Advanced Analysis and Appraisal of Performance: Financial and Nonfinancial Reported by: Mhilkee L. LopezBSA- A4A

Performance Measurement or EvaluationIt is the process by which managers at all levels gain information about the performance of tasks within the firm and judge that performance against preestablished criteria as set out in budgets, plans, and goals.

Financial and Nonfinancial MeasuresFirms are increasingly presenting financial and nonfinancial performance measures for their subunits in a Balanced Scorecard, and its four perspectives:

Financial perspectiveHow do we look to shareholders?Customer perspectiveHow do customers see us?Internal Business ProcessWhat must we excel at?Learning and GrowthHow can we continue to improve, create value and innovate?

Nonfinancial Performance MeasuresMarket shareMarket share is a key indicator of market competitivenessthat is, how well a firm is doing against its competitors. It includes customer satisfaction, delivery performance, product quality and service quality.Customer ServiceIt includes customer satisfaction, delivery performance, product quality and service quality.InnovationThis includes new product development, manufacturing flexibility, technological capability, and innovation

VISIONA futuristic picture of the enterprise, described in words or the vision statement.

MISSIONThe basic purpose for being of the organization.It specifies the product or service to be rendered and also defines the market.

OBJECTIVESThe enterprise translates the broad vision and mission statements to specific objectives. These are measurable end results.

KEY RESULT AREASKRAs are qualitative manifestations or proofs that the objectives are being achieved or attained.

PERFORMANCE INDICATORSPIs are nothing but exact quantifications of the KRAs.

Steps in designing accounting-based performance measures

Step 1: Choosing among different performance measuresFour commonly used measures to evaluate the economic performance of organization subunits:a. Return on Investment

Steps in designing accounting-based performance measures

b. Residual Income

c. Economic- Value Added

d. Return on Sales

Steps in designing accounting-based performance measures

Step 2: Choosing the Time Horizon of the Performance Means

Should performance measures be calculated for one year or for a multi-year time horizon?

Multiple periods of evaluation are sometimes appropriate.

Steps in designing accounting-based performance measuresStep 3: Choosing Alternative Definitions for Performance Measures

Total assets availableTotal assets employedTotal assets employed minus current liabilitiesShareholders' equity

Steps in designing accounting-based performance measuresStep 4: Choosing Measurement Alternatives for Performance Measures

Two different ways to measure or value asset:a. Current cost- asset measure based on cost of purchasing asset todayb. Historical cost- aggregate price paid by the firm to acquire ownership

Steps in designing accounting-based performance measures

Advantages of Net Book Value; Disadvantages of Gross Book ValueNet book value maintains consistency with the balance sheet for external reporting purposes, more meaningful comparisons of return on investment measureNet book value measure invested capital more consistent with definition of income (ROI numerator). In computing income current period depreciation on long term asset is deducted as expense.

Steps in designing accounting-based performance measures

Advantages of Gross Book Value; Disadvantages of Net Book ValueThe usual methods of computing depreciation are arbitrary. They should not allow affecting ROI or residual income.When long-term assets are depreciated, net book value declines over time. This result in misleading increase in ROI and residual income. Gross book value eliminates this problem.

Steps in designing accounting-based performance measuresA weakness of comparing operating incomes alone is ignoring differences in the size of the investments in each subunit.

Steps in designing accounting-based performance measuresStep 5: Choosing Target Level of PerformanceCareful selection of benchmarks or target can help offset shortcomings with historical cost based ROI, RI or EVA measures.Many problems of asset valuation and income measurement can be satisfactorily solved if top management gets everybody to focus on what is attainable in forthcoming budget period.Popular way to establish targets is to set a continuous improvement targets.

Steps in designing accounting-based performance measuresStep 6: Choosing the Timing of Feedback

Factors to be consider in timing the report:a. How critical is the information for the success of the organizationb. The specific level of management that is receiving the feedbackc. The sophistication of the organizations information technology

Steps in designing accounting-based performance measuresStep 6: Choosing the Timing of FeedbackStrategic feedback enables managers to test if strategy produces the expected result. If not, it is cause by:a. Implementation problemsb. Invalid strategyTimely reporting of actual results and identification of causes could help correct an action so that the plan an executed as intended.

Steps in designing accounting-based performance measuresStep 6: Choosing the Timing of Feedback

Feed forward control means making predictions of outputs expected at some future time and then quantifying those predictions, in management accounting terms.Feedback control involves comparing outputs achieved against outputs desired and taking corrective action if necessary

Performance Measurement In Multinational Companies

Multinationals

These are companies that operate in several countries.International environmental conditions may be very different from and complex than, domestic conditions.

Environmental variables facing local managers of divisions:

Economic variables

1. Currency restrictions2. Taxes3. Transfer prices4. Capital markets5. Inflations

Environmental variables facing local managers of divisions:

Legal and Political Factors

1. Quality, efficiency and effectiveness of legal structure2. Defense policy3. Foreign policy4. Degree of government control of business5. Level of political unrest

Environmental variables facing local managers of divisions:

Educational variables

1. Literary rate2. Sophistication of accounting system3. Degree of technical training4. Management development programs

Environmental variables facing local managers of divisions:

Sociological and Cultural Variables

1. Cultural and social diversity2. Social attitude toward material gainCultural attitude toward authority and persons in subordinate positions4. Work ethics

Evaluation of performance of foreign units and their managers can create additional difficulties for the following reasons:Complications brought about by legal, cultural, political, economic and social differences across countries that direct attention to special areas or restrict a local managers actions.Multinationals must cope with changes in exchange rates. Issues of inflation and fluctuations in foreign currency exchange rates affect performance measures and over which the local manager has no control.Availability of materials and skilled labor, as well as costs of materials, labor and infrastructure (power, communication, and transportation) may differ significantly across countries.

Evaluation of performance of foreign units and their managers can create additional difficulties for the following reasons:Companies may have problems in setting transfer prices considering the different tax structures and currency restrictions of the countries in which their divisions operate.Import controls (e.g., tariffs and custom duties) and limiting selling prices of a companys products may be imposed by government in some countries.

Distinguishing performance of managers from performance of organization unitsPerformance evaluation is performed at different levels in the firm: top management, mid-management, and the operating level of individual employees such as production and sales.It is important though that the performance evaluation if a manager should be distinguished from the performance evaluation of the managers subunit, such as a division or subsidiary of a company.

Factors that should be considered in evaluating the performance of a manager:The evaluation should recognize that factors inside and outside the firm influence the outcome of the managers efforts and abilities. The evaluator should separate the outcome of the managers activities from the effort and decision making skills employed by the managers.The evaluation must include only factors that the manager controls.Because of uncertainty and lack of observability, a risk-averse manager us improperly biased to avoid decisions with uncertain outcome. A performance report should consist of financial and nonfinancial measures of the outcomes of the managers decisions and effort.

Intensity of incentives; financial and nonfinancial incentives

Compensation of manager contains portion for salary and for incentive.

Management compensation frequently includes incentives tied to performance.