Management control and performance measurement
systems. A literature and exploratory research on the
visibility and suitability of different management control
forms in various performance measurement systems.
How are different management control forms included in various performance
measurement systems (BSC, EFQM, EVA and BB)?
University of Groningen
Faculty of Economics and Business
Master of Science in Business Administration
Specialization: Organizational and Management Control
Supervisor: prof. dr. H.J. ter Bogt University of Groningen Co-supervisor: dr. P.E. Kamminga University of Groningen Author: Dennis Steggink
Address: Vondelstraat 31 Place: Tubbergen
Telephone: 0652520523
Preface
This Master Thesis is the result of research on the relationship between performance measurement (systems) and management control (forms). With this research, I complete my Master of Science in Business Administration (Msc BA), specialization Organizational and Management Control, at the University of Groningen.
Writing this thesis has been a very valuable experience and I would like to thank several people for their support during this process of writing my Master Thesis. First of all, I am extremely grateful to my supervisor prof. dr. H.J. ter Bogt. His involvement, positive feedback, ideas and patience have been a great help. He encouraged me to look critical towards scientific theories, which has significantly increased the quality of this thesis. I also want to thank dr. P.E. Kamminga for his time and effort as a co-supervisor.
Further, I would like to thank the interviewees and both organizations were I could conduct empirical research for their input and cooperation. In addition, I would like to thank Ewald Oude Steenhof and my dad, Marcel Steggink, for helping me arranging the interviews. The interviews were very interesting to me and seem to be of added value to this research.
Furthermore, special thanks go to my parents for their support (emotionally as well as financially), patience and trust during my entire study. They gave me the opportunity to study at the University of Groningen and to have an unforgettable time there during which I learned a lot. Additionally, I would like to thank my friends in Groningen who also contributed to this wonderful time.
Last but definitely not least, I would like to thank my girlfriend Milou, who always stood by me and who always was willing to listen to my stories during my study and during the period of writing my thesis.
I hope you will enjoy reading this thesis as much as I did writing it.
Abstract
Management control and performance measurement appear to be very important for an organization to successfully drive the business. This paper studies the relationship between various performance measurement systems and different management control forms. The knowledge about the relationship between performance measurement systems and management control forms will provide a deeper understanding of these concepts and this should ultimately lead to better decision making and performance of organizations. The performance measurement systems selected to be discussed in this research project are the Balanced Scorecard, the EFQM Excellence Model, Economic Value Added and Beyond Budgeting. The main management control forms used in this research are output control, behavior control, clan control, interactive control and belief control. The most important findings of the literature and empirical study are that 1) all performance measurement systems are largely focused on results control and so measurement and evaluation of results appear to be very important; 2) influencing the behavior of employees seems to be a very important purpose of the systems; 3) the visibility of the other management control forms within the performance measurement systems varies; 4) in practice performance measurement systems may be used in another way than intended by its developers and/or suggested in literature. In summary, there appear to be important relationships between the different performance measurement systems and various management control forms, but the precise focus on each of the various control forms varies between performance measurement systems.
Table of contents
Preface... 2
Abstract ... 3
1. Introduction ... 6
2. Research design ... 8
2.1 Goal of the research ... 8
2.2 Research questions ... 8
2.3 Conceptual model ... 9
2.4 Research methodology ... 9
2.5 Level of analysis ... 10
3. Management Control ... 11
3.1 Definition of management control ... 11
3.2 Forms of management control ... 12
3.2.1 Management control forms of Ouchi (1979) ... 12
3.2.2 Management control forms of Simons (1995) ... 13
3.2.3 Management control forms of Merchant (1982) and Merchant and Van der Stede (2007) ... 14
3.2.4 Management control forms in this research ... 15
4. Performance measurement systems ... 18
4.1 Definition of performance measurement ... 18
4.2 Forms of performance measurement systems ... 20
4.2.1 The Balanced Scorecard (BSC) ... 20
4.2.2 The European Foundation for Quality Management Excellence Model (EFQM) ... 22
4.2.3 Economic Value Added (EVA) ... 24
4.2.4 Beyond Budgeting (BB) ... 25
5. Management control forms and performance measurement systems ... 29
5.1 The Balanced Scorecard and management control forms ... 29
5.2 The EFQM Excellence Model and management control forms... 31
5.3 Economic Value Added and management control forms ... 34
5.4 Beyond Budgeting and management control forms ... 36
5.5 Performance measurement systems compared ... 38
6. A brief confrontation with practice ... 41
6.1 Interview results Rabobank ... 42
6.1.1 Introduction ... 42
6.1.2 Strategy and performance measurement systems... 42
6.1.3 The use of performance information ... 43
6.1.4 Organizational culture ... 44
6.2 The visibility of management control forms in the performance measurement systems of Rabobank 45 6.2.1 The „EFQM Excellence Model‟ and management control forms ... 45
6.2.2 The „Balanced Scorecard‟ and management control forms ... 47
6.3.1 Introduction ... 49
6.3.2 Performance measurement system ... 49
6.3.3 The use of performance information ... 50
6.4 The visibility of management control forms in the performance measurement system at VDL ETG 51 6.4.1 The „Balanced Scorecard‟ and management control forms ... 51
6.5 Performance measurement systems and management control: confrontation of theory with practice 53 7. Conclusion, limitations and suggestions for further research ... 56
7.1 Conclusion ... 56
7.2 Limitations and suggestion for further research ... 58
8. Literature ... 59
9. Appendix ... 62
9.1 Interview protocol... 62
9.2 The organizational chart of Rabobank Central Twente ... 65
1. Introduction
“If you don‟t drive your business, you will be driven out of business” (B.C. Forbes)
With this statement Forbes means that driving a business is a very difficult task. Therefore, it is essential for organizations to design systems that drive a business to desirable situations. Management control systems and performance measurement systems intend to be such systems and so are very valuable for an organization in order to control and drive the business. It appears therefore that, in order to successfully drive a business, performance measurement systems and the management control of an organization should be related to each other.
