P5 Advanced Performance Management - Study Text 2016-2017.pdf

 

 

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Paper P5

Advanced Performance

Management

For exams in September 2016, December

2016, March 2017 and June 2017

ACCA Approved

Study Text

A dv anc ed P er formanc e Manag ement Study T ext

A

CC

A

P5

For e xams in Sept ember 2016, Dec ember 2016, Mar ch 2017 and June 2017

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PAPER P5

ADVANCED PERFORMANCE

MANAGEMENT

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closely with ACCA to ensure this Study Text contains the information you need to pass your exam.

In this Study Text, which has been reviewed by ACCA’s examination team, we:

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 Examine your understanding in our practice question bank  Reference all the important topics in our full index

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FOR EXAMS IN SEPTEMBER 2016, DECEMBER 2016,

MARCH 2017 AND JUNE 2017

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Contents

Page

Introduction

Helping you to pass v

Studying P5 vii

The exam paper xii

Syllabus and study guide xiii

Part A Strategic planning and control

1 Strategic management accounting...3

2 Performance hierarchy...45

3 Performance management and control of the organisation ...69

4 Changes in business structure and management accounting ...97

5 Environmental and ethical issues ...137

Part B External influences on organisational performance

6 External influences on organisational performance...173

Part C Performance measurement systems and design

7 Performance management information systems ...195

8 Management information, recording and processing and management reports...219

Part D Strategic performance measurement

9 Strategic performance measures in the private sector...273

10 Divisional performance and transfer pricing issues...319

11 Strategic performance measures in not-for-profit organisations...347

12 Non-financial performance indicators...369

13 The role of quality in management information and performance measurement systems ...385

14 Performance measurement and strategic HRM issues...427

Part E Performance evaluation and corporate failure

15 Alternative views of performance measurement and management ...469

16 Strategic performance issues in complex business structures...503

17 Predicting and preventing corporate failure ...521

Mathematical tables

553

Practice question bank

557

Practice answer bank

579

Index

629

Review form

Helping you to pass

BPP Learning Media – ACCA Approved Content Provider

As an ACCA Approved Content Provider, BPP Learning Media gives you the opportunity to use study

materials reviewed by the ACCA examination team. By incorporating the examination team's comments and suggestions regarding the depth and breadth of syllabus coverage, the BPP Learning Media Study Text provides excellent, ACCA-approved support for your studies.

The PER alert

Before you can qualify as an ACCA member, you have to not only pass all your exams but also fulfil a three year practical experience requirement (PER). To help you to recognise areas of the syllabus that you

might be able to apply in the workplace to achieve different performance objectives, we have introduced the 'PER alert' feature. You will find this feature throughout the Study Text to remind you that what you

are learning to pass your ACCA exams is equally useful to the fulfilment of the PER requirement.

Tackling studying

Studying can be a daunting prospect, particularly when you have lots of other commitments. The different features of the Study Text, the purposes of which are explained fully on the Chapter features page, will

help you while studying and improve your chances of exam success.

Developing exam awareness

Our Study Texts are completely focused on helping you pass your exam.

Our advice on Studying P5 outlines the content of the paper, the necessary skills you are expected to be

able to demonstrate and any brought forward knowledge you are expected to have.

Exam focus points are included within the chapters to highlight when and how specific topics were

examined, how they might be examined in the future, and how different topics within the syllabus fit together.

Using the syllabus and study guide

You can find the syllabus and study guide on pages xiii-xxiii of this Study Text.

Testing what you can do

Testing yourself helps you develop the skills you need to pass the exam and also confirms that you can recall what you have learnt.

We include Questions – lots of them – both within chapters and in the Practice Question Bank, as well as Quick Quizzes at the end of each chapter to test your knowledge of the chapter content.

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Chapter features

Each chapter contains a number of helpful features to guide you through each topic.

Topic list

Topic list Syllabus reference What you will be studying in this chapter and the relevant

section numbers, together with ACCA syllabus references.

Introduction

Puts the chapter content in the context of the syllabus as _{a whole.}

Study Guide

Links the chapter content with ACCA guidance.

Exam Guide

Highlights how examinable the chapter content is likely to _{be and the ways in which it could be examined.}

Knowledge brought forward from earlier studies What you are assumed to know from previous

studies/exams.

Summarises the content of main chapter headings, allowing you to preview and review each section easily.

Examples

Demonstrate how to apply key knowledge and _techniques.

Key terms

Definitions of important concepts that can often earn you _{easy marks in exams.}

Exam focus points

When and how specific topics were examined, or how _{they may be examined in the future.}

Formula to learn

Formulae that are not given in the exam but which have to _{be learnt.}

Gives you a useful indication of syllabus areas that closely relate to performance objectives in your Practical Experience Requirement (PER).

Question

Gives you essential practice of techniques covered in the _chapter.

Case Study

Real world examples of theories and techniques.

Chapter Roundup

A full list of the Fast Forwards included in the chapter, providing an easy source of review.

Quick Quiz

A quick test of your knowledge of the main topics in the chapter.

Practice Question Bank

Found at the back of the Study Text with more comprehensive chapter questions. Cross referenced for easy navigation.

FAST FORWARD

Studying P5

As the name suggests, this paper examines advanced performance management topics and is particularly suited to those who are thinking about a career in management accountancy or are likely to be involved in strategic management decisions.

ACCA expects you to demonstrate a professional approach to all questions – not just presenting information in a professional manner, but also integrating knowledge and understanding of topics from across the syllabus.

