Performance Management and Evaluation – Chapter 21 Financial & Managerial Accounting, 8 th Edition by Needles, Powers, Crosson

Key Concepts / Terms Balanced scorecard: developed by Robert S. Kaplan and David P. Norton; a framework that links the perspectives of an organization’s four basic stakeholders with the organization’s mission and vision, performance measures, strategic and tactical plans, and resources 1.Financial (investors) 2.Learning and growth (employees) 3.Internal business processes (management) 4.Customers

Key Concepts / Terms Performance management and evaluation system: a set of procedures that account for and report on both financial and nonfinancial performance, so that a company can tell how well it is doing, where it is going, and what improvements will be made. Performance measurement: the use of quantitative tools to gauge an organization’s performance in relation to a specific goal or an expected outcome.

Key Concepts / Terms Responsibility Accounting / Centers 1.Cost centers: a responsibility center whose manager is accountable ONLY for controllable costs and that have well-defined relationships between the center’s resources and certain products or services. 2.Discretionary cost centers: a responsibility center whose manager is accountable for costs ONLY in which the relationships between the resources and the products or services is not well defined (i.e., human resources, accounting, legal)

Key Concepts / Terms 3.Revenue centers: a responsibility center whose manager is accountable primarily for revenue and whose success is based on its ability to generate revenue. 4.Profit centers: a responsibility center whose manager is accountable for both revenue and costs and for the resulting operating income. 5.Investment centers: a responsibility center whose manager is accountable for profit generation and can also make significant decisions about the resources that the center uses.

Key Concepts / Terms Evaluation of cost centers: use of a flexible budget (variable budget). Exhibit 1, page Flexible (variable) vs. static (fixed) budgets. Evaluation of profit centers: use of variable costing. Exhibit 2, page The focus is the contribution margin. Note that profit center income is the same whether calculated using the variable or traditional methods.

Key Concepts / Terms Performance evaluation of investment centers: use of SEVERAL techniques. This is to “balance out” strengths and weaknesses among the various techniques. 1.Return on investment (ROI) = Operating income ÷ Assets invested. Assets invested is the average of the beginning and ending asset balances for the period.

Key Concepts / Terms 2.Residual income = Operating income – (Desired ROI x Assets invested). This calculation shows the operating income that an investment center earns above a desired return on invested assets. 3.Economic Value Added (EVA) = After-tax operating income – (Cost of capital x Total assets – current liabilities). This calculation shows shareholder wealth created by an investment center.

Key Concepts / Terms ROI has limitations because it includes components that can be “manipulated” by management (operating income). Residual income has limitation due to size and resources among investment centers within the same company or the same industry. EVA has limitations also do to many factors that can be “manipulated” such as after-tax income.

Key Concepts / Terms In order to be useful, all three must be considered with their strengths and weaknesses. Also, managers should compare additional performance measures such as results of budgeted figures. EVA is a registered trademark of Stern Stewart & Company.