Purposes Of Management Control And Mcs Accounting Essay


1. Introduction

Planning and control have been viewed as the beginning and end points of the management process (Camillus, 1986). The relevance of control has been emphasized long back by several researchers, including Henri Fayol (1949), who highlighted controlling as one of the basic six managerial functions. However, in the early part of the century, the focus was on controlling the finance function primarily, and accordingly, management accounting systems were laid down whose aim was to utilize management accounting practices (like budgeting, product costing) to achieve some corporate goals (Chenhall, 2003). Gradually, the relevance of control beyond the finance function was realized and a new concept of Management Control System originated, that encompassed other functions like personnel function, production function, marketing function along with the finance function in its control domain (Macintosh & Quattrone, 2010).

2. Management Control Systems

Management Control Systems (MCS) take a snapshot view of the entire organization as an entity rather than focusing on individual departments. Several scholars have presented several definitions and explanations of the term but the crux is the fact that management control refers to the combination of both systems as well as behavioral approach. Let us analyze the explanations provided by some researchers.

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According to Anthony & Govindarajan (2007), management control is the term coined to the process used by managers to achieve organizational strategies by minimizing deviations of the below-optimal actual results from the expected ones. They view management control as a tool (systemic approach) used by managers to implement their desired strategies.

On the other hand, there have been researchers like Merchant and Van der Stede (2007), who took a behavioral approach to the concept of MCS and have emphasized that MCS should focus on results controls, actions controls, personnel controls and cultural controls rather than merely looking at achievement of end results. Malmi & Brown (2008) define MCS as the set of systems, practices, values, rules and other activities managers put to place to guise and direct employee behavior. Thus they extend their scope beyond decision making to include the behavioral dimension of employee involvement.

3. Purposes of Management Control and MCS

Management Control System is the process that links strategic planning to operational control (Otley, Broadbent & Berry, 1995). Management Control Systems (MCS) are relevant as they provide information that serves as a valuable input in decision-making, planning and evaluation (Widener, 2007; Merchant & Otley, 2007). MCS focuses on not just one form, but on several control systems working jointly (Widener, 2007; Otley, 1980).

While strategic control addresses the concern of whether the chosen strategy is apt for the organization, management control, as per Merchant and Van der Stede (2007), answers the question whether the employees behave in an appropriate manner or not. MCS thus intends to assist the organization in motivating its employees and to make decisions and undertake actions which seem to be in the organization's optimal interest (Chow, Shields & Wu, 1999).

Management control systems thus serve two main purposes by:

Providing information that is useful to management, and

Helping to ensure acceptable patterns of employee behavior so as to achieve the organizational objectives.

4. The Balanced Score Card

There are several tools which can be used by management to exercise control, one of the most important being the Balanced Score Card. The BSC dates its origination back to 1990, when business consultant David Norton and Harvard academic Robert Kaplan developed it in the course of one year's multi-company study (Kaplan and Norton, 1992). The study was triggered by the belief that existing performance indicators, which were primarily finance-related, were becoming obsolete and hence the need for new dimensions.

The BSC stressed the relevance of gauging performance across four dimensions:

Customer's Perspective (i.e. how is the business perceived by the customers)

Financial Perspective (i.e. how do the shareholders gain from the company)

Internal Business Process Perspective (i.e. Identifying the businesses' competencies)

Learning and Growth Perspective (i.e. How to improve and create value)

The BSC provides a comprehensive view of the business as it provided a balanced presentation of the financial and operational measures. While financial measures reflected the outcomes of actions already taken (later coined lagging indicators by Kaplan & Norton, 1996b), operational measures of internal processes, customer satisfaction, the organization's improvement and innovation activities would be the driver of the organization's future performance (termed leading indicators, Kaplan and Norton, 1996b).

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Gradually, this performance measurement tool was transformed into a strategy implementation tool (Kaplan and Norton, 1993). The BSC was used to convert the company's strategic objectives into a consistent set of performance indicators. Kaplan and Norton (1993) focused on the following benefits and characteristics of BSC:

The BSC helped to focus on the strategic vision as the managers were to select a defined number of critical indicators in the four perspectives which were grounded in the organization's competitive requirements and strategic objectives.

The measures of BSC were directed to both current and future performances.

BSC aimed to integrate the entire organization on its path to attain strategic vision by defining and communicating priorities to managers.

The four perspectives of the BSC seek to balance the external measures with the internal measures of performance of the business.

The BSC needs to be custom made for each business rather than applying a template across all companies.

The BSC was widely used as a management control system; however, the thrust lied on financial measures. Owing to the increasing gap between strategy formulation and implementation, the BSC was directed to minimize this gap (Kaplan and Norton, 1996a) by introducing four new management processes to link long-term strategic objectives with the short-term actions:

Translating the broad vision into integrated sets of objectives and measures,

Communication across the organization, linking all the departments,

Integrating business and financial plans to attain long-term strategic objectives,

Feedback and learning from the feedback thereof.

Kaplan and Norton (1996a) also provided insights into the functioning of the BSC (to reduce the above discussed gap) by highlighting the fact that there existed linkages between the four perspectives of the BSC and also studied the nature of the cause-effect relationships between them. They described this chain as a "vertical vector" that traversed upward from the Learning and Growth perspective through Internal Business Processes and Customer, to the financial perspective (Kaplan & Norton, 1996b).

