Performance Measurement in Decentralized Organizations Chapter 11 Performance Measurement in Decentralized Organizations

Decentralization Both Advantages and Disadvantages Advantages Efficiency Entrepreneurial Spirit Frees top management from day-to-day Disadvantages Lack of coordination Not understanding overall corporate goals Own “agendas”

Centers Cost Center Profit Centers Investment Centers Control of costs, but not revenues Profit Centers Control of costs and revenues Investment Centers Control of costs, revenues + investments in operating assets

Return on Investment Net Operating Income ROI = Average operating assets Both operating income and assets used Income often “EBIT” Limits on usefulness?

ROI Differently ROI = Margin X Turnover Margin = Net Operating Income Sales Turnover = Sales Average Operating Assets

ROI Drawbacks ROI improvements hard for many managers to operationalize Much of what drives ROI is out of managers’ control Seeking highest ROI rate often not the income-maximizing approach

Residual Income Measures dollars by which income exceeds income at minimum required rate of return. Residual income = Net Operating Inc. – (Ave. Op. Assets x min req. rate of rtn)

Residual Income Focus is on dollars not percentages Assume: Actual ROI is 25% Min req. is 15% Should you invest in a project yielding 22% return?

Delivery Cycle Times A measure of production efficiency Wait time + Manufacturing Cycle Time; within: Process, inspection, cue, move Process is value added, others not Want to maximize percent of time that is value-added

Manufacturing Cycle Efficiency MCE = percent of manufacturing time that is value added What is Value Added Time? MCE can be expressed as percent or decimal

Balanced Scorecards Pictorial description of cause and effect for performance improvement Identifies actions that can be taken Can use to measure accomplishment of actions and effectiveness Can modify as learn from experience

Process Capacity Cycle time and time available for production can be used to measure productive capacity Theoretical: Does not allow for downtime (ideal, unrealistic assumptions) Practical: Takes into account both planned and unplanned downtime Excess: compares with demand