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38 Cards in this Set

  • Front
  • Back

Management Control Systems

management control systems are a means of gathering and using information to aid and coordinate the planning and control decisions throughout an organization and to guide the behaviour of its managers and other employees

Management Control Systems Continueed

many management control systems contain some or all of the balanced scorecard perspectives:


- financial


- customer


- internal business process


- learning and growth

Formal Systems

include explicit rules, procedures, performance measures, and incentive plans that guide the behaviour of its managers and other employees



Informal Systems

includes shared values, loyalties, and mutual commitments among members of the company, corporate culture, and unwritten norms about acceptable behaviour

Evaluating Management Control Systems

- to be effective, management control systems should be closely aligned to the firm's strategies and goals


- systems should be designed to fit the company's structure and decision-making responsibility of individual managers

Evaluating Management Control Systems Continueed

- effective management control systems should also motivate managers and their employees


- motivation is the desire to attain a selected goal (goal-congruence) combined with the resulting pursuit of that goal (effort)

Two Aspects of Motivation

- goal congruence exists when individuals and groups work toward achieving the organization's goals - managers working in their own best interest take actions that align with the overall goals of top management


- effort is exertions toward reaching a goal, including both physical and mental actions

Organization Structure and Decentralization

- decentralization is the freedom for managers at lower levels of the organization to make decisions


- autonomy is the degree of freedom to make decisions. The greater the freedom, the greater the autonomy

Decentralization vs. Centraliztion

- total decentralization means minimum constraints and maximum freedom for managers at the lowest levels of an organization to make decisions


- total centralization means maximum constraints and minimum freedom for managers at the lowest levels of an organization to make decisions


- companies' structures generally fall somewhere in between these two extremes, as each has benefits and costs. Structure chosen cost vs. benefit analysis

Benefits of Decentralization

- creates greater responsiveness to subunit's customers, suppliers, and employees


- leads to gains from faster decision making


- increases motivation of subunit managers


- assists management development and learning


- sharpens the focus of subunit managers

Costs of Decentralization

leads to suboptimal decision making, which arises when a decision's benefit to one subunit is more than offset by the costs or loss of benefits to the organization as a whole


- also called incongruent decision making or dysfunctional decision making

Costs of Decentralization Continueed

- focuses manger's attention on the subunit rather than the company as a whole


- results in duplication of output


- results in duplication of activities

Decentralization and Multinational Firms

- multinational firms are often decentralized b/c centralized control of a company with subunits around the world is often physically and practically impossible


- decentralization enables managers in different countries to make decisions that exploit their knowledge of local business ad political conditions and to deal with uncertainties in their individual environments


- biggest drawback to international decentralization: loss or lack of control

Choices about Responsibility Centers

regardless of the degree of decentralization, management control systems use one or a mix of the four types of responsibility centers:


- cost center


- revenue center


- profit center


- investment center

Transfer Price

- the price one subunit (department or division) charges for a product or service supplied to another subunit of the same organization


- creates revenues for the selling subunit and purchase costs for the buying subunit affecting each subunit's operating income

Transfer Pricing

management control systems use transfer prices to coordinate the actions of subunits and to evaluate their performance

Intermediate Product

the unfinished product or service transferred between subunits of an organization


- production stages may be in separate subunits of the organization, that may be geographically apart


- product may be processed further by the transferee or sold directly to an external customer

Three Transfer Pricing Methods

1. Market-based transfer prices


2. cost-based transfer prices


3. hybrid transfer prices

Inter-Provincial Transfers and Taxes

- provincial governments prefer transfer prices at market price as it is an arm's-length price


- split of taxable income between provinces impacts both operating cash flow and net income


- advance transfer price arrangement (APA), can be negotiated with tax authorities in advance (avoids costly and time-consuming disputes with tax authorities)

Market-Based Transfer Prices

top management chooses to use the price of similar product or service that is publicly available. Sources of price include trade associations, competitors, and so on

Market-Based Transfer Prices optimal decision making conditions

1. the market for the intermediate product is perfectly competitive


2. inter-dependencies of subunits are minimal


3. there are no additional costs or benefits to the company as a whole from buying or selling in the external market instead of transacting internally

Perfectly Competitive Market

exists when there is a homogeneous product with buying prices equal to selling prices and no individual buyer or seller can affect those prices by their own actions


- allows a firm to achieve goal congruence, motivating management effort, subunit performance evaluations, and subunit autonomy

Market-Based Transfer Prices Continueed

- perhaps should not be used if the market is currently in a state of "distress pricing"


- useful when market prices are unavailable, inappropriate, or too costly to obtain

Distress Prices

- temporary price declines due to excess supply


- in the short term, supplier division should meet the distress price as long as it exceeds incremental costs


- in the long term. supplier division should stop producing

Top Management Choice

chooses a transfer price based on the costs of producing the intermediate product examples:


- variable production costs


- variable and fixed production costs


- full costs and life-cycle costs


- one of the above, plus some markup

Full-Cost Bases

- many companies use transfer prices based on full costs that contain an allocation of fixed overhead


- can lead to suboptimal decisions in decentralized companies


- full-cost based on ABC cost drivers can provide more refined allocation bases

Variable Cost Bases

can lead to divisions recording large losses and income due to transfer pricing

Hybrid Transfer Pricing

takes into account both cost and market information



Types of hybrid transfer prices

- prorating the difference between maximum and minimum transfer prices


- dual pricing


- negotiated pricing

Proprating

the difference between the maximum and minimum cost-based transfer prices

Dual-Pricing

using two separate transfer-pricing methods to price each transfer from one subunit to another


- ie. selling division receives full cost pricing, and the buying division pays market pricing


- difference in pricing is absorbed by corporate office rather than operating units


- promotes goal congruence


- not widely used in practice

Negotiated Transfer Prices

- occasionally, subunits of a firm are free to negotiate the transfer price between themselves and then to decide whether to buy and sell internally or deal with external parties


- may or may not bear any resemblance to cost or market data


- often used when market prices are volatile


- represent the outcome of a bargaining process between the selling and buying subunits

Minimum Transfer Price Guideline

the minimum transfer price in many situations should be:


minimum transfer price = incremental costs per unit incurred up to the point of transfer + opportunity costs per unit to the supplying division

Incremental Cost

the additional cost of producing and transferring the product or service

Opportunity Cost

the maximum contribution margin forgone by the selling subunit if the product or service is transferred internally

Multinational Transfer Pricing and Tax Considerations

- transfer prices across borders have tax implications (ie. income tax)


- establishing an arm's-length price for value-added services such as marketing and intangible is difficult


- income Tax Act of Canada (section 247) limits transfer pricing to 5 methods

Setting Transfer Prices: 5 Methods

Traditional transaction methods:


1. comparable uncontrolled price (CUP) - internal market-based price


2. resale price method (RPM) - the calculated arm's-length resale price


3. Cost-plus method (CPM)


Transactional profit methods:


4. Profit split method (PSM)


5. Transactional net margin method (TNMM)

Tax Minimization Strategies

- establish a legitimate subsidiary in a tax haven (have no tax treaties with Canada)


- establish a legitimate subsidiary in an international financial cnetre with low tax rates (have tax treaties with Canada)


- Request an advance pricing arrangement with all involved tax authorities