The examination team has stressed that candidates should not expect topics in P5 exams to be examined in isolation. One of the major skills you will be expected to demonstrate in the P5 exam is being able to draw on knowledge gained across your studies to date, in order to present complete solutions to relatively broad business issues or problems.

1 What P5 is about

The syllabus for Paper P5 further develops key aspects and skills introduced in Paper F5, and it draws on

aspects of the material about strategic and operational planning and performance covered in Paper P3,

Business Analysis.

However, whereas Paper P3 assesses principles of management accounting as part of the wider analysis of a business situation, Paper P5 could examine aspects of management accounting – such as budgeting or costing techniques – in their own right.

The stated aim of the P5 syllabus is:

'To apply relevant knowledge, skills and exercise professional judgement in selecting and applying

strategic management accounting techniques in different business contexts and to contribute to the evaluation of the performance of an organisation and its strategic development.'

Read this aim carefully. You are no longer just a 'number cruncher' drawing up budgets and producing

calculations to include management reports. You are expected to understand the wider issues that affect

organisations. These issues are often written about in newspapers and journals such as the Financial

Times and The Economist, so it is important you read the financial press to help you identify how the

issues you are studying in P5 relate to the real world context.

At this level in your studies, you also need to recognise how the subjects you previously studied begin to fit together. You need to begin to take a holistic view of an organisation, and to see how the various parts of it and various processes affect overall performance – rather than looking at individual issues in isolation.

Importantly, the P5 exam is likely to also test your ability to assess different approaches to performance

management, from a variety of perspectives. As well as knowing what the approaches are, you will also

need to be able to compare them with one another in the context of a scenario; for example, comparing the long-term and short-term issues affecting an organisation's performance.

Snapshot of the syllabus

The syllabus expects you to understand how organisations set their strategy and the external influences that affect strategic plans and operational outcomes. You will be expected to evaluate different systems of performance management and apply strategic performance measurement techniques in evaluating and improving performance. You may also be expected to advise on strategic performance evaluation and the possibility of corporate failure. Finally, you need to be aware of the current developments in management accounting and performance management, as these affect organisations.

There are five parts to the syllabus, as summarised below.

(a) Use strategic planning and control models to plan and monitor organisational performance

(b) Assess and identify relevant macroeconomic, fiscal and market factors and key external influences on organisational performance

(c) Identify and evaluate the design features of effective performance management information and monitoring systems

(d) Apply appropriate strategic performance measurement techniques in evaluating and improving

organisational performance

(e) Advise clients and senior management on strategic business performance evaluation and on

recognising vulnerability to corporate failure

We expect most of these capabilities (if not all) to be tested to some extent in every P5 exam.

2 What skills are required?

Look back at the action verbs in the six parts of the syllabus outlined above. You are expected to be able to

assess, advise and evaluate, as well as to identify and monitor.

The need for these skills of assessing, advising and evaluating highlights that, at P5 level, you are expected to have moved beyond merely demonstrating your knowledge of a model or technique, and instead you have to apply that knowledge to practical situations. For example, the examination team will expect that, by the time you reach P5, you can already calculate basic financial ratios. In P5, though, the examination team will expect you to be able to interpret the information provided by those ratios to understand how an organisation is performing, and to make sensible suggestions (where appropriate) about how its performance could be improved.

The questions set in P5 exams will be based around case study scenarios which describe an organisation,

its objectives and its business environment. You will need to relate your answers specifically to the scenario given in the question. There will be very few marks available for simply describing models or theories. Evidence from past exam sittings suggests that candidates who simply learn models and theories, but then do not apply their knowledge to the question scenarios, typically score between 20-30% in their P5 exams.

The P5 paper has a large written element, with well over half the marks being earned for written answers

(discussion, analysis, evaluation) rather than calculations. Again, this is designed to reflect the position of

a qualified accountant working in a business. The accountant can expect a number of the routine calculations and figures to be produced by their more junior colleagues, but the accountant should then expect to identify the issues or implications being identified by those figures.

We have summarised here the skills you are expected to demonstrate in P5.

(a) Core knowledge. The contents of Paper F5 Performance Management – assumed knowledge

brought forward for Paper P5.

(b) Numerical skills. Those skills demonstrated in Paper F5. You only learn a small number of new

mathematical techniques in this paper but, alongside these, you are also expected to remember those you learnt previously.

(c) Written skills. These are key skills on this paper. You will be expected to write reports and notes

explaining issues you encounter.

(d) Analysis and interpretation of question data or calculations. The examination team has stressed

that candidates will be expected to analyse (not merely calculate) numerical data given in a scenario.

(e) Wider business awareness or application of skills in a practical context.

3 Passing the P5 exam

The examination team provides a lot of useful feedback in the 'Examiner's reports' to past exams. This feedback highlights areas where students have struggled in exams, and also indicates the skills the examination team expects candidates to be able to demonstrate.

Looking at the post exam guidance can also be useful for reminding yourself about essential areas of exam technique. Therefore you are strongly recommended to read these guides which are available in the 'Qualification resources' section of ACCA's website: www.accaglobal.com

The points highlighted in the post exam guidance include the following.

(a) Read questions very carefully and answer the question asked, not the question you hoped had

been asked. In particular, if a question asks you to 'evaluate' or 'assess' the usefulness of a performance measure for assessing performance in an organisation, this is not asking you to evaluate or assess the organisation's performance. Instead, the focus of your answer must be on

the performance measure itself.

