MANAGEMENT CONTROL SYSTEMS

MANAGEMENT CONTROL SYSTEMSBatch PGDM IVFaculty Neelam MehraSYLLABUSObjective: This subject presents practice of management control systems in organizations. It also covers the impact of information technology on management control.

UNIT - 1Basic Concepts of Control Systems: Meaning, nature and purpose of control systems new paradigms of control systems, four elements of control, organizational structure, organizational goals, organizational climate, strategic planning balancing the four levels of control, balancing the tensions in control systems, six sources of tensions in control systems, opportunities and limitations of the span of control, key control variables, delegation and decentralization.

UNIT- 2

Auditing, Budgeting and Variance Analysis: External audit, internal controls, internal audit, role of financial controllers, multiple roles of an auditor, management control process, budgetary control, flexible budget, zero base budget, performance budgeting, master budget, analysis of variance, accounting aspect of control, management audit, marketing and distribution control, different types of audit.

UNIT - 3Responsibility Centers: Control in manufacturing activities, control in distribution activities, Problem of dual responsibility, non-financial measures, profit centre boundaries, economic transfer pricing, ABC costing, transfer prices.

UNIT - 4Performance Measurement and Balance Score Card: Behavioral aspect of management control, motivations, morale, participative management, learning curves, balanced score cards.

UNIT - 5Management Control of Service Organizations, Non-profit and Government Organizations: Management control systems in financial service organizations, in health organizations, non-profit organizations.

REFERENCE BOOKS

Author/ Publication

1.Management Control Systems - A Managerial Emphasis By Pradip Kumar Sinha, Excel Books

2.Management Control SystemsRobert N Anthony & Vijay Govindarajan (The McGraw Hill)

3.Management Control SystemsN. Ghosh, Eastern Economy Edition

8UNIT - 1CONTROL is a function of keeping a check on any activity/ person/ entity to ensure the achievement of DESIRED RESULTS.

CONTROL DESIRED RESULTSCONTROLCONTROL is the Regulating, Directing, Restraining and also a Unifying action in an organisation.

Control brings Uniformity out of the diverse activities performed by various units and subunits.

Thus Control ensures the actual state of affairs in line with the planned and desired state of affairs.

MANAGEMENTAn organisation consists of a group of people, who work together, to achieve planned Goals.

The LEADERS of any organisation are collectively called as MANAGEMENT.CEO (Chairman/ MD / CEO)

VPs of Different Functional Depts

MANAGERS of Functional Depts

SUPERVISORS at different floors and divisions

Layers of hierarchy depends on the Nature, Size and Complexity of the Organisation.

ORGANISATION STRUCTUREMANAGEMENT CONTROL SYSTEM(MCS) MCS is a set of interrelated communication structure that facilitates the processing of information to assist managers in coordinating the parts and attaining the purpose of the organization on a continuous basis.PURPOSE OF MCSAssist management in coordinating the activities of the firm

Compare actual results with the set standard to ensure that each work is done as planned.

Driving those activities towards achievement of firms objectives.ELEMENTS OF MANAGEMENT CONTROL SYSTEMDETECTOR (To observe information and analyze the situation.EFFECTOR(To minimize the gap between standards and actual results)ASSESSOR(To compare actual results with standards)MCSCommunication Network(To transmit information to detector, assessor and the effector)TYPES OF MCSMCS

Formal Informal

Formal controls are laid down in writing by the management, but the informal controls arise out of employees behavior.

For eg., work plans, rules and regulations etc which are laid down in writings are called formal controls.

Whereas group behavior, work culture, organisational norms etc which are not in written form are termed as informal controls. Formal control systemsFormal control systems make explicit the structure, policies and procedures to be followed by members of the firm. It helps management in planning and maintaining strategies in order to meet organisational goals.

Control on inputs

Formal control system Control on processes

Controls on outputs INFormal control systems Cultural controls

Informal control systems Social controls

Employees self controls

Six sources of tensions in control systemsThe 6 sources of tensions in control systems can be grouped under different categories -

A. Tension arising due to need to make strategic choices The tension between profit, growth and control.The tension between long term and short needs

A.Tension due to goal divergence among stakeholders and efforts needed to imaginatively establish goal congruence.3.Tensions between the several stakeholders all of whom want a bigger share of the pie. Organisation must seem to benefit all those who have a stake in it. Conflicts of interest are built into this situation.

