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Lectures Management Accounting and Control
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Includes all lectures, except EC13 (guest lecture).
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Lecture 1 (01-09-2020)A managerial reporting system in a firm is as our human brain in our body; it’s really important.
Functions of human brain:
Thinking / remembering
Instructing our body parts
Coordination between body parts
This is also what the functions of management reporting system (MRS) are:
Decision-facilitating function; it collects information about what happens inside (and outside)
the firm and it provides people in the firm with information. In that way, we can take decisions
in the firm.
Decision-influencing function; we instruct employees in the firm to act in the best interest of the
firm.
Coordination-facilitating function; because you collect so much information, you can motivate
people to work together in the firm.
How do we make sure that employees execute/implement the intended strategy?
Giving them the best possible information (decision-facilitating role of MRS).
Aligning individual behavior with organizational objectives (decision-influencing role of MRS).
Facilitating cooperation between entities (coordination-facilitating role of MRS).
If you have a good MRS, this helps to implement a strategy in the best possible way. MRS also allow to
develop a better understanding of strategic uncertainties that could instigate a change in the current
strategy.
Controllers design, maintain and improve the managerial reporting system.
Could we make the data more accurate at reasonable cost?
Can we measure customer satisfaction in a better way?
Should we move to real-time tracking of performance measures?
Besides, controllers have an advisory role in important strategy (implementation) decisions:
What are the strategic uncertainties of the firm?
Which supplier should we select?
Should we use bonuses to motivate employees?
Asking whether management reporting systems are important is more or less the same as asking
whether you ever had a concussion and how it impacted your life; it has a great influence. Weak MRS
limit value creation. Just as operating the human brain is difficult and delicate, so is improving MRS.
The relationship between the effort of the entrepreneur and the money for the entrepreneur is positive
(upward sloping). If you give someone a fixed salary, the line would be horizontal (the same money for
the employee at each level of effort). ‘The gap’ is the difference between the effort when you work for
yourself and the effort when you hire someone to do the work for you. How can we motivate the
,employees so that she provides an effort level that approximates the effort level of the entrepreneur?
That is what is being studied in this course. How to close the gap?
The context of this course is about the agency relationship; a situation in which one individual (the agent
or employee) acts on behalf of another individual (the principal or businessman) and is supposed to
advance the principal’s goal (through providing effort).
The agent executes an action a (effort) that has a private, convex cost C(a) for the agent and
generates benefits y for the principal. Convex because the more effort you do, the higher the
increase in the costs for the employee.
Higher values of a lead probabilistically to higher values of y but the problem is that a in itself is
not observable for the principal.
The principal observes a signal x carrying some information about the level of a. For example,
the number of customer complaints.
The principal can decide to determine the payment w to the agent based on x (w=w(x)),
meaning that you use, for instance, the number of customer complaints to determine the bonus
of the account manager.
Payouts:
o Principal: y – w(x)
o Agent: w(x) – C(a)
What is the problem?
Effort of the agent (a) is unobservable because:
o Continuous monitoring of the agent is too costly.
o The principal has not enough knowledge to judge the agent’s effort.
Risk averse agents combined with a noisy signal (x) of the agent’s effort. For instance, we don’t
want our salary being based on something we don’t have full control over.
The signal x can be manipulated by the agent. For instance, if you are being rewarded based on
the number of transactions, you could ask your friends to buy cheap things in your shop. In
extreme cases this can be seen as fraud.
A managerial reporting system provides information about the signals x that carry information about the
effort of managers and employees. Signals x are the so-called performance measures. The information
contained in MRS is not perfect because it is costly to collect perfect information. The higher the
accuracy of your information, the higher the costs of it. So, it’s a convex cost function, while there is a
concave benefit function; at some point, better information doesn’t really give a lot of additional
benefits. As long as the marginal benefits are higher the marginal costs, it can increase the firm’s
revenue. Financial constraints of collecting information is often observable in smaller firms (fixed costs
are too high). There are also contextual factors that determine how accurate your information is; if you
operate in a competitive industry, you often (need to) have better information. Finally, bounded
rationality is a problem; you can develop perfect information while it is too complex for your employees.
As a controller you have to examine the marginal benefits and costs of collecting additional information.
In economic models, employees are often assumed to be lazy, selfish and rational. In reality, however,
employees are not always rational. A smart controller can, to some extent, take advantage of the
employee’s irrationality.
, Lecture 2 (04-09-2020)
Agency problem:
Principal: y – w(x)
Agent: w(x) – C(a)
a is the effort of the agent, y is the benefit for the principal and x is the performance measure.
Is x a good predictor of y?
Is x an accurate reflection of a?
How could you manipulate x?
Let’s consider the Carrefour case: one of the most important changes in the organizational design, made
by the new CEO, is the centralization of purchasing (before, purchasing was decentralized to the country
level). The advantage of decentralized purchasing is that it is easier to adapt the product range to the
local taste, but the disadvantage is that local purchasers negotiate independently with big retail firms
implying that Carrefour does not exploit the cost benefits of its size. Before, country business units were
profit centers. The headquarters decided about opening new stores and countries were evaluated on
Sales – Costs (excluding depreciation for buildings).
Given the centralization of purchasing, how would you change the reporting system and the
performance evaluation (of countries)? Which other mechanism do you have to focus on? You don’t
want to be evaluated on something that you don’t have any control over. If headquarters do not
negotiate on good prices, your country business unit is evaluated lower. A reasonable answer would
thus be: Sales – (Cost – Building Cost – Purchasing Cost). You now only have employee costs. Besides,
you are evaluated based primarily on sales. Because of decentralization, you move towards a revenue
center and induce behavior that you don’t want; you could primarily sell cheaper products (to increase
sales) but then you compete with Aldi/Lidl. Keep people accountable only for the things they can
control. Note that store managers now might decide to purchase, for instance, more fresh vegetables
because its costs are not included in their evaluation, but then the vegetables might rot because they
have too much of it which will not be sold.
Although the CEO thought it was clever to turn Carrefour in a more centralized organization (because it
could lower purchase costs), there are additional effects/implications that should be taken into account.
CEOs primarily focus on organizational design, but forget to change the reporting system, performance
evaluation, or soft controls.
Three-legged stool:
Seating surface; reporting system
Leg 1; organizational design
Leg 2; performance evaluation
Leg 3; soft controls (culture, social norms)
Always take all components of the three-legged stool into account when
making changes. They are all linked to each other. If the CEO wants to be successful at Carrefour, a lot of
changes can be expected. One can even question whether all changes that are needed to establish fit
between the elements of the stool are possible at reasonable costs.
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