(b) Answers which consist of rote-learned definitions or explanations with no application to the scenario will score very few marks. It is vital that you apply your knowledge to the context

described by the question scenario.

(c) Look at the mark allocation to help you manage your time allocation and plan your answer.

(d) Read all the parts of the question before you prepare your answer, so that you avoid repeating the same points in answering different parts of the question.

We recommend you read the 'Examiner's approach to P5' article published in October 2012 and available on ACCA's website. This illustrates how some of the skills required to pass P5 have been tested in recent exam sittings, and provides some useful hints about how to approach the paper.

Approach to the exam – In the article, the Examining team suggested that the best approach to the exam

can be summarised as:

(a) Cover the whole syllabus – Candidates often appear to over-concentrate on Section D of the

syllabus (strategic performance measurement). However, it is important to understand how, for example, the choice of performance measures fits with planning and control structures (Section A of the syllabus) or how well the measures chosen relate to external drivers of performance (Section B of the syllabus).

(b) Be prepared to apply your knowledge of syllabus topics to a business scenario – answers which

provide lists of rote-learned points (or rote-learned advantages and disadvantages for different techniques and approaches) will not earn sufficient marks to pass a question. Candidates will be expected to tailor their knowledge specifically to the situation given in the question scenario. (c) Read and answer the question set – Candidates earn marks where their answers are technically

correct and relevant to the question asked. However, candidates have a tendency to write answers

to the question they wish had been asked, rather than the question the examining team actually set. This approach scores little or no credit though.

(d) Add value to the organisation that is being advised – Candidates need to demonstrate their ability

to add value by taking data already produced and identifying and analysing the key issues in that data and the commercial implications of it. Candidates need to be prepared to analyse numerical

data given in a scenario, not merely to perform calculations on it.

Importantly, the article also stresses that P5 is a paper about performance management, not simply about

performance measurement. While it is important for an organisation to measure how well it is performing,

this performance measurement takes place within the wider context of strategic planning and control, and is subject to both internal and external factors which can affect performance. In Paper P5 you need to be aware of this context and its impact on performance, not simply how an organisation can measure performance. Performance management also considers how the management of an organisation can be informed by the results of performance measurement; for example, through the way in which staff are rewarded for their performance.

Question practice

The importance of tailoring your answer to the question actually set, rather than simply rote-learning models and theories, also highlights the importance of question practice in preparing for your P5 exam. You can develop application skills by attempting questions in the BPP Learning Media Practice & Revision Kit.

4 Brought forward knowledge

You will be expected to build on the skills and knowledge you acquired when you studied Paper F5

Performance Management. That paper introduces topics such as budgeting and pricing that continue into

the higher level syllabus. Paper F5 also covers cost and management accounting techniques including activity-based costing that you will encounter in this paper. You will also be expected to draw on your

knowledge of performance measurement and control techniques that were introduced in this earlier

paper, because candidates sitting P5 will be expected to have a thorough understanding of the F5 syllabus. In addition, you might be expected to draw on topics covered in Paper P3, Business Analysis, particularly in relation to aspects of strategic planning and control, and performance measurement.

ACCA technical article: 'Bringing forward Paper F5 knowledge and skills in Paper P5'

There is an article in the P5 technical articles section of ACCA's website called 'Bringing forward Paper F5 knowledge and skills in Paper P5'. The article highlights the core skills from Paper F5 you will need to bring forward into Paper P5, but also the differences in the depth and application of knowledge required in P5 compared with F5. For example, instead of simply understanding the rationale of the Balanced

Scorecard, in P5 you might be asked to evaluate its usefulness to an organisation in a specific scenario. You are strongly advised to read the article as part of your studies for your P5 exam.

Analysis of past papers

The table below provides details of when each element of the syllabus has been examined and whether it was examined as part of a compulsory (C) or optional (O) question. Further details about questions can be found in the Exam Focus Points in the relevant chapters.

Text chapter Sept/ Dec 2015 June 2015 Dec 2014 June 2014 Dec 2013 June 2013 Dec 2012 June 2012 Dec 2011 June 2011

STRATEGIC PLANNING AND CONTROL

1 Introduction to strategic

management accounting

C C O O

2 Performance hierarchy C C C C

3 Performance management and

control of the organisation

O O O C

4 Changes in business structure and

management accounting

C C O C C

5 Environmental and ethical issues O O

EXTERNAL INFLUENCES ON ORGANISATIONAL PERFORMANCE 6 External influences on organisational performance C O C O O C PERFORMANCE MEASUREMENT SYSTEMS AND DESIGN

7 Performance management

information systems

C,O O 0 O, O C

8 Management information, recording

and processing and management reports

O C C O C O

STRATEGIC PERFORMANCE MEASUREMENT

9 Strategic performance measures in

the private sector

O C C, O C C

10 Divisional performance and transfer

pricing issues

O O C

11 Strategic performance measures in

not-for-profit organisations

O O

12 Non-financial performance

indicators

O O C

13 The role of quality in management

information and performance measurement systems

C,O C O O O

14 Performance measurement: and

strategic HRM issues

O,O O O C C O O

PERFORMANCE EVALUATION AND CORPORATE FAILURE

15 Alternative views of performance

measurement and management

O O C C O C, O O C C, O

16 Strategic performance issues in

complex business structures

O O O O

17 Predicting and preventing corporate

failure

O O

The exam paper

Format of the paper

The P5 exam paper consists of two sections, and lasts 3 hours and 15 minutes.

Important note: The format of the exam paper changed in June 2013. If you are looking at past exams (on ACCA's website) from 2012 or earlier, it is vital that you remember this point.

