12.6: Summary and Key Terms
- Page ID
- 5260
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Section Summaries
12.1 Explain the Importance of Performance Measurement
- Well-designed performance measurement systems help businesses achieve goal congruence between the company and the employees.
- Managers should be evaluated only on factors over which they have control.
- Performance measures can be based on financial measures and/or nonfinancial measures.
- Performance measurement systems should help the company meet its strategic goals while helping the employee meet his or her professional goals.
12.2 Identify the Characteristics of an Effective Performance Measure
- A good performance measurement system uses measures over which a manager has control, provides timely and consistent feedback, compares the measures to standards of some form, has both short- and long-term measures, and puts the goals of the business and the individual on an equal level.
12.3 Evaluate an Operating Segment or a Project Using Return on Investment, Residual Income, and Economic Value Added
- Three common performance measures based on financial numbers are return on investment, residual income, and economic value added.
- Return on investment measures how effectively a company generates income using its assets.
- ROI can be broken into two separate measures: sales margin and asset turnover.
- Residual income measures whether or not a project or a division is exceeding a minimum return that has been determined by management.
- Economic value added is used to measure how well a project or division is contributing to shareholder wealth.
- A big challenge with ROI, RI, and EVA is determining which value of income and assets to use in calculating these measures.
12.4 Describe the Balanced Scorecard and Explain How It Is Used
- Balanced scorecards use both financial and nonfinancial measures to evaluate employees.
- The four categories of a balanced scorecard are financial perspective, internal business perspective, customer perspective, and learning and growth perspective.
- Financial perspective measures are usually traditional measures, based on financial statement information such as EPS or ROI.
- Internal business perspective measures are those that evaluate management’s operational goals, such as quality control or on-time production.
- Customer perspective measures are those that evaluate how the customer perceives the business and how the business interacts with customers.
- Learning and growth perspective measures are those that evaluate how effectively the company is growing by innovating and creating value. This is often done through employee training.
- Well-designed balanced scorecards can be very effective at goal congruence through the utilization of both financial and nonfinancial measures.
Key Terms
- after-tax income
- income reduced by tax expenses
- asset turnover
- measure of how efficiently a company is using its capital assets to generate revenues
- balanced scorecard
- tool used to evaluate performance using qualitative and nonqualitative measures
- capital asset
- tangible or intangible asset that has a life longer than one year
- controllable factor
- component of the organization for which the manager is responsible and that the manager can control
- cost center
- part of an organization in which management is evaluated based on the ability to contain costs; the manager primarily has control only over costs
- economic value added (EVA)
- measure of shareholder wealth that is being created by a project, segment, or division
- fixed asset
- tangible long-term asset
- goal congruence
- integration of multiple goals, either within an organization or across multiple components or entities; congruence is achieved by aligning goals to achieve an anticipated mission
- invested capital
- fixed assets, productive assets, or operating assets
- investment center
- organizational segment in which a manager is accountable for profits (revenues minus expenses) and the invested capital used by the segment
- metric
- means to measure something such as a goal or target
- minimum required rate of return
- minimum return, usually in a percentage form, that a project or investment must produce in order for the company to be willing to undertake it
- operating asset
- product asset plus intangible asset and current asset
- operating income
- income before considering interest and taxes
- performance measure
- metric used to evaluate a specific attribute of a manager’s role
- performance measurement system
- evaluates management in a way that will link the goals of the corporation with those of the manager
- productive asset
- fixed asset plus inventory
- profit center
- organizational segment in which a manager is responsible for and evaluted on both revenues and costs
- qualitative factor
- component of a decision-making process that cannot be measured numerically
- quantitative factor
- component of a decision-making process that can be measured numerically
- residual income (RI)
- amount of income a given division (or project) is expected to earn in excess of a firm’s minimum return goal
- responsibility accounting
- method of encouraging goal congruence by setting and communicating the financial performance measures by which managers will be evaluated
- return on investment (ROI)
- measure of the percentage of income generated by profits that were invested in capital assets
- revenue center
- part of an organization in which management is evaluated based on the ability to generate revenues; the manager's primary control is only revenues
- sales margin
- measure of how much profit is generated by each sales dollar
- stakeholder
- someone affected by decisions made by a company; may include an investor, creditor, employee, manager, regulator, customer, supplier, and layperson
- stockholder
- owner of stock, or shares, in a business
- strategic plan
- broad vision of how a company will be in the future
- uncontrollable factor
- decision or outcome over which a manager does not have control
- weighted average cost of capital
- cost that the company expects to pay on average to finance assets and growth using either debt or equity