Chapter 12

Fundamentals of Management
Control Systems

McGraw-Hill/Irwin

Copyright 2011 by The McGraw-Hill Companies, Inc. All rights reserved.

Alignment of Managerial and

Organizational Interests
L.O. 1 Explain the role of a management control system.
A management control system is designed
to help managers make decisions that will
increase the organizations performance.

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Decentralized Organizations

L.O. 2 Identify the advantages and disadvantages of decentralizati

Decentralization is the delegation to
subordinates of authority to make
decisions in the organizations name.

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LO2

Advantages of Decentralization
Better use of local knowledge
Faster response
Wiser use of top managements time
Reduction of problems to more manageable size
Training, evaluation, and motivation of local managers

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LO2

Disadvantages of Decentralization
Dysfunctional decision making:
Local managers can make decisions in their interest,
which can differ from those of the organization.
Duplication of administration:
Local managers make the same types of decisions
made at headquarters.

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Management Control System

L.O. 3 Describe and explain the basic framework
for management control systems.

It is a system designed to influence subordinates

to act in the organizations interest.
Principals (owners) use this system to influence
agents (managers) behavior.

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LO3

Elements of a Management
Control System

Delegated decision authority

Performance evaluation and measurement systems
Compensation and reward systems

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Responsibility Accounting
L.O. 4 Explain the relation between organization
structure and responsibility centers.

Responsibility accounting reports revenues

and costs at the level within the organization
having the related responsibility.
Responsibility

Cost
centers

Revenue
centers

Profit
centers

Investment
centers
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Evaluating Performance
L.O. 5 Understand how managers evaluate performance.
Controllability concept:
Managers should be held responsible
for costs or profits over which they have
decision-making authority.
Relative performance evaluation (RPE):
Compares divisional performance with that
of peer group divisions

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Corporate Cost Allocation

L.O. 6 Analyze the effect of dual- versus single-rate allocation syste

Global Electronics
Latin America Division
Income for the Year ($000)
Actual
Target
Revenue
$70,000 $70,000
(Percentage of corporate revenue)
16%
14%
Direct division costs
51,800
51,800
Allocated corporate overhead*
4,800
3,500
Operating profit
$13,400 $14,700
* Global Electronics allocates corporate overhead based on relative revenue.
Corporate overhead was $25 million.
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LO6

Corporate Cost Allocation

Global Electronics
Latin America Division
Income for the Year ($000)
Revenue
Direct division costs

Actual
$70,000
51,800

Target
$70,000
51,800

My revenue
and costs
were on target.

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LO6

Corporate Cost Allocation

Global Electronics
Latin America Division
Income for the Year ($000)
Actual
Target
Revenue
$ 70,000 $ 70,000
(Percentage of corporate revenue)
16%
14%
Corporate revenue
$437,500a $500,000b

$70,000 16%
b
$70,000 14%
a

I'm not
responsible for
corporate
revenue.
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LO6

Corporate Cost Allocation

Global Electronics
Latin America Division
Income for the Year ($000)
Actual
Target
Allocated corporate overhead
$ 4,800 $ 3,500
(Percentage of corporate revenue)
16%
14%
Corporate costs
$30,000a $25,000b

$4,800 16%
b
$3,500 14%
a

I'm not
responsible for
corporate
costs.
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LO6

Corporate Cost Allocation

Dual rate method:
This is a cost allocation method that separates a
common cost into fixed and variable components
and then allocates each component using a
different allocation base.

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Performance Evaluation
Systems Incentives
L.O. 7 Understand the potential link between incentives
and illegal or unethical behavior.

Fundamental questions regarding a performance

measurement system:
Does the measure reflect the results of those actions
that improve the organizations performance?
What actions might managers be taking that improve
reported performance but are actually detrimental to
organizational performance?

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Internal Controls
L.O. 8 Understand how internal controls can help protect assets.
Internal control is a process designed to provide
reasonable assurance that an organization will
achieve its objectives in the following categories:
Effectiveness and efficiency of operations
Reliability of financial reporting
Compliance with applicable laws and regulations

12 - 16

End of Chapter 12

McGraw-Hill/Irwin

Copyright 2011 by The McGraw-Hill Companies, Inc. All rights reserved.