Section A

Section A will contain one compulsory question comprising 50 marks in total. This question will

comprise several sub-sections, and will usually assess and link a range of subject areas from across the syllabus. The Section A question will require students to demonstrate high-level capabilities to evaluate, relate and apply the information in the case study to the question requirements.

Section B

You need to answer two questions in Section B from a choice of three, comprising 25 marks each.

Section B questions are more likely to assess a range of discrete subject areas from the main syllabus section headings. However, they will still require evaluation and synthesis of information contained within the case study scenarios, and will require the application of this information to the question requirements. A small number of professional marks will be available. The examination team has emphasised that in

order to gain the marks available, candidates must write in the specified format (such as a report or memo). Reports must have terms of reference, conclusion, appendices and appropriate headings. Make sure you are familiar with how different types of documents are constructed to improve your chances of gaining maximum professional marks.

Syllabus and Study Guide

The P5 syllabus and Study Guide can be found on the following pages.

Strategic planning and control

P

A

R

T

A

ng-books.blogspot.com

Topic list Syllabus reference

1 Planning, control and decision making - 2 The role of performance management in strategic

planning and control A1(a), A1(b) 3 Planning and control at strategic and operational

levels A1(c)

4 Strategic planning vs short-term localised decisions A1(d) 5 SWOT analysis and performance management A1(e) 6 Strategic models and performance management A1(e)

7 Benchmarking _A1(f)

8 The changing role of the management accountant A1(g)

Strategic

management

accounting

Introduction

The syllabus for this paper develops key aspects introduced in Paper F5 Performance Management and draws on aspects of the material covered from

a more strategic and operational planning perspective in Paper P3 Business Analysis.

The opening chapters of this Study Text look at strategic planning and control,

which is the subject of Part A of the syllabus for P5.

However good an organisation's strategies may be, in principle, the ultimate test of them lies in their impact on an organisation's performance. As such, it is very important that organisations measure how well they are performing in key areas, so that they can take steps to improve performance if necessary. In relation to this, it is also important that the performance measures

organisations focus on are appropriate for their strategies and their competitive position. In this chapter we highlight some of the key models (SWOT analysis; BCG matrix; Porter's five forces) which organisations can use to help them identify which areas of performance it is important for them to measure.

Study guide

Intellectual level

A1 Strategic management accounting

(a) Explain the role of strategic performance management in strategic planning

and control. 2

(b) Discuss the role of performance measurement in checking progress

towards the corporate objectives. 2 (c) Compare planning and control between the strategic and operational levels

within a business entity. 2

(d) Discuss the scope for potential conflict between strategic business plans

and short-term localised decisions. 2 (e) Evaluate how models such as SWOT analysis, Boston Consulting Group and

Porter may assist in the performance management process. 3 (f) Apply and evaluate the methods of benchmarking performance. 3 (g) Assess the changing role of the management accountant in today's

business environment as outlined by Burns and Scapens.

3

Exam guide

This paper is a Professional level paper and so there is an emphasis on application and evaluation, and not simply knowledge. You will be expected to know the models and techniques introduced in this chapter and to comment on their use in specific circumstances.

There are some key ideas to keep in mind when studying this syllabus. Firstly, we look at the organisation as a hierarchy from the top where plans are made (strategic level), to the bottom where these are acted out (operational level). Robert Anthony describes this in his hierarchy of information for planning, control and decision making. We look at this later on in the chapter.

Second, although we refer to the rational planning model as a framework for analysing the strategic planning process, it is important to remember that the focus of Paper P5 is on performance management, rather than strategic planning or business analysis in its own right. Whereas in P3 you might use models such as the BCG matrix or Porter's five forces in the context of helping an organisation evaluate different strategic options, the focus in P5 is on how managers could use those models to help understand an organisation's current performance, to identify key areas of performance to measure, or to evaluate the suitability of different performance measures.

Also, remember that although the models can be useful they do have limitations, and you will need to consider these limitations if you are asked to evaluate the models' usefulness in performance management.

As the Study Guide mentions, by name, three models which could assist the performance management process (SWOT analysis, the BCG matrix, and Porter's five forces), you should be prepared for these models to be specifically examined.

Similarly, the Study Guide also mentions Burns and Scapens' work on the changing role of the management accountant, so you should equally be prepared for a question which specifically refers to their work in the requirement.

Performance objective 3 (PO 3) – Strategy and innovation – requires that you 'contribute to the wider business strategy of your organisation through your personal and team objectives, identifying innovative business solutions to improve organisational performance by making or recommending business process changes and improvements.'

Although, as we noted in the Exam Guide above, P5 is not about business analysis and strategy in the sense that P3 was, nonetheless trying to 'improve organisational performance' is a key part of performance management.

Similarly, the skills you need to demonstrate in order to achieve PO 3 include developing 'financial acumen and sound business judgement to anticipate potential business problems and recognise weaknesses that need to be addressed, recommending appropriate solutions.

Again, the notion of identifying potential problems or weaknesses and recommending solutions to them is a key theme throughout P5 so keep this Performance objective in mind as you are studying for your P5 exam.

1 Planning, control and decision making

Strategic planning is the process of deciding on objectives of the organisation, on changes in these

objectives, on the resources to attain these objectives, and on the policies that are to govern the acquisition, use and disposal of these resources.

Management control is the process by which managers ensure that resources are obtained and used

effectively and efficiently in the accomplishment of the organisation's objectives. It is sometimes called

tactics or tactical planning.

