Part 5

CAFCINTER CAFINAL CA
FINAL CA
MAY '19
REVISION NOTES
Costing
Part - V
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J. K. SHAH CLASSES FINAL C.A. - COSTING
INTRODUCTION TO STRATEGIC COST MANAGEMENT
Chapter Overviews
Limitations of
Strategic Cost
Traditional Cost Vision Mission
Management
Management
Components of Strategic
Cost Management
• Strategic Positioning Value Shop
• Cost Driver Analysis Model
• Value chain Analysis
Strategic Frameworks for The Value Chain Approach for

Value Chain analysis Assessing Competitive Advantage
Industry Core segmentation Internal Internal Vertical

Structure Competencies Analysis Cost Differentiation Linkage
Analysis Analysis Analysis Analysis Analysis
Traditional Cost Management

Traditional cost management system involves allocation of costs and overheads to the production
and focuses largely on cost control and cost reduction.
Limitations of Traditional Cost Management

Ignores Competition, Market Growth, and Customer Requirement
Excessive Focus on Cost Reduction
Ignores Dynamics of Marketing and Economics
Limited Focus on Review and Improvisation
Reactive Approach
Short-term Outlook
Strategic Cost Management

Strategic cost management is the application of cost management techniques so that they
improve the strategic position of a business as well as control costs.
It also involves integrating cost information with the decision-making framework to support
the overall organisational strategy.
It is not limited to controlling costs but using cost information for management decision
making.
The basic aim of Strategic Cost Management is to help the organisation to achieve the
sustainable competitive advantage through product differentiation and cost leadership.
Components of Strategic Cost Management

Strategic Cost Management primary revolves around three business themes - Value Chain
analysis, Cost driver analysis and Strategic positioning analysis.
Valur Chain Analysis
Cost Driver Analysis
Strategic Positioning Analysis
:1: REVISION NOTES – MAY ‘19
Strategic Positioning Analysis
Strategic Positioning Analysis is a company’s relative position within its industry matters for
performance. Strategic positioning reflects choices a company makes about the kind of value it
will create and how that value will be created differently than rivals. e following factors affect the
strategic position of a company –
Strategic Position
External Enviroment
Organisation Values, Culture and Systems
Internal Enviroment (Resources and Competencies)
External environment can be analysed using models like PESTEL (Political, Economic, Social,
Technological, Environmental and Legal factors) and Porter’s 5 forces.
Cost Driver Analysis

Cost is caused or driven by various factors which are interrelated. Cost is not a simple function of
volume or output as considered by traditional cost accounting systems. Cost driver concept is
explained in two broad ways in strategic cost management parlance – Structural cost drivers and
Executional cost drivers.
Structural cost drivers are the organisational factors which affect the costs of a firm’s product. -
These factors drive costs of an organisation in varied ways. e scale and scope of operation of a
company will impact the costs.
Executional cost drivers are based on firm’s operational decision on how the various resources
are employed to achieve the goals and objectives. These cost drivers are determined by
management style and policy. e participation of workforce towards continuous improvement,
importance of total quality management, efficiency of plant layout etc. are examples of
executional cost drivers. A company must focus on those cost drivers which is of strategic
importance.
Value Chain Analysis

“Value-chain analysis is a process by which a firm identifies & analyses various activities that add
value to the final product”
The idea is to identify those activities which do not add value to the final product/service and
eliminate such non-value adding activities.
The analysis of value chain helps a firm obtain cost leadership or improve product
differentiation.
Resources must be deployed in those activities that are capable of producing products
valued by customers.
Firm Infrastructure
(General Management, Accounting, Finance, Strategic Planning)
Human Resource Management
Support Activities
(Recruiting, Training, Development)

Technology Development
Margin
(R & D, Product and Process Improvement)

Procurement
(Purchasing of Raw, Materials, Machines, Suppliers)
Inbound Operations Outbound Marketing & Sales Service
Logistics (Raw (Machining, Logistics (Advertising (Installation
Materials, Assembling, (Warehosuing Promotion, Repair Parts)
Handling and Texting and Distribution Pricing, Channel
Warehousing) Products) of Finished Relations)
Products)

Primary activities
Primary activities are those which are directly involved in transforming of inputs (Raw Material)
into outputs (Finished Products) or in provision of service. Secondary activities (also known as
support activities) support the primary activities.
Strategic Frameworks for Value Chain Analysis

The Value Chain analysis requires strategic framework for organizing varied information. e
following three are generally accepted strategic framework for Value Chain analysis.
Industry Structure Analysis