4. The tension between the varying and often conflicting motivation of the employees.

5.The tension between the different professional aspirations, propensities and functional skills of the different segments of an organisation

C.Tensions due to limitations of managerial cognitive powers6. Tensions between the need and desire to seek opportunities and the constraint due to limitation of the span of attention.

Any young manager who joins an organisation will very soon sense these several pulls and pressures in the organisation.

Each of these can be compounded by the fact that the responses to these and the decisions need to be taken are spread over different centers of power. The organisations will have to ensure that they are in mutual harmony.Delegation & decentralisationWhen a part of the work is entrusted to others, it is known as delegation.

Decentralisation refers to tire systematic effort to delegate to the lowest levels all authority except that which can only be exercised at central points

Decentralisation is concerned with the decentralisation of decision-making authority to the lower levels in managerial hierarchy.

Decentralisation extends to the lowest level of the organisation.

Decentralisation can be viewed as an extension of delegation.

CENTRALISaTION & DECENTRALIsATONIn Centralization, the overall decision-making power is vested with the top management. While Decentralization means delegation of authority to the lowest feasible level of decision making within the framework of predetermined responsibilities and clearly set goals.When the organisation is small, it is easy to exercise management control and obtain the advantage of centralized organisation structure but as size grows, organisation controls becomes easier through decentralization.

Advantages of decentraliSationIt allows close control and supervision on subordinates in the department.It motivates the managers to perform better by providing right environment and autonomy.It evaluates overall performance of various organisational unitsReduces the burden on top executives:Facilitates diversificationTo provide product and market emphasis:Quick Decision-Making:

DISAdvantages of decentraliSationUniform policies not Followedcreates problems of co-ordination as authority lies dispersed widely throughout the organisation.More Financial BurdenDecentralisation becomes useless when there are no qualified and competent personnel.Decentralisation puts more pressure on divisional heads to realize profits at any cost. Often in meeting their new profit plans, bring conflicts among managers.

SPAN OF CONTROLSpan of control refers to the number ofsubordinatesthat amanagerorsupervisor can directlycontrol.

This number varies with the type ofwork. Complex and variablework reduces it to six, whereasroutine and fixed work increases it to twenty or more.

Higher average span of controlmeans fewer layers of management within the organization, and a relatively flatter organizational structure. This can lead to:

Faster decision-making due to fewer levels of approvals required for a specific decision, which allows the company to respond more quickly to business issues.

Better and more frequent communication between higher-level managers and staffers, so the staff is more knowledgeable about company goals and the higher-level managers are more knowledgeable about daily operational issues faced by staff.

Reduced costs relative to a taller organization, since there are fewer management layers needing compensation.

Lower average span of controlmeans relatively more layers of management within the organization and a relatively taller organizational structure. This can lead to:

Fewer opportunities for promotions, since there are fewer management positions in the company.

The concern that manager input will be relatively harder for staffers to obtain, and managers will have less time to focus on specific decisions. Employees will need to be relatively more self-motivated and independent in their work style due to having less manager input.

Important strategic decisions by the company will have relatively less time spent on them, due to the reduced time available to focus on individual decisions. This can lead to less-than-optimal responses to business opportunities and threats.

unit iiBUDGETING For effective running of a business, management must know: where it intends to go i.e. organizational objectives how it intends to accomplish its objective i.e. planswhether individual plans fit in the overall organizational objective. i.e. coordination whether operations conform to the plan of operations relating to that period i.e. controlBudgetary control is the device that a company uses for all these purposes.3030WHAT IS A BUDGET?Budget is a detailed plan of operations for some specific future period.

A plan expressed in money. It is prepared and approved prior to the budget period and may show income, expenditure and the capital to be employed. May be drawn up showing incremental effects on former budgeted or actual figures, or be compiled by Zero-based budgeting. 3131CLASSIFICATION OF BUDGETS

ACCORDING TO ACCORDING TO ACCORDING TO TIME FUNCTION FLEXIBILITY

Long term budget 1. Sales budget 1. Fixed budgetShort term budget 2. Production budget 2. Flexible budgetCurrent budget 3. Cost of Production budgetRolling budget 4. Purchase budget 5. Personnel budget 6. R & D budget 7. Capital Expenditure budget 8. Cash budget 9. Master budget 32321. SALES BUDGET:Sales budget is the most important budget based on which all the other budgets are built up. This budget is a forecast of quantities and values of sales to be achieved in a budget period. 2. PRODUCTION BUDGET: Production budget involves planning the level of production which in turn involves the answer to the following questions:What is to be produced? When is it to be produced? How is it to be produced? Where is it to be produced? 3333 3. COST OF PRODUCTION BUDGET:This budget is an estimate of cost of output planned for a budget period and may be classified into Material Cost Budget Labour Cost Budget Overhead Cost Budget

4. PURCHASE BUDGET:This budget provides information about the materials to be acquired from the market during the budget period.