Operational control (or operational planning) is the process of assuring that specific tasks are carried

out effectively and efficiently.

Within, and at, all levels of the organisation, information is continually flowing back and forth, being used

by people to formulate plans and take decisions, and to draw attention to the need for control action,

when the plans and decisions don't work as intended.

Planning means formulating ways of proceeding. Decision making means choosing between various

alternatives. These two terms are virtually inseparable: you decide to plan in the first place and the plan you make is a collection of decisions.

Strategic decisions are long-term decisions and are characterised by their wide scope, wide impact,

relative uncertainty and complexity.

Control is used in the sense of monitoring something so as to keep it on course, like the 'controls' of a

car, not (or not merely) in the sense of imposing restraints or exercising power over something.

Question

Planning, control and decision making

This simple scenario may help you to understand how these terms are interrelated.

Mr and Mrs Average need to go to a supermarket to buy food and other household items. They make a list beforehand that sets out all the things they need. As they go round the supermarket they tick off the items on the list. If a particular item is not available they choose an alternative from the range on the shelves. They also buy a bottle of wine and two bars of chocolate. These were not on their original list.

(a) What part or parts of this activity would you describe as planning?

(b) There are several examples of decision making in this story. Identify three of them. (c) What part or parts of this activity would you describe as control?

Key terms

FAST FORWARD

Answer

We would describe making the list as planning, but it could also be an example of decision making because Mr and Mrs Average have to decide what items will go on the list. Ticking off the items is control and choosing alternatives is 'control action' involving further decision making.

You should be able to answer the various parts of this question without further help.

1.1 Information for planning, control and decision making

Robert Anthony, a leading writer on organisational control, suggested what has become a widely used hierarchy, classifying the information used at different management levels for planning, control and decision making into three tiers: strategic planning, management control and operational control. Strategic planning. The process of deciding on objectives of the organisation, on changes in these

objectives, on the resources used to attain these objectives, and on the strategies that are to govern the acquisition, use and disposition of these resources.

Management control. The process by which managers assure that resources are obtained and used

effectively and efficiently in the accomplishment of the organisation's objectives. It is sometimes called tactics or tactical planning.

Operational control (or operational planning). The process of assuring that specific tasks are carried out

effectively and efficiently.

This idea of a hierarchy between strategic and operational levels is an important theme in this Study Text – because an organisation needs to perform well at operational level in order to achieve its strategic

objectives. Equally, however, in order for an organisation to achieve its strategic objectives, it is important that the objective and goals at operational level are aligned to those strategic objectives. For example, if an organisation's underlying strategy is based on achieving competitive advantage through the quality of service that it provides its customers, then it needs to ensure that its customer-facing staff deliver the necessary high quality of service to the customers on a day to day basis (ie at operational level).

2 The role of performance management in strategic

planning and control

Performance management systems help an organisation measure how well it is performing against its goals and objectives, and to identify where performance can be improved in order to help the

organisation achieve those goals and objectives.

As business environments become increasingly dynamic and competitive, it is increasingly important for managers to develop coherent business strategies and to have tools and processes in place which provide relevant and reliable information to support strategic decision making, planning and control.

This need for information is linked to the importance of performance management in strategic planning and control. Performance management is a way of trying to direct and support the performance of

employees and departments within an organisation, so that they work as efficiently and effectively as possible. Performance management is also a way of trying to ensure that individual goals are aligned with the organisation's overall goals and business strategy.

Performance management is essentially a set of management processes, often supported by technology, that enable organisations to define and execute their strategies and to measure and analyse

performance in order to inform strategic decision making. The central premise of performance

management is to improve an organisation's performance.

Key terms

FAST FORWARD

Performance management systems are plans, with set guidelines and targets, to help organisations

measure how efficiently goals are being met, and identify areas where performance can be improved. Performance management systems can also be linked to reward programmes, such that employees are rewarded for helping an organisation to reach its goals (for example through profit-related pay schemes). Historically, performance management has tended to focus on either people management (eg performance appraisals) or performance monitoring (eg reporting on key performance indicators). However, the concept of performance management is now much wider and includes: strategic planning; performance measurement and monitoring; key performance indicators (KPIs) (covered in Chapter 2); financial planning and budgeting (Chapter 3); business process re-engineering (Chapter 4); risk management

(Chapter 6); business intelligence; data warehousing, data mining and analytics (Chapter 8); people

management (Chapter 14); and dashboards and scorecards (Chapters 8 and 15).

The reference to KPIs indicates how performance management plays a crucial role in checking an organisation's progress towards its objectives. KPIs should monitor how well a business is performing against its critical success factors (CSFs). In turn, the CSFs are the aspects of an organisation's activity which are central to its future success.

A performance management system should be derived from the company's strategic objectives so that it supports those objectives. It should also change over time as the strategies of the organisation change and should be flexible enough to remain coherent with the objectives of the organisation.

A performance management system should have clear links between performance measures at the different hierarchical levels of the organisation so that all departments and areas strive towards the

same goals. Examples of models of measurement that seek to capture this alignment include the

performance pyramid and the balanced scorecard. These two models are considered later in the Study

Text in Chapter 15 but we will look briefly here at how they link the organisation's strategies to its operations and reporting using a performance management system.

The performance pyramid is a model of performance management that sets out to relate strategies to

operations by translating objectives from the top down and measures from the bottom up, the aim being that these are co-ordinated and support each other. At the top is corporate vision which moves down through market and financial objectives at business unit level, eventually becoming specific operational criteria including quality and delivery at the department and work centre level. The operational measures are reported upward.