It is widely accepted that management control systems are important. If employees always act in the best interest of an organization, there will be no need for a management control system. Unfortunately, employees do not always know and/or are not always willing to do what is best for an organization in order to attain its goals. In order to improve its goal attainment, an organization should reduce this undesirable behavior. The behavior of employees should be consistent with the strategy and objectives of an organization. In order to foster this, management control systems are designed. The aim of management control systems is to influence the behavior of employees in desirable directions and, as a result, to increase the probability that the organization will achieve its goals (Merchant and Van der Stede, 2007, p. 5). There are different forms of management control and these can be classified into categories, on the basis of the aspects they focus on, e.g. outputs, actions or beliefs (Merchant, 1982, p. 45).
A fundamental element of management control systems are performance measurement systems. Performance measurement systems now play a more important role in organizations. Extending beyond control, supporting continuous improvement and managerial development are important purposes of a performance measurement system (Sinclair and Zairi, 2000, p. 664). Performance measurement systems are defined as the set of metrics used to quantify both the efficiency and effectiveness of actions (Neely, 1994, p. 81), as well as the systems that emphasize qualitative measurement. Performance measurement systems are intended to influence behavior. According to Simons (2000, p. 689), performance measurement and control systems cannot be designed without taking human behavior into account. A successful performance measurement system can provide a proactive guide for operations and strategic management (Bitichi, 1994, p. 16). There is a call in research for careful examination of performance measurement systems in order to learn how they influence an organization and to design measurement systems in ways that increase their reliability and effectiveness in guiding an organization to make well-informed sound decisions (Dervitsiotis, 2004, pp. 457-458).
control forms and performance measurement systems, i.e. the aspects where a performance measurement system focuses on. This insight could be of significant importance to successfully design appropriate performance measurement systems that will influence the behavior of employees in a positive way, with the overall goal of superior performance of the organization.
2. Research design
Blumberg et al. (2005, p. 64) defines the research design as: “the blueprint for fulfilling
objectives and answering question”. In this chapter the design of this research and the used
methodology will be discussed. The goal of the research and the main research question are also presented. In order to answer the main research question several sub questions are formulated. Subsequently, a conceptual model is designed.
2.1 Goal of the research
The goal of a research should be formulated clearly and unmistakable. Failure to do this will lead to serious doubts amongst readers about the knowledge of the researcher concerning the subject (Blumberg et al., 2005, p. 15). The goal of this research is to investigate the relationship between four performance measurement systems (the Balanced Scorecard (BSC), the European Foundation for Quality Management Excellence Model (EFQM), Economic Value Added (EVA) and Beyond Budgeting (BB)) and different management control forms. More generally stated, the purpose of this research is to analyze existing literature and to see whether, based on that, it is possible to extend the existing literature. In addition, a brief confrontation with practice presents how the analyzed theory works out in practice. The purpose of this confrontation with practice is to show whether an organization, which applies a certain performance measurement system (BSC, EFQM, EVA or BB), also really emphasizes those forms of management control, which, based on the analysis of literature, the performance measurement system is expected to focus on.
2.2 Research questions
In order to achieve the goal described above, a main research question must be formulated. According to Blumberg et al. (2005, p. 59), a research question is the hypothesis of choice that best states the objective of the research. A proper research question is very important. A fundamental weakness in the research process occurs when the research question is formulated incorrectly (Blumberg et al., 2005, p. 59). The following main research question is designed:
How are different management control forms included in various performance measurement systems (BSC, EFQM, EVA and BB)?
Sub questions must be formulated and answered in order to specify and answer different elements of the main research question. These questions are called investigative questions. Investigative questions gather the necessary information to answer the main research question (Blumberg et al., 2005, p. 61). The following sub questions are developed:
1. What is management control and which forms of management control are currently present in the existing literature?
2. What are the main differences and similarities between the forms of management control?
3. What are performance measurement systems?
5. To what extent are the different forms of management control visible/suitable in the four performance measurement systems, i.e. which forms of management control does each of the performance measurement systems focus on?
6. To what extent are the different forms of management control in practice visible/suitable in the performance measurement system(s) that is used in an organization?
2.3 Conceptual model
A conceptual model is designed to give an overview of the research and to show visually the relationships between the research questions.
Figure 1. Conceptual model, Q = sub question
The upper box is concerned with sub questions 1 and 2, the lower box with sub questions 3 and 4. Q5 will be answered by analyzing the answers on sub questions 1, 2, 3 and 4. It shows the relationship between the boxes. Sub question 6 covers the whole model because it shows how the model works out in practice.
2.4 Research methodology
Good research contains data which is reliable and obtained trough professional practices (Blumberg et al., 2005, p. 14). This research is a purely scientific research (Blumberg et al., 2005, p. 13) and it contains three parts. The first part consists of descriptive research. Descriptive research tries to answer questions of the type of who, what, when, where and sometimes how (Blumberg et al., 2005, p. 10). The main purpose of descriptive research is to describe something. This part of the research is based on a study of literature. A literature study can have several purposes (Blumberg et. al, 2005, p. 154-156). It is beyond the scope of this research to explain all the purposes, but the main goal of literature study in this research is to introduce the various systems, forms and concepts, explain the necessary definitions and collect the information needed to answer the research questions. Introducing and explaining the different forms of management control is an example of what is conducted in this part. The literature is found in primary sources. Primary sources are full-text publications of theoretical and empirical studies and represent the original work (Blumberg et al., 2005, p. 165).
Q5
Management control forms
Performance measurement systems Balanced Scorecard
The second section of this research is an analysis of literature. In that part of the research the data of the first part is compared and analyzed in order to answer the other sub research questions and ultimately the main research question.
The last part of this research is a brief confrontation of theory with practice and this could be regarded as an exploratory research. Exploratory research is used to explore or search through a problem or situation to discover insights and to provide understanding (Malhotra, 2007, p. 80). In this part the preceding findings are compared with the „real‟ world. With a couple of personal interviews a confrontation with the real world is presented. Analyzing the collected data will show whether actual practice deviates from the findings in theory or not.
Overall, this research may be classified as exploratory research in addition to a review and critical analysis of literature. It may also be classified as qualitative research (Blumberg et al., 2005, p. 124-125). It is based on qualitative information like words and sentences.