An industry might not yield high profits just because the industry is large or growing. e five forces
suggested by Porter’s play an important role in determining profit potential of the firms in an
industry. Factors which influence profitability are:
Threat of new entrants
Bargaining power of buyers
Threat of substitute products or services
Bargaining power of suppliers
Rivalry among existing competitors
The five forces analysis helps a firm to better understand the industry value chain and its
competitive environment.
Core Competencies Analysis

Core Competency is a distinctive or unique skill or technological knowhow that creates distinctive
customer value. A core competency is the primary source of an organisation’s competitive
advantage. The competitive advantage could result from cost leadership or product
differentiation. There are three tests useful for identifying a core competence.
Core Competence
End – product benefits
Access to a wide variety of markets
Difficult for competitions to imitate
In order to attain superior performance and attain competitive advantage, a firm

must have distinctive competencies. Distinctive competencies can take any of the
following two forms:
An offering or differentiation advantage. If customers perceive a product or service
as superior, they become more willing to pay a premium price relative to the price
they will have to pay for competing offerings.
Relative low-cost advantage, under which customers gain when a company’s total
costs undercut those of its average competitor.
Segmentation Analysis
A single industry might be a collection of different market segments. is analysis will reveal the
competitive advantages or disadvantages of different segments. A firm may use this information
to decide to exit the segment, to enter a segment, reconfigure one or more segments, or embark
on cost reduction/ differentiation programs.
The Value Chain Approach For Assessing Competitive Advantage

The value chain model can be used by business to assess the competitive advantage.
Companies must not only focus on the end product/ service but also on the process/ activities
involved in creation of these products/ services. e value chain approach can be used to better
understand the competitive advantage in the following areas:

Internal Cost Analysis
Organisations can use the value chain analysis to understand the cost of processes and activities
and identify the source of profitability.
Internal Differentiation Analysis

Companies can also use value chain analysis to create and offer superior differentiation to the
customers. e focus is on improving the value perceived by customers on the companies’ products
and service offering. e firms must identify and analyse the value creating process and carry out a
differentiation analysis.
Vertical Linkage Analysis

A company generates competitive advantage not only through linkages of internal processes
within a firm but also through linkages between a firm’s value chain and that of suppliers or users.
A vertical linkage analysis includes all upstream and downstream activities throughout the
industry.
In the SCM frame work, effective cost management involves a broad focus which Porter calls the
value chain. It is a strategic tool used to analyse internal firm activities. Its goal is to recognize,
which activities are the most valuable (i.e. are the source of cost or differentiation advantage) to the
firm and which ones could be improved to provide competitive advantage. Cost leadership can be
achieved through techniques like target costing. Product differentiation is directly proportional to
market movements and changing business requirements.
Value Shop Model or Service Value Chain
This concept aims to serve companies from service sector. In value shop principle, no value
addition takes place. It only deals with the problem, figure-out the main area requires its service
and finally comes with the solution. is approach is designed to solve customer problems rather
than creating value by producing output from an input of raw materials. e model has the same
support activities as Porter’s Value Chain but the primary activities are described differently. In
the value shop they are:
Problem finding and acquisition.
Problem solving.
Choosing among solutions.
Execution and control/evaluation.
Infrastructure
Human- resource Management
Procurement
Problem Finding Problem

and Acquisition Solving
Choice
Control/ Execution
Evaluation
The management in a value shop focuses on areas like problem and opportunity assessment,
resource mobilization, project management, solutions delivery, outcome measurement, and
learning.
MODERN BUSINESS ENVIRONMENT

Chapter Overview
Modern Business Environment
Quality Management • Theory of Constrains Supply Chain • Gain Sharing

• Throughput Accounting Management Arrangement
• Outsourcing
Total Quality Management Business Excellence Model • Key Process

Cost of Quality • Push / Pull Model
• Components • 6 Cs • EFQM
• Deming’s 14 points • Baldrige Criteria • Upstream-flow Management
• Optimal COQ • Downstream-flow
• PDCA Cycle • Organisation Culture
Management
• Criticism
• Service Level Agreements
• Prevention Costs • Concepts of Excellence • Relationship with Suppliers

• Relationship Marketing
• Appraisal Costs • Conceptual Framework • Use of Information
Technology • Customer Relationship
• Internal Failure Costs • Logic Assessment Framework
Management
• External Failure Costs
• Use of Information
Technology
• Brand Strategy
Modern Business Environment