The balanced scorecard allows top management to review the organisation using four perspectives which

provide information on four strategic issues. The financial perspective seeks to resolve how the organisation creates value for its shareholders. The innovation and learning perspective answers the question of how the organisation can continue to improve and create value. The customer perspective looks at what customers value from the organisation and finally the internal perspective considers what internal processes the organisation must do well at to achieve the financial and customer objectives. Under each perspective goals are set, such as manufacturing excellence and specific measures used to monitor outcomes.

2.1 The link between performance management and strategic planning

and control

Performance management can be defined as any activity designed to improve an organisation's performance and ensure that its goals are being met.

However, this highlights the fact that an organisation must first have established its goals and objectives, in order to then assess whether they are being met.

In this respect, strategic planning (establishing an organisation's mission, objectives and goals) is necessary before any performance management can take place. Once an organisation's goals have been set, and then its operational performance targets have been set, an organisation can begin to measure whether these goals and targets are being achieved.

In this way, performance measurement is an important control in the organisation. However, performance

also needs to be managed via judicious target setting that reinforces strategic goals and objectives.

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Case Study

Tesco

The Chairman's Statement in Tesco's 2015 Annual Report acknowledges that the 2014/2015 financial year had been 'a difficult year for the company' but he highlights 'As Chairman, my primary duty is to

shareholders, and I believe that the best way to deliver shareholder value is to regain our absolute focus on customers and on improving the shopping trip.'

The Annual Report goes on to highlight Tesco's aim is 'to make sure everything in the business is set up in the most efficient way to create value for customers.' Tesco also identifies that it has refocused its business under three operational headlines to try to help it achieve this aim:

 Listening to, understanding and reaching out to customers to create the best possible offer  Working with growers and suppliers to make great products, and helping to deliver the best value

to customers

 Working across different channels to get those products to customers in the most convenient way possible

Tesco acknowledges that the way that it measures performance and rewards success can also play an important part in its aim of creating value for customers. In the light of this it has identified six KPIs:  Customers recommend us and come back time and again

 Colleagues recommend us as a great place to work and shop – this recognises that Tesco's staff play a key role in customers' shopping experience

 We build trusted partnerships – Tesco needs to build trusted partnerships with its suppliers in order to provide the best offer for its customers

 Grow sales  Deliver profit

 Improve operating cash flow

The logic for the final three (financial) KPIs is that if Tesco does a better job for its customers, this will help it grow sales and achieve a stronger financial position.

www.tescoplc.com

2.2 The role of management accounting information in performance

management

An important point to note from the first section is the fact that managers need information to help them plan and control their businesses effectively. As such, management accounting information can be used for a variety of purposes.

(a) To measure performance. Management accounting information can be used to analyse the

performance of an organisation as a whole, and/or of the individual divisions, departments or products within the business. Performance reports provide feedback, most frequently in the form

of comparison between actual performance and budget (as we will discuss in more detail in

Chapter 3 of this Study Text).

(b) To control the business. Performance reports are a crucial element in controlling a business. In

order to be able to control their business, managers need to know the following: (i) What they want the business to achieve (targets or standards; budgets)

(ii) What the business is actually achieving (actual performance)

By comparing the actual achievements with targeted performance, and identifying variances,

management can decide whether corrective action is needed, and then take the necessary action when required.

Much control information is of an accounting nature because costs, revenues, profits and asset values are major factors in how well or how badly a business performs.

(c) To plan for the future. Managers have to plan, and they need information to do this. Much of the

information they use is management accounting information.

(d) To make decisions. Managers are faced with several types of decision.

(i) Strategic decisions (which relate to the longer-term objectives of a business) require

information which tends to relate to the organisation as a whole, is in summary form and is derived from both internal and external sources.

In addition, strategic decision making:  Is medium to long term

 Involves high levels of uncertainty and risk (the future is unpredictable)

 Involves situations that may not recur

 Deals with complex issues

(ii) Tactical and operational decisions (which relate to the short or medium term and to a

department, product or division rather than the organisation as a whole) require information which is more detailed and more restricted in its sources.

3 Planning and control at strategic and operational

levels

An organisation needs to ensure that the controls and performance measures in place at an operational level are properly aligned to its strategic goals and objectives in order that it can achieve those strategic

goals and objectives.

Although we have already introduced these ideas in Section 1, this section starts by reiterating the main differences between 'strategic' and 'operational' levels of management in an organisation. It then looks at the problems that arise when strategic planning and operational planning are not properly linked or aligned.

Strategic planning is the overall process of deciding the goals of an organisation, and the strategies for

attaining those goals.

Strategic control then focuses on questions of whether the strategy is being implemented as planned, and

whether the results produced by the strategy are those intended. In both cases, though, strategic control focuses on high level performance, rather than the detail of an organisation's performance. In effect, strategic control is concerned with evaluating the accuracy of a strategic decision – has the decision been justified or not by subsequent performance?

By contrast, operational control models tend to be much more precise. Operational control and

operational performance measurement tends to focus on much more detailed information, and on a much shorter time period.

Operational control systems should be designed to ensure that day to day actions are consistent with an organisation's overall goals and objectives.

Similarly, operational planning needs to be much more systematic and detailed than strategic planning.

Operational plans should contain clear objectives, details of activities to be delivered, quality standards, desired outcomes, resource requirements and timetables.

