capital.

Question 35

What is a leading indicator?

Answer 35

Predicts future performance ## Footnote Leading indicators help organizations anticipate outcomes.

Question 36

What is a lagging indicator?

Answer 36

Reflects past performance ## Footnote Lagging indicators provide insights into historical performance metrics.

Question 37

What are the benefits of using the Balanced Scorecard?

Answer 37

* Connects strategy with performance * Encourages well-rounded evaluation * Improves communication and clarity ## Footnote These benefits help organizations align their objectives and operations.

Question 38

What are some limitations of the Balanced Scorecard?

Answer 38

* Cause-effect links not always clear * Environmental/social impacts missing (unless added) * Poor implementation can confuse ## Footnote These limitations highlight potential challenges in applying the framework effectively.