2.5 Level of analysis
Before moving on, it should be noted that, in this research, management control and performance measurement will be analyzed at the business-unit level. An organization may hold several levels. Management control and performance measurement systems are therefore also needed on different levels. However, it is not straightforward, nor is it possible to apply performance measurement systems on every level of an organization as such that they perform properly. It is for example doubtful whether Economic Value Added and Beyond Budgeting can be applied at lower levels of an organization. It is uncertain whether these performance measurement systems are able to measure the performance of individual managers and particularly the performance of individual managers at the somewhat lower levels in an organization. This is also rather implicitly mentioned by Ghalayini and Noble (1996, p. 77), who state that the BSC approach is primarily designed to provide senior management with an overall view of performance. Individual managers are not able to manage and control all the elements a performance measurement system may focus on. Besides, according to Birnberg (1998, p. 27), the focus of control systems has shifted from the problem of controlling the individual to the problem of controlling the organization.
The business-unit level is also the most logical one at which management control and the performance measurement systems could be applied. Business-units are organized around markets or segments of markets which requires different goals, objectives, behaviors, actions, strategies, resources etc. (Ghemawat and Costa, 1993, p. 43). Much theory and analysis in management control and performance measurement stems from this business-unit level (e.g. Fisher, 1998, p. 47, Kaplan and Norton, 1996a, p. 53). Besides, the definitions of management control and performance measurement used in this research also mention and deal with these different requirements business-units encounter. So, in order to deal with the possible problems and restrictions management control and the performance measurement systems might encounter when applied at the (lower) individual level, the focus of this research will be on business-unit level. Management control, the different forms of control and the performance measurement systems (BSC, EFQM, EVA and BB) can appropriately be applied on that level.
3. Management Control
This chapter introduces and discusses management control. The purpose of this chapter is to obtain a good insight into management control as the basis for performance measurement. It is also necessary to introduce management control, and different forms of management control, in order to define the relationship between control and performance measurement systems. In paragraph 3.1 the definition of management control is provided and in paragraph 3.2 the different forms of management control are explained and compared.
3.1 Definition of management control
It is difficult to state what exactly is meant with management control as several definitions of management control exist. According to Merchant (1982, p. 43), management‟s primary task is to take steps to ensure that the preliminary defined strategies and plans are carried out, or, if conditions warrant, that the plans are modified. This is the critical control function of management and a major part of this function is making sure that other people do what should be done according to the top of the organization (Merchant, 1982, p. 43). According to Anthony (1965, p. 235), management control is the process that managers use to ensure that the required resources are obtained and used effectively and efficiently in the attainment of the objectives of an organization. Flamholtz et al. (1985, p. 38) state that management control has the purpose of increasing the probability that the behaviors of employees are consistent with the attainment of the objectives of an organization. This definition is further elaborated by Malmi and Brown (2008, pp. 288-291), who include in their definition all the systems managers use to ensure alignment of the behavior of employees with the objectives and strategies of an organization, but they exclude pure decision-support systems. The first part of this definition is also the definition of Merchant and Van der Stede (2007, p. 5). A broader definition comes from Fisher (1998, p. 51), who states that management control ensure that conditions are created in order to motivate an organization to achieve desirable or predetermined results. This is close to the definition by Otley and Berry (1980, p. 232), who define management control broadly as all the activities that management undertakes to safeguard the continuity of the organization.
The presented definitions partly overlap. Most of the definitions are concerned with the alignment of behavior of employees with the objectives of an organization; defining the objectives themselves is not explicitly included. In this research the focus will be on performance measurement systems as part of management control. Therefore, a definition which could be appropriate for this research is the rather explicit definition of management control by Anderson and Oliver (1987, p. 76). They state that: “a control system is an
organizations set of procedures for monitoring, directing, evaluating and compensating its employees”. This definition has an explicit link with performance measurement and
evaluation and will therefore be used in this research, together with the broader, less specific definition of Merchant and Van der Stede (2007, p. 5), i.e. “management control are all the
devices or systems managers use to ensure that the behaviors and decisions of their employees are consistent with the organization‟s objectives and strategies”.
Management control systems intend to ensure the alignment of employee behavior with the objectives and strategies of an organization and so diminish in that way these three problems. Management control systems differ among organizations and exist in many forms (Merchant and Van der Stede, 2007, p. 15). As mentioned above, performance measurement systems are an important part of these management control systems.
3.2 Forms of management control
Literature distinguishes several forms of management control. These forms of management control are used to influence the behavior of employees in desirable ways so that the organization will achieve its goal. Different forms of control can be used in different situations, e.g. different with respect to uncertainty or complexity. In this research the focus will be on the theories of well-known authors which are frequently discussed in recent management accounting literature. These authors are: Ouchi (1979), Simons (1995) and Merchant (1982)/Merchant and Van der Stede (2007). These authors are chosen because they defined important and much used forms of management control. The control forms of Hofstede (1981) will not be used in this research because the forms are originally designed for public, not-for-profit organizations. The other authors mentioned above focus more exclusively on profit-oriented organizations, which is especially the case for EVA.
However, a short discussion of the control forms of Hofstede (1981) is justified and will be presented now. Hofstede (1981, p. 194) distinguishes six forms of management control. Four criteria, based on the activities of an organization, determine the forms of control. (Hofstede, 1981, pp. 194-195). These are the ambiguity of the objectives of the activity, the measurability of outputs, the extent to which the activity is repetitive or non-repetitive and the extent to which the effects of management interventions are know or unknown. Routine control, expert control, trial-and-error control, intuitive control, judgmental control and political control are the forms of control distinguished by Hofstede (1981, pp. 196-198). Explaining these forms in depth is beyond the scope of this research because they are, as mentioned, particularly developed for the non-profit sector.
3.2.1 Management control forms of Ouchi (1979)
According to Ouchi (1979, p. 833), the problem of organizations is obtaining cooperation among individuals or units who share only partially similar objectives. As a result, organizations deal with the problem of evaluation and control. In order to cope with this problem and increase the probability that objectives will be achieved, Ouchi (1979) defines three forms of management control. The form of management control which is most suitable in a certain situation is determined by the ability to measure output and the knowledge a (superior) managers has of the transformation process in the organization (Ouchi, 1979, p. 843). So, Ouchi (1979) defines the forms of control on the basis of the extent to which it is possible to exert management control on outputs and/or on the transformation process.