FAST FORWARD

Anthony's hierarchy highlights the different levels of decision making and control in an organisation. However, as well as thinking about the characteristics of each level in its own right, it is important to think how the different levels are interlinked – most importantly, through the way in which an organisation's

operational performance helps it achieve its strategic goals.

This idea is also very important in relation to performance measurement, and is emphasised by the

performance pyramid which we will look at in Chapter 15 later in this Study Text.

If the performance criteria which are being measured and controlled at operational level are not properly aligned to an organisation's overall strategic objectives, this is likely to have an adverse effect on the organisation's ability to achieve those objectives.

3.1 Differences between 'strategic' and 'operational'

We can contrast briefly the differences between planning and control at strategic (corporate) and operational levels as in the table below.

Strategic Operational 'Broad brush' targets Detailed

Whole organisation Departmental activities External inputs, with a wide variety of data types

from a wide range of sources

Mainly internal information, with less variety of data and from fewer sources

External focus Internal focus, on actual procedures Future-orientated, feed-forward control More concerned with monitoring current

performance against plan Potential for double loop feedback, ie the

opportunity to change the plan

Mainly single loop feedback; performance must change, not the plan

Long term Short term

One of the key challenges that organisations face is linking their (long-term) strategy to their day to day operations. For example, a strategic plan might set revenue growth targets for an organisation over the next five years, but the operational plan will need to consider what practical steps will be taken to generate these revenue increases; in effect, creating a road map that defines the detail of how the overall strategies are going to be put into action.

The need to link strategy and operations is also an important idea behind the balanced scorecard (which we will look at in Chapter 15 later in this Study Text).

Kaplan and Norton who developed the scorecard argue that one of the key challenges organisations face is how to align operational improvement activities to strategic priorities.

In other words, there is little point improving an operational process – through total quality management (TQM), Six Sigma, Business Process Re-engineering or any other method – if that process improvement does not translate into tangible results. Instead, organisations should prioritise their operational

improvements in the areas which have the largest impact on the organisation's ability to implement its strategy effectively.

3.2 Linking strategy and operations

A member of the examining team for a past syllabus paper similar to Paper P5 wrote an article on this

topic. The article included a case study of a fictional company that adopted new management ideas like TQM, just-in-time (JIT) and activity-based costing (ABC) as its strategy for dealing with a high level of customer complaints. The company was trying to improve quality and speed of delivery while controlling costs, but it faced a number of problems.

Exam focus

point

Exam focus

point

'The achievement of long-term goals will require strategic planning which is linked to short-term operational planning ... . If there is no link between strategic planning and operational planning the result is likely to be unrealistic plans, inconsistent goals, poor communication and inadequate performance measurement.'

(George Brown, 'Management Accounting and Strategic Management', ACCA Student Newsletter, March 1994)

3.2.1 Unrealistic plans

Unrealistic operational plans will force staff to try too hard with too few resources. Mistakes and failure

are almost inevitable. This means poor-quality products: costs include lost sales, arranging for returns and time wasted dealing with complaints.

Overambitious plans may also mean that more inventories are produced than an organisation could

realistically expect to sell (so costs of write-offs, opportunity costs of wasted resources, and unnecessary inventory holding costs are incurred).

3.2.2 Inconsistent goals

Inconsistent strategic planning and operational planning goals may mean additional costs are incurred.

An operational plan may require additional inspection points in a production process to ensure that quality products are delivered to customers. The resulting extra costs will be at odds with the strategic planning goal of minimum cost.

3.2.3 Poor communication

Poor communication between senior management who set strategic goals and lower-level operational

management could mean that operational managers are unaware of the strategic planning goal, say to

sustain competitive advantage at minimum cost through speedy delivery of quality products to customers. Some operational managers may therefore choose to focus on quality of product while others attempt to produce as many products as possible as quickly as they can; still others will simply keep their heads down and do as little as possible. This will lead to lack of co-ordination: there will be bottlenecks in some

operational areas, needing expensive extra resources in the short term, and wasteful idle time in other areas.

3.2.4 Inadequate performance measurement

Inadequate performance measurement will mean that an organisation has little idea of which areas are performing well and which need to improve. If quality of product and speed of delivery are the main

sources of competitive advantage, a business needs to know how good it is at these things.

For example, if an organisation measures only conventional accounting results it will know how much

inventory it has and how much it has spent, say, on 'carriage out', but it will not know the opportunity cost

of cancelled sales through not having inventory available when needed, or not being able to deliver it on time. Equally the quality of products needs to be measured not only in terms of sales achieved but also in

terms of customer complaints and feedback: again the cost is the opportunity cost of lost sales.

3.3 Strategic control

Control at a strategic level means asking the question: 'is the organisation on target to meet its overall objectives and is control action needed to improve performance?'

Strategic control measures might require complicated trade-offs between current financial performance

and longer-term competitive position, and between different desirable ways of building competitive strength.

3.4 Gaps and false alarms

Strategic control depends on avoiding 'gaps' and 'false alarms' and on identifying milestones of

performance.

Many firms measure the wrong things and often fail to measure the right things.

(a) False alarms motivate managers to improve areas where there are few benefits to the

organisation.

(i) Overemphasis on direct costs is foolish when most costs are overheads.

(ii) Labour efficiency measures are easily manipulated and ignore labour effectiveness. (iii) Machine standard hours are irrelevant, as long as the firm has enough capacity. (b) Gaps are important areas that are neglected.

(i) New product introduction (ii) Customer satisfaction (iii) Employee involvement

(c) Different measures apply to different industries. In continuous processes, such as chemicals,

throughput time is not important, as there will always be buffer inventory. However, it is important in consumer electronics.

