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Evaluating performance with the balance scorecard system

Performance evaluation with the help of Balance Scorecards is the new approach that organizations have been following recently. Traditionally, performance evaluation was only limited to historical financial data. It was a limited approach of performance evaluation because it used to cover only once aspect of performance evaluation. However the balance scorecard approach to performance evaluation uses a set of financial and non financial measures that relate to overall strategy of the organization. In this way management is focused on all of the critical success factors of the organization, instead of focusing only on financial aspects. Moreover, the balance scorecard helps to keeps short-term operating performance evaluation with long-term strategy.

Balance scorecard uses four perspectives to evaluate performance. These are mentioned as follows.

Financial Perspective: Balance scorecard sees financial performance in the larger context of the company’s overall objectives, which relate to its internal processes, employees, customers and suppliers.

Customer Perspective: Performance evaluation under Customer Perspective is very important to achieve the financial goals. There are many critical success factors under this category such as quality, delivery time and customer satisfaction. Performance is evaluated in terms of customer response time, number of warranty claims, timely delivery percentage etc.

Internal Business Perspective: Performance evaluation under this perspective is done by addressing the question that whether most important processes for satisfying shareholders and customers are being performed with excellence. Such as manufacturing process is measured against yield and cycle time etc.

Learning and Growth Perspective: Performance evaluation under this perspective is based on what a company has learned, improved and made innovations to meet its goals.

When the performance measures of the above four perspectives have been set, organizations identify the most influential drivers of desired outcomes and then set performance milestones so than the progress is checked.

Briefly summarize the main components of balance scorecard system.

There are four main components of Balance Scorecard system which are discussed are as follows.

Financial: For many organizations, the importance of financial information is paramount. It is very important for timely accurate decisions that financial information is presented to management in a reliable and accurate way.

Customer: This component of BSC focuses on achieving the vision that how an organization should appear to its customers. In recent years, the customer focus and their satisfaction has been very important consideration for management. This is because dissatisfied easily switch away due to extensive competition.

Internal Business Process: This component deals with the entire value chain of an organization, from R & D to after-sale service to customers. It is also linked with financial perspective as it emphasizes the improvement of manufacturing processes. It is also linked to customer perspective as it requires improvements in quality and customer care service.

Learning & Growth: In this component of BSC, focus is on ability of an organization to learn, improve, and innovate so that it can succeed in its business goals and objectives. Employees are provided training and a learning culture is developed.

What do you think are the important points authors have introduced in this article?

Following important points have been introduced by authors in this article

Use of Balance Scorecards helps the organizations to measure and evaluate performance on both financial and non-financial areas. Thus this approach has better results than the traditional approach of using only Financial Information as performance evaluation.

Balance Scorecard is not only useful for short-term planning but it also links the short-term strategy to development of long-term strategy. There are four processes that relate short-term objectives to long-term objectives i.e. translating the vision, communicating and linking, business planning, feedback and learning. These are also called the four processes of managing strategy.

Balance Scorecards can be used to build a Strategic Management System for a company. There are ten steps involved in this process i.e.

Clarifying the Vision,

Communicate the Middle Managers,

Develop Business Unit Scorecards,

Eliminate non-strategic investments,

Review Business Unit Scorecards,

Refine the Vision, Communicate the BSC to entire company,

Update long-range plan and budget,

Conduct Monthly & Quarterly reviews,

Conduct Annual Strategy Reviews, and

Link Performances to BSC.

Critically discuss some of the points where you don’t agree with the authors.

There some points where I don’t agree with the authors. These are mentioned as follows.

According to authors, as they quoted by many examples that many organizations have successfully implemented the BSC system. However I believe that BSC has many implementation problems that are well-known to the world. Its implementation is costly and very time taking, and often organizations find themselves struck in the middle of the way. Without proper resources and guidance, the implementation process leaves poorly defined matrixes, and a lot of internal focus and ignoring the external focus.

The four perspective of BSC focus on strategies and there is little focus on outcomes of those strategies. This often doesn’t help to achieve organizational goals.

There is another flaw in BSC as being a tool for strategic planning i.e. the Balance Scorecard does not show the process of measure implementation, it has no process improvement methodology, and moreover it cannot be regarded as the stand-alone performance evaluation and measurement tool.

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Exercise-3

(a.1) What is the relationship between management by exception and variance analysis?