34345. PERSONNEL BUDGET: This budget gives an estimate of the requirements of direct labour essential to meet the production target. This budget may be classified into a. Labour requirement budget b. Labour recruitment budget6. RESEARCH AND DEVELOPMENT BUDGET: This budget provides an estimate of expenditure to be incurred on R & D during the budget period. A R&D budget is prepared taking into consideration the research projects in hand and new R&D projects to be taken up. 35357. CAPITAL EXPENDITURE BUDGET: This is an important budget providing for acquisition of assets necessitated by the following factors: a. Replacement of existing assets. b. Purchase of additional assets to meet increased production c. Installation of improved type of machinery to reduce costs.8. CASH BUDGET: This budget gives an estimate of the anticipated receipts and payments of cash during the budget period. Cash budget makes the provision for minimum cash balance to be maintained at all times.36369. MASTER BUDGET:CIMA defines this budget as The summary budget incorporating its component functional budget and which is finally approved, adopted and employed.Thus master budget is a summary of all functional budgets in capsule form available in one report. 373710. FIXED BUDGET:This is defined as a budget which is designed to remain unchanged irrespective of the volume of output or turnover attained.This budget will, therefore, be useful only when the actual level of activity corresponds to the budgeted level of activity.

11. FLEXIBLE BUDGET:CIMA defines this budget as one which, by recognizing the difference in behavior between fixed and variable costs in relation to fluctuations in output, turnover or other variable factors such as number of employees, is designed to change appropriately with such fluctuations.12. ZERO BASE BUDGETING:The zero base budgeting is not based on the incremental approach and previous figures are not adopted as the base.

Zero is taken as the base and a budget is developed on the basis of likely activities for the future period.

A unique feature of ZBB is that it tries to help management answer the question, Suppose we are to start our business from scratch, on what activities would we spent out money and to what activities would we give the highest priority?4040Fixed budgetFlexible budgetAssumes static business conditionsBased on the assumption of changing business environmentPrepared only for one level of activityPrepared for different capacity levels or for any level of activityThe values( figures) will not change when actual level of activity changesThe figures are adjusted according to the actual level of activity attainedWhen actual level of activity differs from budgeted level of activity, then fixed budgets meaningful comparison between actual and budgeted figures is not possible.Such comparison are quite realistic.Budgetary ControlBudgetary control is the establishment of budgets relating to the responsibilities of executives to the requirements of a policy, and the continuous comparison of actual with budgeted results, either to secure by individual action the objective of that policy or to provide a basis for its revision.WHAT IS BUDGETARY CONTROL?Budgetary control is the use of the comprehensive system of budgeting to aid management in carrying out its functions like planning, coordination and control.This system involves: Division of organization on functional basis into different sections known as a budget centre. Preparation of separate budgets for each budget centre. Consolidation of all functional budgets to present overall organizational objectives during the forthcoming budget period. Comparison of actual level of performance against budgets. Reporting the variances with proper analysis to provide basis for future course of action. 4343 Preparation of budgets is the first step in the budgetary control system.

#Implementation of budgets is the second phase.# But preparation and implementation of budgets alone will not achieve much unless a comparison is made regularly between the actual performance and the budgeted performance.# Continuous and proper reporting makes this possible. # To ensure the success of budgetary control system, proper follow up action has to be taken immediately for the reports submitted. 4444VARIANCE ANALYSIS

No notes as the topic was discussed and practiced in the class without slides.

For your reference following are the sub-topics to be covered in the topic # Variance analysis meaning, significance# Types of variances i. All types of direct material cost variancesii. All types of direct labour cost variancesReasons for all these variances and formulae to compute . Also practice numericals for computing any of these variances.AUDITING

AUDITAuditing is defined as a systematic and independent examination of data, statements, records, operations and performances (financial or otherwise) of an enterprise for a stated purpose.