3.5 Strategic control systems

To encourage the measurement of the right things, firms can institute formal or informal systems of strategic control. There are four influences on a strategic control system:

(a) The time lag between strategic control measures and financial results

(b) The linkages with the other businesses in a group

(c) The risks the business faces

(d) The sources of competitive advantage

3.5.1 Formal systems of strategic control

12/10

One of the questions in the December 2010 exam looked at a company which produced films for cinema release and DVDs. The company's stated mission is to 'produce fantastic films that have mass appeal' but its aims are primarily concerned with commercial success rather than artistic considerations.

The question highlighted that the company has identified a number of CSFs, but it then goes on to raise concern that the CSFs chosen do not capture all the factors affecting the business performance. The question also highlighted that there can be two different types of CSFs: monitoring CSFs (which can

be used for monitoring the performance of ongoing operations) and building CSFs (which look at the

future of the organisation and its development, for example the launch of new products or the development of new markets).

The examining team commented that students did not appear to be familiar with the distinction between these two different types of CSF (monitoring vs building).

CSFs are those aspects of a product or service particularly valued by customers and therefore the

business must do well in these areas to outperform competitors. When the business draws up

performance measures from its objectives it must make sure that these include measures of the CSFs it has identified as crucial to success. We will look at CSFs again in Chapter 2.

FAST FORWARD

Exam focus

point

Step 1

Strategy review. Review the progress of strategy.

Step 2

Identify milestones of performance (strategic objectives), both quantitative and qualitative

(eg market share, quality, innovation, customer satisfaction).  Milestones are identified after CSFs have been outlined.

 Milestones are short-term steps towards long-term goals.

 Milestones enable managers to monitor actions (eg whether a new product has been launched) and results (eg the success of the launch).

Step 3

Set target achievement levels. These need not be exclusively quantitative.

 Targets must be reasonably precise.

 Targets should suggest strategies and tactics.

 Competitive benchmarks are targets set relative to the competition.

Step 4

Formal monitoring of the strategic process. Reporting is less frequent than for financial

reporting.

Step 5

Reward. For most systems, there is little relationship between the achievement of strategic

objectives and the reward system, although some companies are beginning to use measures of strategic performance as part of the annual bonus calculations.

3.5.2 Informal control

Many companies do not 'define explicit strategic objectives or milestones that are regularly and formally

monitored as part of the ongoing management control process'.

(a) Choosing one objective (eg market share) might encourage managers to ignore or downgrade others (eg profitability), or lead managers to ignore wider issues.

(b) Informality promotes flexibility.

(c) Openness of communication is necessary.

(d) Some objectives can be hard to measure quantitatively. An objective like 'employee commitment' is necessary for success, but hard to obtain numerical data on.

Informal control does not always work because it enables managers to skate over important strategic issues and choices.

3.5.3 Guidelines for a strategic control system

The characteristics of strategic control systems can be measured on two axes: (a) How formal is the process?

(b) How many milestones are identified for review?

As there is no optimum number of milestones or degree of formality, Goold and Quinn suggest these guidelines.

Guideline Comment

Linkages If there are linkages between businesses in a group, the formality of the process should be low, to avoid co-operation being undermined.

Diversity If there is a great deal of diversity, it is doubtful whether any overall strategic control system is appropriate, especially if the CSFs for each business are different.

Criticality Firms whose strategic stance depends on decisions which can, if they go wrong, destroy the company as a whole (eg launching a new technology) need strategic control systems which, whether formal or informal, have a large number of milestones so that emerging problems in any area will be easily and quickly detected.

Guideline Comment

Change Fashion-goods manufacturers must respond to relatively high levels of environmental turbulence, and have to react quickly. If changes are rapid, a system of low formality and few measures may be appropriate, merely because the control processes must allow decisions to be taken in changed contexts.

Competitive advantage

(a) Businesses with few sources of competitive advantage. Control can focus on perhaps market share or quality.

(b) Businesses with many sources of competitive advantage. Success over a wider number of areas is necessary and the firm should not just concentrate on one of them.

(Based on: Goold, M. & Quinn, J., Strategic Control: Strategic Milestones for Long-term Performance)

3.6 Strategic performance measures

3.6.1 Desirable features of strategic performance measures

Role of measures Comment

Focus attention on what matters in the long term Shareholder wealth?

Identify and communicate drivers of success How the organisation generates shareholder value over the long term

Support organisational learning Enable the organisation to improve its performance Provide a basis for reward Rewards should be based on strategic issues, not

just performance in any one year

3.6.2 Characteristics of strategic performance measures

(a) Measurable (b) Meaningful

(c) Defined by the strategy and relevant to it (d) Consistently measured

(e) Re-evaluated regularly (f) Acceptable to stakeholders

3.7 Budgeting

Another vital control mechanism within organisations, and a key way of linking strategy to operations, is

budgeting. Budgets provide a quantitative expression of how strategic plans will be implemented over a period of time.

We can summarise the purposes of budgets through the mnemonic 'PRIME'. Purpose Comment

Planning Budget holders are forced to plan how to achieve targets

that should ensure the organisation's overall strategic plan is achieved (eg for sales, margins, quality levels).

Responsibility Budgets help allocate responsibility, and specify which

managers control which costs.

(We will return to the ideas of accountability and control

in Chapter 3, where we highlight that managers'

performance should only be assessed in relation to the costs and resources which they control.)