Fundamentals of Management
Control Systems
Chapter 11
Learning Objectives
1. Explain the role of a management control system.
2. Identify the advantages and disadvantages of
decentralization.
3. Describe and explain the basic framework for
management control systems.
4. Explain the relation between organization structure and
responsibility centers.
5. Understand how managers evaluate performance.
6. Analyze the effect of dual versus single rate allocation
systems.
7. Understand the potential link between incentives and
illegal or unethical behavior.
11-2
Management Control System
L.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.
11-3
Decentralization
L.O. 2 Identify the advantages and disadvantages of decentralization.
The delegation to
subordinates the
authority to make
decisions in the
organization’s name.
11-4
Decentralization Continued
Centralized Organization
Decisions are made by relatively few individuals
in the high ranks of the organizations.
Few decisions are delegated
Decentralized Organization
Decisions are spread among relatively many
managers.
Decisions are delegated
to divisional managers
11-5
11-6
Advantages of Decentralization
Local 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.
11-7
Disadvantage of Decentralization
Dysfunctional decision making
When local managers make decisions in their
best interest that may not be in the best
interest of the organization.
Duplication of administration
Local managers make the
same types of decisions
made at headquarters.
Management Control Systems
11-8
L.O. 3 Describe and explain the basic framework for
management control systems.
A system designed to influence subordinates to act in
the organization’s interest
Used by principals (owners)
to influence agents’
(managers’) behavior
Delegated
decision
authority
Performance
evaluation and
measurement
Compensation
and reward
decision
Delegated Decision Authority
A management control
system specifies what
decisions the subordinate
manager can make in
the name of the
organization.
11-9
11-10
Performance Evaluation and Measurement
A management control
system specifies how the
subordinate manager’s
performance is measure
and evaluated.
Compensation or Reward
A management control
system defines how the
subordinate manager is
compensated.
11-11
Balancing 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.
11-12
Responsibility Accounting
11-13
L.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.
Cost
center
Profit
center
Revenue
center
Responsibility
center
Investment
center
11-14
Cost Center
Cost
center
Manager is responsible for costs
Cost and volume
of inputs used to
produce an
output
Revenue Center
Revenue
center
11-15
Manager is responsible for revenues
Selling a product
11-16
Profit Center
Profit
center
Manager is responsible for
revenues AND costs
Revenues, costs,
production, sales
volume
Investment Center
Investment Manager is responsible for profits
AND investment in assets
center
Profits, capital
budgeting, use of
assets
11-17
11-18
Responsibility Centers and Organization Structure
Organizational Structure and Responsibility Centers
Group Vice-President a
Investment centers
Division Vice-President
Profit centers
Plant managers
Cost centers
Staff managers
Discretionary cost centers
District sales managers
Revenue centers
a
Group refers to a group of divisions.
Goal Congruence
Agreement by all
members of a
group on a set of
objectives
11-19
Evaluating Performance
L.O. 5 Understand how managers evaluate performance.
Controllability concept
Managers 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
11-20
Compensation Systems
Fixed compensation
Not performance based
Contingent compensation
Performance based
11-21
Corporate Cost Allocation
11-22
L.O. 6 Analyze the effect of dual versus single rate allocation systems.
Global Electronics
Latin America Division
Income for the Year (in thousands)
Revenue
(Percentage of corporate revenue)
Direct division costs
Allocated corporate overhead
Operating profit
Global Electronics
allocates corporate
overhead based on
relative revenue.
Actual
$ 70,000
16%
$ 51,800
$ 4,800
Target
$ 70,000
14%
$ 51,800
$ 3,500
$ 47,000
$ 48,300
11-23
Corporate Cost Allocation Continued
Global Electronics
Latin America Division
Income for the Year (in thousands)
Actual
Revenue
Direct division costs
$ 70,000
$ 51,800
My revenue
and costs
were on
target.
Target
$ 70,000
$ 51,800
11-24
Corporate Cost Allocation Continued
Global Electronics
Latin America Division
Income for the Year (in thousands)
Revenue
(Percentage of corporate revenue)
Corporate revenue
a
b
$70,000/16%
$70,000/14%
Actual
$ 70,000
16%
$ 437,500
Target
$ 70,000
14%
a
I’m not
responsible for
corporate
revenue.
$ 500,000
b
11-25
Corporate Cost Allocation Continued
Global Electronics
Latin America Division
Income for the Year (in thousands)
Allocated corporate overhead
(Percentage of corporate revenue)
Corporate costs
a
b
$4,800/16%
$3,500/14%
Actual
$ 4,800
16%
$ 30,000
Target
$ 3,500
14%
a
I’m not
responsible for
corporate
costs.
$ 25,000
b
11-26
Activity
Cost
Dual rate method
Separates a common
cost into fixed and
variable components and
then allocates each
component using a
different allocation base
Cost
Corporate Cost Allocation Continued
Activity
11-27
Performance Evaluation Systems Incentives
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?
Unrealistic Budget Pressure
HELP!!
This is
impossible
Unrealistic budget pressures,
particularly for short-term results,
occur when headquarters
arbitrarily determines profit
objectives and budgets without
considering actual conditions.
11-28
Financial Pressure
Financial pressure resulting from
bonus plans that depend on shortterm economic performance is
particularly acute when the bonus is
a significant component of the
individual’s total compensation.
11-29
11-30
Chapter 11
Sometimes I
just don’t get
it. What do
they want?