1. Performance Measures and Management Techniques
CPA review BEC Module 45
Performance Measures and Management Techniques

2. Organization of Module 452
Organization of Module 45
Financial and Nonfinancial Performance
Balanced Scorecard and Performance Measures
Value Based Management
Choosing Among Different Performance Measures
Traditional Financial Statement Analysis
Benchmarking and Best Practices
Quality Control Principles
Cost of Quality
Business Process Management
Project Management

3. Concept of Performance Measures and Management Techniques3
Concept of Performance Measures and Management Techniques
Financial and nonfinancial measures are used for a variety of purposes including: resource allocation, incentive compensation, divisional and business unit evaluation, budgeting and planning.

4. The Balanced Scorecard
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The Balanced Scorecard
Management translates its strategy into performance measures that employees understand and influence.
Financial
Customers
Performance measures
Learning and growth
Internal business processes

5. The Balanced Scorecard: From Strategy to Performance Measures
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The Balanced Scorecard: From Strategy to Performance Measures
Financial
Has our financial performance improved?
What are our financial goals?
What customers do we want to serve and how are we going to win and retain them?
Vision and Strategy
Customer
Do customers recognize that we are delivering more value?
Internal Business Processes
Have we improved key business processes so that we can deliver more value to customers?
What internal busi- ness processes are critical to providing value to customers?
Learning and Growth
Are we maintaining our ability to change and improve?

6. The Balanced Scorecard: Non-Financial Measures
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The Balanced Scorecard: Non-Financial Measures
The balanced scorecard relies on non-financial measures in addition to financial measures for two reasons:
Financial measures are lag indicators that summarize the results of past actions. Non-financial measures are leading indicators of future financial performance.
Top managers are ordinarily responsible for financial performance measures – not lower level managers Non-financial measures are more likely to be understood and controlled by lower level managers.

7. Understanding Return On Investment
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Understanding Return On Investment
ROI =
Net operating income
Average operating assets
Margin =
Net operating income
Sales
Turnover =
Sales
Average operating assets
ROI =
Margin  Turnover

8. Increasing ROI – An Example
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Increasing ROI – An Example
Regal Company reports the following:
Net operating income $ 30,000
Average operating assets $ 200,000
Sales $ 500,000
Operating expenses $ 470,000

9. Increasing ROI – An Example
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Increasing ROI – An Example
ROI =
Margin  Turnover
Net operating income
Sales
Average operating assets ×
ROI =
$30,000
$500,000 ×
$200,000
ROI =
6%  2.5 = 15%
ROI =

10. Investing in Operating Assets to Increase Sales
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Investing in Operating Assets to Increase Sales
Assume that Regal's manager invests in a $30,000 piece of equipment that increases sales by $35,000, while increasing operating expenses by $15,000.
Regal Company reports the following:
Net operating income $ 50,000
Average operating assets $ 230,000
Sales $ 535,000
Operating expenses $ 485,000

11. Investing in Operating Assets to Increase Sales
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Investing in Operating Assets to Increase Sales
ROI =
Margin  Turnover
Net operating income
Sales
Average operating assets ×
ROI =
$50,000
$535,000 ×
$230,000
ROI =
9.35%  2.33 = 21.8%
ROI =
ROI increased from 15% to 21.8%.

12. 11-12
Criticisms of ROI
Telling managers to increase ROI may not be enough. A manager who takes over a business segment typically inherits many committed costs over which the manager has no control. A manager who is evaluated based on ROI may reject investment opportunities…

13. Calculating Residual Income
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Calculating Residual Income ( )
This computation differs from ROI.
ROI measures net operating income earned relative to the investment in average operating assets.
Residual income measures net operating income earned less the minimum required return on average operating assets.

14. Residual Income – An Example
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Residual Income – An Example
Division A
Division B
Average operating assets
$1,000,000
$3,000,000
Net operating income
$  200,000
$  450,000
Minimum required return: 12% × average operating assets
   120,000
   360,000
Residual income
$   80,000
$   90,000

15. Residual Income – An Example
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Residual Income – An Example
Present
New Project
Overall
Average operating assets (a)
$1,000,000
$250,000
$1,250,000
Net operating income (b)
$200,000
$40,000
$240,000
ROI (b) ÷ (a)
20.0%
16.0%
19.2%
Average operating assets (a)
$1,000,000
$250,000
$1,250,000
Net operating income (b)
$  200,000
$ 40,000
$  240,000
Minimum required return: 12% × (a)
   120,000
  30,000
   150,000
Residual income
$   80,000
$ 10,000
$   90,000

16. GPM = Gross Profit/Net Sales
Gross (Profit) Margin
GPM = Gross Profit/Net Sales
GPM = $986,000/$3,074,000 = 32.1%

17. Operating Profit Margin
OPM = EBIT/Net Sales
Your book has
OPM = operating income/Net Sales
OPM = $418,000/$3,074,000 = 13.6%

18. Return on Total Assets (ROA)
ROA = Earnings Available to Common Stockholders Total Assets
You book has
ROA = Net income after interest and taxes average total sales
ROA = $221,000/$3,597,000 = 6.1%

19. ROE = Earnings Available to Common Stockholders Total Equity
Return on Equity (ROE)
ROE = Earnings Available to Common Stockholders Total Equity
You book has
ROE = Net income after interest and taxes average common stockholders equity
ROE = $221,000/$1,754,000 = 12.6%

20. Current Ratio Current ratio = total current assets
total current liabilities
Current ratio = $2,447,830 = 1.24
$1,968,662

21. Quick Ratio Quick ratio = Total Current Assets - Inventory
total current liabilities
Quick ratio = $2,447,830 - $300,459 =
$620,000

22. Cash Ratio Cash ratio = Cash total current liabilities
$1,968,662

23. Debt to Total Assets Ratio
Total Liabilities/Total Assets
Debt Ratio = $1,643,000/$3,597,000 = 45.7%

24. Times Interest Earned Ratio
Times Interest Earned = EBIT/Interest
Times Interest Earned = $418,000/$93,000 = 4.5

25. Theory of Constraints
A constraint (also called a bottleneck) is anything that prevents you from getting more of what you want.
The Theory of Constraints is based on the observation that effectively managing the constraint is the key to success.
The constraint in a system is determined by the step that has the smallest capacity.

26. Theory of Constraints 2. Allow the weakest link to set the tempo.
Only actions that strengthen the weakest link in the “chain” improve the process.
3. Focus on improving the weakest link.
1. Identify the weakest link.
4. Recognize that the weakest link is no longer so.

27. Sometimes associated with the term zero defects.
Six Sigma
A process improvement method relying on customer feedback and fact-based data gathering and analysis techniques to drive process improvement.
Refers to a process that generates no more than 3.4 defects per million opportunities.
Sometimes associated with the term zero defects.

28. Six Sigma