In any auditing the auditor perceives and recognizes the propositions before him for examination, collects evidence, evaluates the same and on this basis formulates his judgment which is communicated through his audit report.Auditis anevaluationof a person, organization, system, process, enterprise, project or product.

The term most commonly refers to audits in accounting but similar concepts also exist in project management, quality management, water management, and energy conservation.48Historical Background The role of auditor goes back many hundreds of years. These are records from ancient Egypt and Rome, showing that people were employed to review work done by taxes collector and estate managers.The emphasis was very much on the detection of fraud and other irregularities.Emphasis has changed and the role of the auditor becomes much more sophisticated.

Basic Type of AuditAudits can be categorized in to two types:

Financial audit

Non financial audit

1.Financial audit:It is a statutory audit. Address questions of accounting, recording, and reporting of financial transactions. Reviewing the adequacy of internal controls also falls within the scope of financial audits.

2.Non financial audit: It is non statutory one and serves two purposesIt checks companys compliance to standardsIt determines whether a product or service satisfy the customers demands and ideal standards established by the company in terms of quality and features.

FINANCIAL VS NON FINANCIAL AUDIT Differences -FINANCIAL AUDITNON-FINANCIAL AUDIT1.Relies primarily on standards set externally (by govt etc.)

2.Procedures are formalized and consistent from company to company

3. Interested parties are generally external and objective is to build credibility

4.Conducted annually

5.Affect only financial performanceRelies on standards set internally by the mgmt based on customer and competitor information

2. Procedures are flexible and adopted differently by company to company

3. Interested party is internal only with an objective to improve performance.

4. No specific period as as such . Depends on company requirements. Generally 18-24 months

5. Focuses on a broad range of functions that contribute to the success of a particular function and eventually co. as a whole.FINANCIAL VS NON FINANCIAL AUDIT

Similarities Both measure compliance with a set of standardsThey both identify opportunities for performance improvementsBoth are systematic ways of generating performance data.MERITS & DEMERITS OF AUDIT

MERITS Identifies opportunities for improvementGives a reality checkIdentifies backdated strategiesIncreases managements ability to address issuesImproves teamwork within organisationChanges mindsets of employees for bettermentMeasure performance improvementsMERITS & DEMERITS OF AUDIT

DEMERITS OF AUDIT Audit is not a final solution but only a meansIt cannot mobilize people to action

Different categorization OF AUDIT Statutory Audit Non Statutory Audit Private Audit Internal Audit - External Audit Management AuditFunctional Audit IT Audit

Statutory Audit A legally required review of the accuracy of a company's or government's financialrecords.

The purpose of a statutory audit to determine whether an organization is providing a fair and accurate representation of its financial position by examining information such as bank balances, bookkeeping records and financial transactions

For Example, a state law may require all municipalities to submit to an annual statutory audit examining all accounts and financial transactions and to make the results of the audit available to the public. The purpose of such an audit is to hold the government accountable for how it is spending taxpayers' money.Private Audit When the audit is not a statutory requirement , but is conducted at the desire of owners , such an audit is private audit . The audit is conducted primarily for their own interest. At times the private audit may become a requirement under tax laws , if the turnover exceeds a specified limit.

Private Audit is following types 1 Audit of sole proprietorship2 Audit of partnership firms3 Audit of individuals accounts4 Audit institutions not covered by statutory audit

Internal AuditThe examination, monitoring and analysis of activities related to a company's operation, including its business structure, employee behavior and information systems.

Internal audit found to play the following roles-Check weather existing controls are effective and adequate.Weather financial and other reports show the actual results of the companyWeather subunits are following the policies and procedures laid down by the company.

Management Audit Analysis and assessment of competencies and capabilities of a company's management in order to evaluate their effectiveness.

The objective ofa management audit is not to appraise individual executive performance, but to evaluate the management team in relation to their competition.Objectives of management audit to detect and correct the human limitations of top management

to improve upon managements productivity

to avoid possible losses arising from inefficient management

to study the current state of all affairs of the management and suggest suitable measures for improvement.

TYPES OF MGMT AUDITComplete mgmt auditCompliance mgmt auditProgram mgmt auditFunctional mgmt auditEfficiency mgmt audit

BENEFITS OF MGMT AUDIT

Provides an early warning signal of managerial problems and related operational difficultiesIt can be used as a source of information in assisting the organisation to accomplish the desired objectivesHelps to evaluate organisational plans, structure and directions that mgmt gives in the form of strategies and processes.INTERNAL AUDITIA is an independent appraisal function established within an organisation to examine and evaluate its activities as a service to the organisation.