1. Output control
Output control contains a multiple set of, often quantitative, objectives and these objectives will be measured and compared by a superior. The superior is then able to take, if necessary, corrective actions to increase the likelihood that desirable output will be achieved (Ouchi, 1979, pp. 843-844). This type of control is mostly used when the ability to measure output is high, whilst the knowledge of the transformation process can be imperfect or perfect.
2. Behavior control
output will be generated (Ouchi, 1979, p. 843). This form of control can be applied when the knowledge a (superior) manager has of the transformation process is perfect and the ability to measure output can be low, intermediate or high.
3. Clan control
Clan control relies on ritualized, ceremonial forms of control. It is used when behavior or output control is not suitable because the ability to measure output is low and the knowledge of the transformation process is imperfect. Clan control includes, for example, the recruitment of only selected employees, to assure having an able and committed set of people, in order to learn the desired values and adhere to the appropriate ceremonies. Group culture is also an important element within clan control. Organizations reward their employees on the basis of their motivation and their acquired attitudes, values and beliefs which are likely to guide to desirable results (Ouchi, 1979, p. 844).
3.2.2 Management control forms of Simons (1995)
According to Simons (1995, p. 80), the problem of organizations is how to achieve control in an organization that demands creativity, flexibility, innovation and as a result empowerment of employees. In today‟s business environment decentralization and communication are essential to survive. Four levers of control are used to attain adequate control in decentralized organizations with empowered employees. In addition, Simons (1995, p. 88), rather over-simplified, mentions that the four levers of control should be used together to attain the best results. Each lever of control has a distinct purpose for managers attempting to control, to some extent, the creativity and empowerment of employees (Simons, 1995, p. 81). Diagnostic control allows managers to ensure that important goals are being achieved effectively and efficiently. Belief control is used to empower people and encourage them to search for new opportunities. Boundary systems establish the rules of the game and identify actions and pitfalls that employees must avoid. Interactive control systems enable top-level managers to focus on strategic uncertainties. So, Simons (1995) defines the levers of control according to the goals of management control.
1. Diagnostic control
Diagnostic control is used to monitor goals and profitability and to measure progress towards targets. Managers measure the outputs and other important (quantitative) targets and compare them with predetermined standards. Feedback will then, if necessary, lead to corrective action so that it is more likely the desirable outputs will be achieved (Simons, 1995, p. 81). So, diagnostic control is applied to achieve control by monitoring critical performance variables. It is mainly applied in order to eliminate manager‟s exertion of constant monitoring (Simons, 1995, p. 82).
2. Belief control
Belief control contains the values and directions the employees of an organization have to pursue. It is used to inspire employees by communicating the core values, purposes and mission of the organization (Simons, 1995, pp. 82-83). It promotes commitment to the organization‟s core values and inspires employees to create new opportunities. Thus, belief control attempts to achieve control by means of communicating core values and missions from top-level managers. It is applied when there is uncertainty amongst the employees about the purpose of the organization and how they can contribute (Simons, 1995, p. 83).
3. Boundary control
(Simons, 1995, pp. 84-86). This lever attempts to achieve control by avoiding and minimizing risk and is especially important in an organization in which a reputation built on trust is a key competitive asset (Simons, 1995, p. 84). It is used to anticipate the inevitable temptation and pressure on employees that exist in organizations (Simons, 1995, p. 85).
4. Interactive control
Interactive control is used to involve managers in the activities of their subordinates. Interactive control systems focus on the exchange of information that is strategically important between different hierarchical levels of an organization. This valuable information attracts attention from managers at different levels of an organization and regular meetings between superiors, subordinates and peers are used to interpret the information and learn about the key strategic issues. The process is surrounded by dialogues and debates, which may result in adapted or newly formulated strategies (Simons, 1995, pp. 86-87). Interactive control is mainly important in organizations which encounter rapid environmental change. So, interactive control is applied to achieve control by focusing on strategic uncertainties. It is of use to explore the impact of emerging threats and opportunities which are important for the continuity of the organization (Simons, 1995, p. 86).
3.2.3 Management control forms of Merchant (1982) and Merchant and Van der Stede (2007)
Employees do not always know and/or are not always willing to do what is best for an organization. An organization should reduce possible undesirable behavior and therefore should implement a set of controls (Merchant, 1982, p. 43). Merchant (1982) and Merchant and Van der Stede (2007) together differentiate four forms of control. At first, Merchant (1982) distinguished three forms of management control. However, these forms were extended later by splitting up personnel control into personnel control and cultural control. The form of management control which is most suitable in a given situation is determined by the ability to measure results on important performance dimensions and the knowledge a (superior) managers has of which specific actions are desirable. However, managers do not have to rely on only one type of control. The use of more than one form of control will often provide reinforcement. Merchant (1982) and Merchant and Van der Stede (2007) distinguish the forms of control based on the object of control.
1. Results control
Results control is based on results accountability. This means that employees are responsible for certain results. It contains four elements: defining dimensions along which results are desired, measuring performance on these dimensions, setting performance targets for employees and providing rewards/punishments (Merchant, 1982, pp. 45-46). Feedback will, if necessary, lead to corrective action so that it is more likely the desirable results will be achieved. This form of control can be applied when the ability to measure results on important performance dimensions is high, whilst the knowledge of which specific actions are desirable can be excellent, intermediate or poor.
2. Action control
3. Personnel control
Personnel control relies on the employees to control or motivate themselves and it provides assistance for them if necessary. It attempts to ensure that employees understand what the organization wants, that they are able to do a good job and that they will engage in self-monitoring (Merchant and Van der Stede, 2007, p. 83). Personnel control can be applied through selection and placement of employees, training, job design, provision of necessary resources, improving communications to help individuals know and understand their roles better and how they can best coordinate their efforts with those of other groups in the organization and by encouraging peer control by establishing cohesive work groups with shared goals (Merchant, 1982, p. 46). Personnel control is applied when the ability to measure results on important performance dimensions is low and the knowledge of which specific actions are desirable is poor.