The relationship between management by exception and variance analysis can be described in the idea that, if a company’s performance is at standard (no variances), then no attention is necessary, and If exceptions occur (measured by favorable or unfavorable variances), then management's attention or intervention is required. Both management by exception, and variance analysis are applied to make better decision making; variance analysis is based on financial data while management by exception is a result of unsatisfactory variance of the financial data.

(a.2) What type of variances would be most likely to suggest that a company should consider making a change in its strategy?

Management should look for reasons behind any variances in the actual results. There are three types of variances that can cause differences when comparing actual results to the budget. These variances include:

Volume variances; a fixed overhead variance that represents the difference between budgeted fixed overhead and fixed overhead applied to production of the period

Efficiency/productivity variances; the difference between inputs (materials and labor) that were actually used (i.e., actual quantity of inputs used) and the standard budget allocated. The efficiency variance is unfavorable if the actual quantity exceeds the standard quantity: it is favorable if the actual quantity is less than the standard.

Price variances; where a positive result indicates an increase in costs (unfavorable variance), while a negative result means a reduction in costs (favorable variance), since less money was spent in purchasing the materials than the allowed standard.

(a.3) Do you think variance analysis helps in continuous improvement? Support your arguments.

Variable analysis helps an organization to set standards and identify variances from standards whether it is a favorable or an unfavorable variance, thus, the use of variance analysis helps in building a more informed performance management that can identify the causes of the variance, which may or may not need corrective actions as a result of the analysis. Therefore, and o the contrary of standard costing; variable analysis spots the improvement opportunities for continuous improvement.

‘Benchmarking against other companies enables a company to identify the lowest-cost producer. This amount should become the performance measure for next year.” Critically comment on this statement.

In this era of "faster, cheaper and better", companies are focusing on improving the product development process. Competitive-cost benchmarking is an action-oriented tool that enables companies to quantify how their performance and costs compare against competitors, understand why their performance and costs are different, and apply their approach of lowest cost product to strengthen competitive responses and implement proactive plans of next year o come.

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Exercise-4

(a) XUZ Company produces readymade garments for men. The purchasing officer collects the following information:-

Annual demand for Jeans 40,000 yards

Ordering cost per purchase order AED 120/-

Carrying cost per year 26% of purchase costs

Safety-stock requirements None

Cost of fabric AED 10 per yard

The purchasing lead time is 3 weeks. The fabric center is open 250 days a year (50 weeks for 5 days a week).

Calculate the Economic Order Quantity (EOQ) for Jeans.

EOQ = √2CoD / Ch

EOQ = √2 X 120 X 40,000/ 2.6

EOQ = √9,600,000/ 2.6

EOQ = √9,600,000/ 2.6

EOQ = 1,922 Yards

Calculate the number of orders that will be placed each year.

Number of Orders= Total annual demand / EOQ

Number of Orders= 40,000 / 1,922

Number of Orders= 21 orders

Calculate the reorder point for Jeans fabric.

Reorder Point = Average daily usage X lead time in days + Safety Stock

Reorder Point = 160 Yards X 15 days + 0

Reorder Point = 2,400 Yards

Average daily usage = 40,000 / 250

Average daily usage = 160 yards per day

Or

Reorder Point = Average Usage per Unit of Lead Time x Lead Time + Safety Stock

Reorder Point = 40,000 annual / 50 weeks x 3 weeks purchasing lead time + 0

Reorder Point = 2,400 Yards

What are the steps in computing the cost of a prediction error when using EOQ decision model?

Step 1. Compute the monetary outcome from the best action that could be taken, given the actual amount of the cost input.

Step 2. Compute the monetary outcome from the best action based on the incorrect amount of the predicted cost input.

Step 3. Compute the difference between the monetary outcomes from Steps 1 and 2.

(b) What do you understand by backflush costing? Describe three different versions of backflush costing.

Product costing approach, used in a Just-In-Time (JIT) operating environment, in which costing is delayed until goods are finished. Standard costs are then flushed backward through the system to assign costs to products. The result is that detailed tracking of costs is eliminated. The system is best suited to companies that maintain low inventories because costs then flow directly to cost of goods sold. Work-in-process is usually eliminated, journal entries to inventory accounts may be delayed until the time of product completion or even the time of sale, and standard costs are used to assign costs to units when journal entries are made, that is, to flush costs backward to the points at which inventories remain.


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