Performance measurement in Management Accounting - a brief note

There are financial and non-financial performance measures that can be employed at different levels of an organization (Bhimani et al., 2008; Chapter 19).

The four main financial/ accounting-based performance measures are:

1. Return on investment (ROI)
2. Residual Income (RI)
3. Economic Value Added (EVA)
4. Return on sales (ROS)

In compiling these financial performance measures, you need to consider (a) alternative definitions of investment, e.g. total assets available, total assets employed, working capital plus long-term assets and shareholders' equity and (b) alternative ways to measure assets, e.g. current cost, long-term assets at gross or net book value, (c) the targeted levels of performance and feedback timing in the actual design of performance measurement system and (d) the trade-off between incentive creation versus risk imposition (Bhimani et al., 2008; Chapter 19).


You need to pay attention to the advantages and disadvantages of using different financial performance measures. For example, using ROI as a divisional performance measure to be maximized can lead to decisions that  do not maximize net present value in capital investment decision because an investment project has a positive net present value (NPV)  but an internal rate of return (IRR) lower than the existing divisional ROI can still be rejected as such an investment will dilute the existing divisional ROI. Meanwhile, it is acknowledged that asset valuation based on historical-cost has limitations; yet, this valuation basis can well be acceptable in performance measurement if operation performance evaluation is mainly concerned about year-to-year changes (Bhimani et al., 2008; Chapter 19). It is also important to note that peformance of managers and performance of organizational units that the managers are in charge of are two different things. Companies sometimes assign their best managers to take charge of divisions that are in difficult situations.

You need to examine the balanced scorecard approach and benchmarking as prominent performance measurement approaches that take into consideration both financial and non-financial performance measures. Increasingly, performance measurements need to incorporate environmental/ ethical considerations.

References

1. Bhimani, A., Horngren,C.T., Datar, S.M. and Foster, G. (2008) Management and Cost Accounting, FT Prentice Hall.
2. Coates, J.B., Davis, E.W., Longden, S.D.,Stacey, R.J. and Emmanuel, C. (1993) Corporate Performance Evaluation in Multinationals, CIMA publication.
3. On balanced scorecard: http://josephho33.blogspot.com/2011/10/balanced-scorecard-brief-note.html