Lecture Notes: Decentralization and Performance Management Systems

Group Assignment

• Due tonight. Only one member needs to submit.

• Cover sheet should only include names of contributing students.

• Inform tutor or instructor about contribution issues for marking considerations.

• If no issues are reported, equal contribution is assumed.

• Submit the final version of the file.

• No remarking will be entertained if an outdated or draft version is submitted.

• Instructor cannot do much if group issues are reported late.

• Any suspected AI-generated content will be flagged and investigated for academic integrity.

Test Two

• Results will be posted tomorrow.

• To view the marked paper: Coordinate with your tutor, who marked the open-ended questions.

• Two weeks (10 days) are given to review the paper and ask questions.

• Students receiving an email regarding AI-generated answers must see the instructor to discuss the matter.

Academic Integrity

• Suspected AI-generated content in group assignments will be flagged and investigated.

Revision Lecture

• June 3 will be a revision lecture to discuss exam preparation.

• A practice set with sample questions will be uploaded this week.

• Exam timetables will be released.

• The final exam is face-to-face and closed book (calculator allowed).

• The final exam includes open-ended questions requiring calculations and explanations.

• Two practice sets will be provided: one for in-class discussion and one for independent work.

Final Exam

• Face-to-face, invigilated.

• Closed book, calculator allowed.

• Open-ended questions only. Calculations and explanations required.

Review of Last Week's Topic: Budgeting

• Budgets are future-oriented.

• Budgets are a management accounting tool for planning, operating, and controlling activities.

• Budgeting involves inputs from a broad range of managers.

• A budget built from the ground up is a zero-based budget.

• The sales budget is typically prepared first.

Decentralization: Initial Thoughts

• Sharing responsibilities.

• Spreading decision-making.

• Not centralized.

• Distribution.

• Transferring power.

Organizational Structure

• Defines how an entity directs and controls resources to achieve its mission.

• Clarifies responsibilities, reporting lines, authority, and hierarchy.

• Delineates responsibilities and authorities to a division.

• Determines what is within a specific person's control or influence.

• Organizational structures are not fixed and vary based on business, products, services, and processes.

Types of Organizational Structures:

• Functional: Divided according to functions (e.g., manufacturing, marketing).

• Geographical: Divided by territories (e.g., Australia, New Zealand).

• Enterprise Level: Divided by different business activities (e.g., beer manufacturing, wine marketing).

Decentralization Continuum

• Ranges from centralized (least decentralization) to completely decentralized.

• Most firms fall in the middle, balancing autonomy and control.

Advantages of Decentralization

• Decisions are made at the lowest level by managers most familiar with the problem.

• Top management can focus on long-range decisions.

• Managers have higher job satisfaction due to empowerment.

• Early-career managers gain decision-making experience.

• Decisions are made more timely.

Disadvantages of Decentralization

• Decisions may be spread among too many managers, causing a lack of focus.

• Early-stage managers may lack adequate training.

• Lack of coordination and communication between segments.

• May hinder sharing of unique and innovative ideas.

• May duplicate efforts and costs.

Responsibility Accounting

• Connects with decentralization in management accounting.

• Holds managers responsible only for what they can control or influence.

• Managers are accountable for aspects of the business that they can control.

• The rewards and structures are based on responsibility.

Implementation:

• Identify different segments or levels of responsibility.

• Cost center.

• Revenue center.

• Profit center.

• Investment center.

Cost Center

• Manager controls costs but not revenue or capital investment.

• Performance is judged on cost control.

• Examples: Purchasing manager, HR manager, IT department, accounting department, maintenance manager.

• Evaluation is based on budgeted versus actual expenditures.

Revenue Center

• Manager controls revenue generation but not costs.

• Performance is judged on revenue generation.

• Examples: Airline reservation department, sales manager of a retail store, sales department of a production facility.

• Evaluation based on sales price variances.

Profit Center

• Manager controls revenues and costs but not capital investment decisions.

• Performance is judged on both revenue and cost management.

• Examples: Overall manager of a retail store, partner in charge of the tax department of a CPA firm.

• Evaluation based on income measures, overall budget variances, or segment margin.

Investment Center

• A separate business with its own value chain (strategic business unit).

• Manager controls costs, revenues, profits, and investment decisions.

• Examples: Corporate headquarters in a large decentralized organization, division manager of an international company.

• Evaluation includes return on investment (ROI) and residual income.

Comprehensive Example: Qantas

• Revenue center: Reservation arm (ticketing arm).

• Cost center: IT department, accounting, HR, airline maintenance.

• Profit center: International and domestic flight routes.

• Investment center: Subsidiary Jetstar.

Segmented Income Statement

• Calculates income for each segment of an organization.

• Includes variable costs (directly traceable to the segment).

• Fixed costs:

  • Traceable fixed costs: Allocated to the segment.

  • Common costs: Not allocated to the segment for performance evaluation purposes.

• Determination of fixed cost allocation: The cost would be reduced or eliminated if the segment were eliminated is traceable to the segment. If we cannot eliminate it despite removing the segment, it simply means that the cost is a common cost.

Formulas for Investment Center Performance

• Return on Investment (ROI): $\text{Net Operating Income} / \text{Average Operating Assets}$$$\text{Net Operating Income} / \text{Average Operating Assets}$$

• Residual Income: $\text{Operating Profit} - (\text{Minimum Rate of Return} \times \text{Average Operating Assets})$$$\text{Operating Profit} - (\text{Minimum Rate of Return} \times \text{Average Operating Assets})$$

International Considerations

• Economic factors: Currency stability, inflation.

• Legal and political factors: Government control, regulations.

• Educational factors: Skill and education level of the workforce.

• Cultural factors: Power distance, individualism vs. collectivism.

Balanced Scorecard

• Focuses on financial and non-financial measures related to the overall strategy.

• Integrates financial and non-financial measures to look at critical success factors.

• Links short-term operating results with long-term strategic goals.

Four Perspectives

• Financial: How do we create value for stakeholders?

• Customer: How are we doing in serving our customers?

• Internal Business: How good are we at managing processes?

• Learning and Growth: How is the business innovating and training employees?

Costs of Quality

• Prevention costs: Costs incurred to prevent defects from occurring (e.g., design and engineering costs, quality training).

• Appraisal costs: Costs incurred to detect defects (e.g., testing of goods, inspections).

• Internal failure costs: Costs incurred when defects are detected before the product reaches the customer (e.g., rework, scrap).

• External failure costs: Costs incurred when defects are detected after the product reaches the customer (e.g., repairs under warranty, product recalls).

Compensation Decisions

• Goal is to achieve goal congruence between individual managers, the company, and its owners.

• Incentive structure is important for aligning individual and company goals.

• Performance-related compensation can be tax-deductible.

Types of Compensation

• Cash compensation: Salary and bonuses (bonuses tied to a single performance measure are problematic so do not use it that way).

• Stock-based compensation: Stock options and restricted stock compensation plans (encourage long-term view).

• Non-cash benefits: Club memberships, company cars, flexible working arrangements, and other perks (must be valuable to employees).