Today’s business environment is that of a buyer’s market. This trend is the result of international
transitions and macroeconomic, technological, political, and social changes. e challenge for
businesses today is to satisfy their customers through the exceptional performance of their
processes.
Cost Of Quality (COQ)

Mr. Philip B. Crosby in his book ‘Quality is Free’ referred to the COQ costs in two broad
categories namely ‘Price of Conformance’ and ‘Price of Non-conformance’. ese two can be
bifurcated further in to prevention & appraisal costs and internal & external failure costs.Hence,
COQ is often referred as PAF (Prevention, appraisal & failure) model. In other words, ‘Price of
Conformance’ is known as ‘Cost of Good quality’ and ‘Price of Non-conformance’ is often termed
as ‘Cost of Poor Quality’.
Cost of Quality
Cost of Poor Cost of Good

Quality Quality
Internal External Appraisal Prevention

Failure Costs Failure Costs Costs Costs

Prevention Costs
• The costs incurred for preventing the poor quality of products and services may be termed
as Prevention Cost.
• They are planned and incurred before actual operation and are associated with the design,
implementation, and maintenance of the quality management system.
Appraisal Costs
• The need of control in product and services to ensure high quality level in all stages,
conformance to quality standards and performance requirements is Appraisal Costs.
• Appraisal Cost incurred to determine the degree of conformance to quality requirements
(measuring, evaluating or auditing).
Internal Failure Costs
• These are costs that are caused by products or services not conforming to requirements or
customer/user needs and are found before delivery of products and services to external
customers.
• Deficiencies are caused both by errors in products and inefficiencies in processes.
External Failure Costs
• These costs occur when products or services that fail to reach design quality standards are
not detected until transfer to the customer.
Optimal COQ
It is generally accepted that an increased expenditure in prevention and appraisal is likely to
result in a substantial reduction in failure costs. Because of the trade off, there may be an
optimum operating level in which the combined costs are at a minimum.
Total Quality Management (TQM)

Total Quality Management (TQM) is a management strategy aimed at embedding awareness of
quality in all organizational processes. TQM requires that the company maintain this quality
standard in all aspects of its business. is requires ensuring that things are done right the first time
and that defects and waste are eliminated from operations. TQM is a comprehensive
management system which:
• Focuses on meeting owner’s/ customer’s needs, by providing quality services at a
reasonable cost.
• Focuses on continuous improvement.
• Recognizes role of everyone in the organization.
• Views organization as an internal system with a common aim.
• Focuses on the way tasks are accomplished.
• Emphasizes teamwork.

Plan–Do–Check–Act (PDCA) Cycle

Deming developed the Plan – Do – Check – Act cycle. PDCA Cycle describes the activities a
company needs to perform in order to incorporate continuous improvement in its operation.
Plan
Establish obectives and
develop action plans
Act DO
Take corrective action Implement the process planned
Check
Measure the effectiveness
of new process
Deming outlined his philosophy on quality in his famous “14 Points.” These points are principles
that help guide companies in achieving quality improvement.
Criticisms of Total Quality Management

• The focus on documentation of process and ill-measurable outcomes;
• The emphasis on quality assurance rather than improvement;
• An internal focus which is at odds with the alleged customer orientation; and
• May not be appropriate for service based industries
The Business Excellence Model