4. Cultural control
Cultural control is used to encourage mutual monitoring and is based on group pressure. This form of control is built on shared beliefs, attitudes, values, norms and ways of behaving. The cultural norms are embodied in written and unwritten rules that govern employees‟ behavior to desirable results. Group rewards and codes of conduct are the most important ways to apply cultural control (Merchant and Van der Stede, 2007, p. 85). Cultural control is especially effective where members of a group have emotional ties to one another. It is applied when the ability to measure results on important performance dimensions is low and the knowledge of which specific actions are desirable is poor.
3.2.4 Management control forms in this research
The management control forms of the authors provided above show different, but also common characteristics. On the basis of a comparison between the forms, it is possible to rearrange these management control forms into fewer forms. The management control forms of Ouchi (1979) are used as the basis for this classification. Ouchi (1979) designed his forms of management control (a few) years before the other authors and could therefore be regarded as the leading author in that area. Looking at the clarifications of the different management control forms presented above, the forms of Merchant (1982)/Merchant and Van der Stede (2007) and Simons (1995) can more or less be recognized in the forms of Ouchi (1979). Especially the forms of Merchant (1982)/Merchant and Van der Stede (2007) seem quite similar to the forms of Ouchi (1979): the forms of control and the factors which determine the appropriate form(s) of control are almost identical.
Results control (Merchant, 1982) and diagnostic control (Simons, 1995) are the forms of management control which are the easiest to compare with one of the control forms of Ouchi (1979), i.e. these forms are closely related to the output control of Ouchi (1979). The process of target setting, output measurement and, if necessary, taking corrective actions to increase the likelihood that desirable output will be attained are the main activities of all three management control forms. Although, one remark could be that results control is probably more focused on financial results, but these financial results might be seen as an indirect indicator of outputs. Nevertheless, despite this, the process and purpose of the forms are quite similar.
establishing standard operating procedures and so less focused on the extent to which employees perform desirable activities. Behavior control, on the other hand, is more focused on the behavior of employees in general, i.e. telling employees what the organization expects from them in terms of desirable behavior. Behavior control specifies behavior of employees which has to conform to the desired transformation process to ensure desirable output will be produced. Hence, behavior control attempts to ensure the desirable (work)activities are performed, whereas boundary control is more focused on the rules/boundaries that exist within the organization. Action control is quite similar to behavior control. Both are concerned with specifying the rules of processes and behavior of employees. It attempts to ensure that desirable actions of employees are performed. Nevertheless, one small difference may be that within behavior control it is not clear whether rewards/punishments are provided when employees violate the rules or perform (un)desirable activities, while Merchant (1982)/Merchant and Van der Stede (2007) define action control in such a way that rewards/punishment are clearly related to the actions of employees.
Personnel control (Merchant, 1982), cultural control (Merchant and Van der Stede, 2007) and belief control (Simons, 1995) are more or less related to clan control of Ouchi (1979). The forms are all concerned with the values and beliefs of an organization. However, belief control is mainly applied by communicating core values and beliefs from top-level managers, whereas the other forms of control are more focused on values and attitudes acquired within a group of an organization and capabilities, as far as personnel and clan control are concerned. As such, belief control is mainly based on the core values, purposes and mission of an organization to achieve control, while clan control is based on the norms and values of a group within employees perform their activities to achieve control. For this reason, belief control is considered as a separate form of management control. When discussing clan and cultural control there appears to be an emphasis of both control forms towards group culture. Cultural control and clan control attempt to encourage mutual monitoring and acquiring important values, norms and beliefs of the organization. However, cultural and clan control also differ slightly from each other. Although group culture is an important element in both forms of control, the reliance on group rewards within clan control is not obviously stated. Within cultural control, on the other hand, group rewards are mentioned as the most important ways to implement this form of control. Furthermore, whilst within cultural control managers exercise some authority in order to create and shape an organizational culture, managers exercise such a role to a much smaller extent within clan control. Personnel control can be considered as an important part of clan control. Personnel control is mainly emphasizing selection, placement and training of employees in order to assure of having an able set of people. This process of recruitment and training of employees is as well an important element of clan control. Besides, both personnel and clan control underline peer control.
It is difficult to compare the interactive control form of Simons (1995) with one of the management control forms of Ouchi (1979). The main focus of interactive control is the high degree of involvement of employees. It emphasizes the exchange of information that is strategically important between different hierarchical levels of the organization and it makes use of dialogues and debates to emerge at new strategies. So, the employees also determine to some extent the strategy of an organization. None of the forms of Ouchi (1979) has this characteristic and so this form of control will be treated as a separate form of management control in this research.
forms are behavior-based control and outcome-based control and are very similar to the behavior control and output control of Ouchi (1979). The behavior-based control form is used to monitor the behavior of employees, i.e. management monitors, directs and intervenes the behavior of employees. So, it specifies the rules of behaviors of employees, which is exactly what behavior control is about. Outcome-based control and output control are both primarily relying on objective measures of results and employees are evaluated on the basis of these measures.
Based on the comparisons above, it can be concluded that the management control forms of Merchant (1982)/Merchant and Van der Stede (2007) are fairly similar to the forms of Ouchi (1979). While there may be some small differences between the different forms, these seem not to be significant enough to treat them as separate forms. The management control forms of Merchant and Van der Stede (2007) as such provide no additional insights to the forms of Ouchi (1979). The forms of Ouchi (1979) include almost entirely the features of the forms of Merchant (1982)/Merchant and Van der Stede (2007). The levers of control of Simons (1995), on the other hand, are much more difficult to compare with the forms of Ouchi (1979). Belief control and interactive control show several significant differences and these forms will therefore be considered as separate control forms. So, the basic management control forms that will be used in the next chapters of this research are: the three management control forms of Ouchi (1979) (output control, behavior control and clan control) and belief control and interactive control of Simons (1995).
4. Performance measurement systems
In this chapter the four performance measurement systems that were selected to be discussed in this research are introduced and discussed. In the first paragraph the meaning of performance measurement is explained. The second paragraph discusses four performance measurement systems which are frequently discussed in recent management accounting literature. The aim of this chapter is to provide a good insight into performance measurement systems. This insight is essential because performance measurement systems are the main subject of this research and the knowledge obtained in this chapter is necessary in order to define the relationship with management control.