In 2001, Kaplan and Norton introduced the concept of strategy maps to suit the newer, prevalent form of the organization that was called Strategy Focused organization.

5. The Balanced Score Card as a Management Control System

To evaluate the effectiveness of the BSC as a MCS, there are several analytical frameworks available like the Otley's (1999) Performance Management Framework, Simon's (1995) Levers of Control framework. As Simon's framework considers both the systemic and the behavioral approach to management control unlike Otley's, which is more focused on the systems approach, the former has been applied to test its effectiveness. We begin with a brief introduction of the model below:

5.1 Simon's Levers of Control Framework

Organizations today are flexible, innovative and creative in their ventures. In such a rapidly changing environment, it is no longer feasible to deploy the traditional diplomatic methods of control. Control today, is no longer limited to employing good people and aligning their performance with incentives. Managers' today need to encourage employees so as to initiate developments and devise newer methods to satisfy customer's needs.

Though control in a narrow sense implies measuring performance against targets and taking remedial action thereof, these systems represent only one ingredient of control. Simon introduces three other levers which are also of primary relevance in this highly competitive environment:

Interactive Control Systems,

Beliefs Systems,

Boundary Systems.

These are in addition to the above discussed diagnostic control systems.

Diagnostic control systems are based on the notion of management by exception, wherein, remedial action is implemented when there is a significant deviation of the actual performance from the planned.

On the other hand, interactive control systems are used to cope up with strategic uncertainties, and tackle the potential opportunities and threats that pose a threat to the existing strategy. By threats and opportunities, Simon refers to new technology, customer's tastes and preferences, government regulations etc.

Beliefs Systems can be formally defined as an explicit and composite set of guidelines, which must be formally communicated by senior managers to provide for basic values, direction and purpose of the organization. It needs to be reinforced systematically.

Boundary Systems can be deemed as the organization's brakes. In order to excel in this environment, managers need to empower their employees to pursue and create opportunities to add value to the company. However, at the same time, certain inhibitions are required which do not direct the employees as to what should be done, but they provide guidelines as to what should not be done under any circumstances.

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Simon provides that an effective Management Control System (MCS) should contain all the four levers of control. While belief systems and interactive control systems are positive systems that provides for encouragement of employees, boundary systems and diagnostic control systems represent the constraining systems that inhibit strategic search behavior by directing the focus of scarce management attention to the identified key strategic objectives.

5.2 BSC as a Management Control System

As stated above, Simons (2000) emphasizes that any MCS must incorporate all the four levers of control to be effective and efficient. Let us analyze BSC in the light of the above discussion with an example. Suppose, a company has set its financial goal that the return earned on equity invested be increased by 20% (hypothetical figure). In order to achieve this, it primarily needs to boost sales, and to boost sales, it needs to attract new customers and retain existing ones through brand loyalty. This translates into improving market share by some percent, say 10% (customer's perspective). To achieve brand loyalty, it needs to minimize defects, leading to an improvement in the quality of products/services. Thus there arises the need of streamlining internal business operations by minimizing defects to say 2%. To improve efficiency, workers need to be trained, practices related to Total Quality Management need to be adopted, which calls for learning and growth perspective. The target can be set to train a specified number of workers every period.

In the above example, the cause-effect linkage can be clearly seen. There is a top-bottom approach and the financial target can be used to set targets for other departments of the company, which is consistent with the overall objective. We see that the Balanced Score Card incorporates both the diagnostic and interactive control systems as prescribed by Simon (1995). Any significant deviation of the actual value of any performance indicator from its predicted value indicates that the strategy is not effective, thereby calling for amendment of the strategy and the indicators across the Balanced Score Card. This implies that the Balanced Score Card incorporates the diagnostic control system. The threat of losing customers as can be gauged by the deterioration of the market share of the company, can call for the need of interactive control across the organizational boundaries.

However, Balanced Score Card does not incorporate the other two systems - beliefs systems and boundaries systems. The behavioral approach to management control seems not to be incorporated in the Balanced Score Card approach. In fact, the Balanced Score Card does not lay much emphasis on the human resources function, though it includes some indirect focus on the employees via the learning and growth perspective. But this is also crucial as was seen in the turnaround of the Southwest Airlines which had deployed effective personnel re-jigging tactics to become profitable. It was incurring significant losses and the CEO re-laid the personnel policies that contributed successfully to its turnaround.

6. Conclusion

The Balanced Score Card approach attributes financial success to a gamut of other factors and establishes a cause-effect linkage which can serve as a rational basis for strategy formulation. The term Balanced indicates that consistent set of objectives are formulated for all the departments of the organization. However, the Balanced Score Card is also subject to criticisms. Though it stresses for identification of key performance indicators and setting targets for the same, it does not provide much information on the formulation of the same.

The Balanced Score Card approach has been seen to be a potentially effective means of linking the organization's operational performance to its business strategy. It has also focused primarily on the shareholders of the company, but the focus on employee is less, which is deemed to be inappropriate in this high-attrition rate environment. The management of feedback loops has also not been well addressed in the Balanced Score Card literature, and the structure of the rewards system has not been examined in adequate detail.

Overall, the Balanced Score Card can serve as a valuable tool if used in conjunction with other management control systems. It embodies the interactive control system of the Simon's (1995) approach and can serve as a complement in the control process.