Objectives of IA To assist employees in effective discharge of their responsibilitiesTo avoid discrepancies from getting deep in the systemTo monitor, track and report discrepanciesTo motivate and monitor staffAdvantages of Audit Companies DirectorsAssurance that statutory responsibilities concerning accounts have been carried out.Availability of expert advise.The letter of weakness.

To ShareholdersAssurance that accounts show a true and fair view and comply with statutory requirementsOther Organization with publish accountsAssurance that accounts are reliable

In addition they provide reliable accounts to regulatory bodies such as the companies Registry, the stock exchange etc.

Objective of AuditingPrimary Objective:To produce a report by the auditor of his opinion of the truth and fairness of financial statements so that any person reading and using them can belief in them.

Secondary Objective:To detect Error and Fraud To prevent Errors and fraud by the deterrent and moral effects of Audit

Limitation of AuditAn audit can neither help in prioritizing changes nor in allocating resources.Audit cannot mobilize people to take actions. though audit identifies various problems that exist in the organizational system and processesAudit can not generate better data than the measures used to gather those.

Audit processStaffing the audit teamSet up an audit project planLaying the basework for auditAnalyzing audit resultsSharing audit resultsWriting audit resultsDealing with reservation to audit recommendationsBuilding an ongoing audit program

AUDIT TOOLS FOR DATA COLLECTIONSurveysQuestionnairesInterviewsFocus groupsDirect observation

WHAT IS IT AUDITAninformation technology audit orinformation systems audit is an examination of the management controls within anInformation technology(IT)infrastructure

The evaluation of obtained evidence determines if the information systems are safeguarding assets, maintainingdata integrity, and operating effectively to achieve the organization's goals or objectives. These reviews may be performed in conjunction with afinancial statement audit,internal audit, or other form of attestation engagement.

Other popular audits Cost auditSocial auditEnvironment auditFINANCIAL CONTROLLERA financial controller is a senior-level executive who acts as the head of accounting and oversees the preparation offinancial reports, responsible for effectively managing all the financial tasks like compliance audits, monitoring internal controls, participating in thebudgetingprocess and analyzing financial data to varying degrees overseeing budgeting and accounting.

He/she generally reports to the CFO (Chief Finance Officer) and contributes to the overall success of the organization by managing the effective implementation of finance functions of the company.Functions of financial controllerThe Financial Controller performs a wide range of duties and handles responsibilities including some or all of the following:

Financial accounting and reporting - Develop and maintain timely and accurate financial statements and reports that are appropriate for the users and in accordance with generally accepted accounting principles (GAAP)

Develop, implement, and ensure compliance with internal financial and accounting policies and procedures.

Ensure that all statutory requirements of the organization are met

Take care of all the direct and indirect taxation matters.

Prepare all supporting information for the annual audit with the approved external auditor.Develop and maintain financial accounting systems for cash management, accounts payable, accounts recievable, credit control, and petty cash.

Reconcile bank and investment accounts.

Review monthly results and implement monthly variance reporting as compared to budget.

Manage the cash flow and prepare cash flow forecasts in accordance with policy.

Develop and implement policies and procedures as required to ensure that personnel and financial information is secure.

Assist the Executive Director and the Board Treasurer with financial reporting as required at Board meetings and the Annual General Meetings and provide advice to support the decision making process.

PERFORMANCE AUDITPerformance auditrefers to an independent examination of a program, function, operation or the management systems and procedures of a profitable ornon-profitentity to assess whether the entity is achieving economy, efficiency and effectiveness in the employment of available resources.The examination is objective and systematic, generally using structured and professionally adopted methodologies.Multiple roles of an auditorADVISORINVESTIGATORTRUSTEES OF SHAREHOLDERS & GOVTEXPERT CONSULTANTPLANNERTRANSFER PRICING (UNIT III)# WHAT IS TRANSFER PRICING, ITS SIGNIFICANCE.# DIFFERENT METHODS OF TRANSFER PRICING# PRACTICAL QUESTIONS OF TRANSFER PRICING

(PLS REFER TO BOOKS FOR THIS TOPIC)

SYLLABUS OVER FOR MID TERM EXAM