4.1 Definition of performance measurement
Performance measurement is a subject that is rarely defined but frequently discussed (Neely et al., 1995, p. 80). In their rather narrow definition, Neely et al. (1995, p. 80), define performance measurement as the process of quantifying the efficiency and effectiveness of action. Performance measurement systems are then described as the set of metrics used to quantify both the efficiency and effectiveness of actions (Neely, 1994, p. 81). Figure 2 presents a simple and general framework for performance measurement system design. It shows how performance measurement systems can be designed and will be considered in this research. Figure 2 illustrates that performance measurement systems contain three basic parts: the individual performance measures, the performance measurement system and the relationship between the performance measurement system and the environment (Neely et al., 1995, p. 81). The relationship between performance measurement systems and the environment lies however beyond the scope of this research and will therefore not be discussed in depth.
Figure 2. Performance measurement system design (Neely et al., 1995, p. 81)
organization. According to Hacker and Brotherton (1998, p. 20), a performance measurement system ensures that the organization follows an appropriate course towards achievement of targets. In their view, the vision and mission are the basis of a performance measurement system and quantitative objectives can be defined to present progress.
According to several authors (e.g. Kaplan and Norton, 1996; Dixon et al., 1990; Bourne et al., 2000), there should be a link between the strategy of an organization and the dimensions of performance measured. As a result, the emphasis in the performance measurement system will change over time and a regular performance measurement review is needed. It is also rather generally recognized that performance must be measured on more than one dimension (e.g. Kaplan and Norton, 1996a, p. 53-54; Sinclair and Zairi, 2000, p. 153) and that it should be linked to (environmental) change (Bourne et al., 2000, pp. 758-759). Furthermore, performance measures can be divided into different forms. They can be financial or non-financial, quantitative or qualitative, internal or external, specific or non-specific, objective or subjective, etc. So, performance indicators are not necessarily quantitative, as the first part of this section might suggest. According to Pheasey (1991, p. 154), it is in itself not important which measures an organization uses, but the organization must find the „right measures‟. Additionally, in order to obtain a appropriate measurement, performance measures should be precise, objective, timely and understandable (Merchant and Van der Stede, 2007, p. 34).
Performance information can be used in different ways to evaluate managers. Hopwood (1972, p. 160) designed three styles of performance evaluation: the budget constrained style, the profit conscious style and the non-accounting style. These styles of evaluation make distinctly different use of data (Hopwood, 1972, p. 160). The budget constrained style focuses on the ability of managers to continually meet the budget on a short-term basis. The profit conscious style is focused on the ability to increase general effectiveness of the unit‟s operations in relation to the long-term purposes of the organization and it emphasizes the minimization of long-run costs. Although quantitative data are important, all kinds of (qualitative) contextual information can also play a role in performance evaluation. The non-accounting style emphasizes the relatively unimportant role of non-accounting data in the supervisor‟s evaluation of performance. A non-accounting evaluation is made on the basis of criteria like attitudes, effort and the relationships with people within an organization (e.g. rivalry, cooperation) (Hopwood, 1972, pp. 173-174). So, the budget constrained style is strictly concerned with quantitative information, whereas the non-accounting style will often be more focused on qualitative information. The profit conscious style is situated somewhere between these evaluation styles.
The definitions of performance measurement provided above partly overlap. The main focus of a performance measurement system is on measuring the performance of the organization and the employees and the quantification of this performance. Therefore, a usable, but incomplete definition is the one of Neely (1994, p. 81), who defines performance measurement systems as “a set of metrics used to quantify both the efficiency and
effectiveness of actions”. However, only emphasizing quantitative and financial measures is
4.2 Forms of performance measurement systems
Performance measurement systems can be observed in many forms. However, not every system is well-known. In this research the focus will be on four performance measurement systems that are popular in recent management accounting literature. These are: the Balanced Scorecard (Kaplan and Norton, 1996), the European Foundation for Quality Management Excellence Model (Sandbrook, 2001), Economic Value Added (Cagle et al., 2003) and Beyond Budgeting (Player, 2003). These systems are chosen because they define important and much used systems of performance measurement. According to Otley (1999, p. 371), these performance measurement systems are popular techniques that have been more recently developed to improve organizational control. Otley (1999, p. 380) also states that the Balanced Scorecard is proving to be a very popular tool. A series of surveys among corporate executives of large companies conducted by a consulting firm indicated that in the survey more than half of the companies worldwide are using the BSC (Rigby and Bilodeau, 2005, p. 560).
EVA is also a much used system. According to again Otley (1999, p. 373), EVA represents one of the most coherent performance measurement system currently available and many organizations are adopting EVA as their financial performance measure. Beyond Budgeting is to some extent related to budgeting, which has traditionally been a central part of most organization‟s control mechanism and which in many organizations is used as a key element in their management control systems (Libby and Lindsay, 2007, p. 47). Beyond Budgeting has the purpose to enable an organization to be more lean and adaptive (e.g. Player, 2003; Hope and Fraser, 2003a). This is currently essential in order to compete and survive and as such this makes BB a popular technique.
The EFQM Excellence Model is a so-called „business excellence model‟, in which, according to Dervitsiotis (2004, p. 472), there has been an increasing interest. The EFQM Excellence Model uses a suitable assessment framework. The various authors indicate that these systems are quite popular performance measurement systems and that they are currently apparent in many organizations. Because of these reasons they were selected to be discussed in this research.
4.2.1 The Balanced Scorecard (BSC)
The Balanced Scorecard was first introduced by Kaplan and Norton in 1992. The BSC was introduced to motivate and measure business-unit performance and should include financial and non-financial measures which should be derived from the business-unit‟s unique strategy (Kaplan and Norton, 1996a, p. 55). However, while this sounds logical it may be difficult to realize. Several researchers observed that the link between strategy and measures appeared weak in analysis (e.g. Gosselin, 2005; Tangen, 2004). Furthermore, selecting financial and non-financial measures is easier said than done. Many BSCs are not working well because the organization just supplements financial measures with non-financial measures. The lagging, non-strategic measures could seriously limit the power of the BSC. This is as well indicated by several researchers (e.g. Neely et al. 2000, p. 561; Otley, 1999, p. 376), who found that the BSC provides little guidance on how the appropriate targets/measures could be identified, introduced and ultimately used to manage a business.
outcomes are to be achieved (Kaplan and Norton, 1996a, p. 66). The perspectives of Kaplan and Norton (1996a) are:
- Financial perspective - Customer perspective
- Internal business perspective - Learning and growth perspective.
The financial perspective is concerned with how the organization should appear to its shareholders. It is focused on financial objectives. The customer perspective determines how to appear to the customers. Management decides in which customer and market segment the business-unit will compete and the measures of performance used (Kaplan and Norton, 1996a, p. 58). The internal business perspective is focused on which business processes the organization must excel. The measures of this perspective should come from the business processes that have the greatest impact on customer satisfaction and achievement of financial objectives (Kaplan and Norton, 1992, pp. 74-75). The learning and growth perspective is concerned with the ability to change and improve. This perspective defines the improvements and changes necessary for the organization to succeed achieving its vision. It identifies the infrastructure necessary to create long-term growth and improvements (Kaplan and Norton, 1996a, pp. 63-64). ). Figure 3 below presents the „standard‟ BSC of Kaplan and Norton. However, if an organization thinks this to be necessary, additional, specific perspectives can be added.
Figure 3. The Balanced Scorecard (Kaplan and Norton, 1996a, p. 54)
perspectives often show no cause-effect relations but are interdependent, i.e. the influence between measures is not unidirectional. For example, an increased focus on innovation may lead to better results, and in turn, better results might stimulate innovation. This interdependency sounds logical and it is therefore doubtful whether the assumed cause-and-effect relationship actually exists, or at least always exists.
The Balanced Scorecard can, besides using it for motivating and measuring business-unit performance, also be applied as a communication and strategic management system, i.e. it links long-term strategic objectives with short-term actions (Kaplan and Norton, 1996b, p. 75). Organizations can apply the BSC to clarify, update and communicate strategy throughout the organization, align unit and individual goals with strategy, link strategic objectives to long-term targets and annual budgets, identify and align strategic initiatives and conduct periodic performance reviews to learn about and improve strategy (Kaplan and Norton, 1996b, p. 85). According to Kaplan and Norton (1996b, p. 85), the BSC provides a framework for managing the implementation of strategy while also allowing the strategy itself to evolve in response to changes in the environment. However, the appearance of these rather broad functions of the BSC might be doubtful. According to Nørreklit (2000, pp. 77-81), the BSC is not a suitable strategic management instrument, i.e. it is too much top-down designed and not rooted in the dynamics of the organization. In this way the BSC creates external commitment, which means that employees find the motivation in variables outside themselves (e.g. manager‟s orders, rewards). As a result, employees focus their attention on only what is measured, while other important elements are ignored. It is also important to create some degree of internal commitment to an extent that employees motivate themselves and become active and creative problem-solvers. Furthermore, Nørreklit (2000, p. 78) states that the BSC lacks the ability to respond sufficiently to changing circumstances in the environment of the organization like technological developments, competition or other strategic uncertainties. The BSC as such provides insufficient attention to competitors or technological developments.
So, while the Balanced Scorecard appears to be a proper, popular performance measurement system, it also has its criticism which should be borne in mind when applying the BSC. It is uncertain whether the Balanced Scorecard is able to fulfill all its promises.
4.2.2 The European Foundation for Quality Management Excellence Model (EFQM)
The EFQM Excellence Model is designed by the European Foundation for Quality Management. The European Foundation for Quality Management was founded in 1988 by leaders from fourteen companies to promote higher standards of management through shared knowledge (www.efqm.org). In 1991 the EFQM Excellence Model was formally introduced.
The model can be explained based on the following assumption (Ruiz-Carrillo and Fernandez-Ortiz, 2005, p. 32): “the satisfaction of the customers, the employees and a
positive impact on society can be achieved by means of political and strategic leadership, a right employees management, an effective use of the resources available and an adequate definition of the processes, which finally would lead to excellence in the results”. According
Figure 4. EFQM Excellence Model (Sandbrook, 2001, p. 84)
The EFQM Excellence Model contains nine boxes/elements. Five of them are called „enablers‟, which are leadership, people, policy and strategy, partnership and resources and processes. The other four are called „results‟, which are people results, customer results, society results and key performance results. Hence, the results represent the requirements of all stakeholders, but customers are, as often, the most important. Each of the boxes/elements should have key performance indicators. The three largest elements in figure 4 (key performance results, processes and leadership) are the most important ones. Before proceeding, it is important to mention that the nine boxes should not be seen as separate, unconnected boxes, i.e. the nine activity teams which are working on a box should be related to each other. The boxes should be connected with each other in order to be successful. In addition, the focus should be more on „results‟, defining the goals and deciding how to measure it correctly, than on „enablers‟ (Sandbrook, 2001, p. 89).
In order to understand and apply the model correctly, it is essential to read the model from the right-hand side to the left-hand side. The EFQM Excellence Model first defines results and then looks how to achieve these results. Defining the key delivery and support processes is thereby essential (Sandbrook, 2001, pp. 84-85). However, defining the desirable results and the key delivery and support processes is easier said than done. An incorrect understanding or incomplete specification of the desirable results can drive an organization far away from its real purpose. The model therefore requires careful thinking, which is unfortunately often underestimated.
of interests, self-interested behavior etc. The involvement of as many people as possible may specially not be realistic in large organizations with lots of employees.
In a nutshell, the right-hand side of the model defines the goals and results of an organization, the left-hand side defines the actions and methods necessary to achieve the results. The processes, which define how the activities will be performed in order to achieve the results, are supported by the „enablers‟ people, policy and strategy and partnership and resources and this whole process needs strong leadership to succeed. Nevertheless, while this sounds logical, the model is not perfect in itself: an incorrect understanding of the desired results and a lack of appropriate leadership can easily harm the quality and applicability of the EFQM Excellence Model. Additionally, as might be clear from the above description, in essence the EFQM model has close similarities with the BSC, as some authors also have observed (e.g. Ter Bogt and Van Helden, 2003, pp. 136-138). Both models strongly focus on processes in organizations and there are also similarities in the performance areas defined, although the explicit attention the EFQM Excellence Model pays to these performance areas is more comprehensive.
4.2.3 Economic Value Added (EVA)
Economic Value Added is system/measure designed by the Stern Stewart Corporation. It is an overall measure of financial performance and it is intended to enhance shareholder value (Otley, 1999, p. 371). According to Fletcher and Smith (2004, p. 2), EVA shows managers whether they are getting an appropriate return on the capital under their control and it should also be utilized as a strategic decision tool, i.e. it should serve as the centerpiece of a strategy development and implementation process. Economic Value Added can be increased by investing capital in high return projects, using less capital or earning more profit without using more capital (Cagle et al., 2003, p. 65). In addition, Athanassakos (2007, p. 1408) showed, based on a survey of CEOs of a large sample of Canadian companies, that organizations using EVA did have a better stock performance than those not using EVA. Furthermore, for EVA to be successful as a performance measure, it is necessary for top management to support and understand the measure. The identification of value drivers is as well important.
The most basic form of EVA calculation is the following: EVA = Net Operating Profit After Taxes (NOPAT) – Capital charge. Figure 5 below shows a more elaborated calculation of Economic Value Added.
Figure 5. EVA calculation (Fletcher and Smith, 2004, p. 2)
In order to calculate EVA, adjustments should be made to NOPAT and capital. According to Cagle et al. (2003, p. 66), several possible adjustments can be made. These adjustments can fall into the following categories: better matching of expenses with revenue generated,
Net sales
- Operating expenses
= Operating profit (or earnings before interest and taxes, EBIT) - Taxes
= Net operating profit after taxes (NOPAT)
financing versus operating, operating versus non-operating and reality/accountability. Alongside these adjustments, an important element of EVA is the capital charge. The capital charge is the product of the firm‟s weighted-average cost of capital (WACC) and the amount of book capital at the measurement date. Once the adjustments are made and NOPAT, capital and the cost of capital are determined, Economic Value Added can be calculated.
Economic Value Added is meant to develop a value creation culture when used in financial management practices and when linked to compensation (Cagle et al., 2003, p. 65). Managers should be rewarded or penalized according to the attainment of target levels of EVA. However, a note of caution should be made here. EVA depends to some extent on the history of an organization. According to Otley (1999, p. 372), EVA is a historic income measure and it provides therefore no indication of the organization‟s performance in the future. EVA could create a so-called „inheritance effect‟, which means that managers can benefit from or be penalized by the past history of an organization (Otley, 1999, p. 373). Managers often do not like this risk. Furthermore, providing rewards based on barely financial targets may also be inappropriate, e.g. it could create dysfunctional short-term behavior.
So, EVA is mainly relying on historical, financial measures (e.g. profit margin, level of capital invested in firm, asset turnover, etc.). These lagging measures are no real indication of future performance (Otley, 1999, p. 372). Therefore, for EVA to be more future-oriented, it must integrate non-financial leading measures (e.g. innovation, product quality). Only relying on financial measures is not appropriate in the current environment, as also shown by the broad definition of performance measurement systems that is used in this research. Further, the emphasis on financial measures creates, as mentioned in paragraph 4.2.1, only external commitment. Another harmful consequence of the main emphasis on financial measures could be the risk that employees take actions to improve their performance indicators without producing any positive outcomes for the organization. The manipulation of data in order to make the performance look good is an example of this. This harmful practice is called gamesmanship (Merchant and Van der Stede, 2007, pp. 184-186). Hence, to attain more control non-financial measures should be taken into account.
So, when applying Economic Value Added, several issues and decisions have to be dealt with. These are, e.g. how or whether to link EVA to compensation, determining which adjustment should be made to capital and NOPAT, identifying EVA centers that will have EVA responsibility and center adjustments, making capital charge decisions and other miscellaneous considerations. In addition, Economic Value Added requires a commitment of resources, human and monetary, for training, consulting, communicating, measuring development and maintaining separate books for preparing the measure (Cagle et al., 2003, p. 70).
Hence, EVA could be applied as a performance measurement system to measure overall financial performance and to enhance shareholder value. However it is not recommended to use it as the only performance measurement system as it emphasizes primarily financial measures.
4.2.4 Beyond Budgeting (BB)
Budgeting. The vision of Beyond Budgeting is the following (Player, 2003, p. 9): „to
transform the performance potential of an organization by breaking free from the annual performance trap and releasing the full power of front-line people and their tools at their disposal‟. In order to foster this, an organization should implement more adaptive processes
and radical decentralization (Player, 2003, p. 5). These two opportunities/steps of Beyond Budgeting are explained now.
The first opportunity/step is enabling adaptive processes. BB enables adaptive processes by determining goals on rolling medium-term benchmarks, basing evaluation and rewards on relative performance with hindsight and using action plans on a continuous and inclusive process. Furthermore, making resources available as required and ensuring people are accountable after the event are also important in order to achieve adaptive processes. Coordinating cross-company actions according to prevailing customer demands and basing performance measures and controls on continuous reviews against rolling medium-term goals should also be considered to enable adaptive processes (Player, 2003, p. 6).
The second, rather broad opportunity/step is to enable radical decentralization and the transfer of power to front-line people. Providing people in the front-line more of a strategic voice will lead to reconnection of these people to the organization‟s purpose and its strategic goals (Player, 2003, p. 8). In adaptive and decentralized organizations which apply BB, several conditions should be created (Player, 2003, p. 7). Hence, leaders should create a high-performance climate based on competitive success at every level of the organization, leaders should provide a governance framework based on clear boundaries and principles and they also have to empower people to make decisions that are not based on specific plans but that are congruent with strategic goals. Moreover, leaders should empower people to act by providing them resource capabilities and make people accountable for satisfied and profitable customers. Furthermore, for BB to be successful, leaders should as well support open and transparent information systems that provides „one truth‟ throughout the organization. The two opportunities/steps and the results of these two opportunities (e.g. cost savings, less gaming, more innovation) are presented by figure 6 below.