Business Excellence (BE) is a philosophy for developing and strengthening the management
systems and processes of an organization to improve performance and create value for
stakeholders. The essence of this approach is to develop quality management principles that
increase the overall efficiency of the operation, minimize waste in the production of goods and
services, and help to increase employee loyalty as a means of maintaining high standards
throughout the business by achieving excellence in everything that an organization does
(including leadership, strategy, customer focus, information management, people and
processes). Several business excellence models exist world-wide. While variations exist, these
models are all remarkably similar. The most common include;
• EFQM Excellence Model
• Baldrige Criteria for Performance Excellence
• Singapore BE Framework
• Japan Quality Award Model
• Australian Business Excellence Framework
EFQM Excellence Model
The EFQM model is a practical, non-prescriptive tool that enables organizations to understand
the cause and effect relationships between what their organisation does and the results it
achieves. The EFQM model presents a set of three integrated components:
• The Fundamental, concepts of excellence
• The Criteria, conceptual framework
• The RADAR, logic assessment framework
Baldrige Criteria for Performance Excellence
This model provides the foundation for most of the business excellence models adopted around
the world. e framework is built round the seven categories i.e.,
• Leadership,
• Strategic planning,
• Customer and market focus,
• Measurement analysis and knowledge management,
• Workforce,
• Process management and
• Business results.
Business Excellence Model and Organizational Culture
• Business Excellence approach focuses on strengthening the internal function and
communication, looks towards the cultivation of strong ties with consumers and can be
incorporated into the culture.
• Excellence cannot be attained if the staffs are forced to conform to certain norms. ey have
to be critically managed and motivated.
Theory of Constraints
Operational Measures of Theory of Constraints
The theory of constraints focuses on revenue and cost management when faced with
bottlenecks. It advocates the use of three key measures. These are:
Core Measures Definition
Throughput (T) • Throughput as a TOC measure is the rate of generating money in
an organization through Sales.
• Throughput = (Sales Revenue – Unit Level Variable Expenses)/
Time
• Direct Labour Cost is viewed as fixed unit level expenses and is not
usually included.
Investment (I) • This is money associated with turning materials into throughput and
do not have to be immediately expensed.
• Includes assets such as facilities, equipment, fixtures and
computers.
Operating Expense • Money spent in turning Investment into throughput and therefore,
(OE) represents all other money that an organisation spends.
• Includes direct labour and all operating and maintenance expenses.
Based on these three measures, the objectives of management can be expressed as increasing
throughput, minimizing investment and decreasing operating expenses.

Goldratt’s Five-Step Method for Improving Performance

The key steps in managing bottleneck resources are as follows:
Throughput Accounting
Several ratios were defined by Galloway and Waldron based on the definition of throughput.
throughput Accounting Ratio:

If the TA ratio is greater than 1 the product in question is “profitable” because, if all capacities
were devoted to that product, the throughput generated would exceed the total factory cost. If
there was a bottleneck, products could be ranked by a variant of the TA ratio (although the
ranking is the same as that derived by the use of throughput per bottleneck minute). Other
Performance Ratios suggested include:

And


Supply Chain Management
The Global Supply Chain Forum (GSCF) defines Supply chain management as the “integration of
key business processes from end user through original suppliers that provides products,
services, and information that add value for customers and other stakeholders”.
Types of Supply Chain – Push and Pull

Push Model
Supplier Manufacturer Distributor Retailer Customer
Supply to Production Based Inventory Based Stock Based Purchase What
Forecast on Forecast on Forecast on Forecast is Available
Pull Model
Supplier Manufacturer Distributor Retailer Customer
Supply to Production to Automatically Automatically Customer
Order Order Replenish Warehouse Replenish Stock Orders
Upstream and Downstream Flow

A supply chain begins right from the supplier and finally ends on end customer or consumer. In
the total chain, there are flows of material, information and capital or finance. When the flow
relates to supplier, it is termed as upstream flow. If the flow is with consumers or customers, it is
named as downstream flow.
Management of Upstream Supplier Chain

Management of transactions with suppliers are termed as upstream supply chain management.
Upstream Supply Chain Management

Relationship with Suppliers
Use of Information Technology
E-Sourcing
E- Purchasing
E- Payment
Relationship with Suppliers

Supplier capabilities of innovation, quality, reliability and costs/ price reductions and agility to
reduce risk factors all have witnessed significant changes when aligned with key suppliers.
Greater value can be achieved for both businesses, something that would be difficult to achieve if
operating independently.
Use of Information Technology

The main activities of upstream supply chain are procurement and logistics. In modern business
environment upstream supply chain management use E-Procurement process. E-Procurement is
the electronic methods beginning from identification of the organization’s requirements and end
on payment. E-Procurement includes E-Sourcing, E-Purchasing and E-Payment.
Downstream Supply Chain Management

Management of transactions with consumers or customers are termed as downstream supply
chain management.
: 10 : REVISION NOTES – MAY ‘19

Down Stream
Supply
Relations Customer’s Use of Brand

hip Relationship Information
Analysis of
Customers and their
Six
Markets
Customers Account
Profitability (CAP)
Customers Lifetime
Value (CLV)
Custmer’s Selection
Acquisition, Retention
and Extension
Relationship Marketing
Marketing plays a vital role to successfully handle the downstream supply chain management.
The Relationship marketing helps the organization to keep existing customer and to attract new
customers through helpful staff, quality service / product, appropriate prices and proper customer
care etc.
Six Markets Model identifies the six key “market domains” where organizations may consider
directing their marketing activities.
The six markets model suggests that a firm must regulate its actions towards developing
appropriate relationships with each of the market areas as the management of relationships in
each of the six markets is critical for the attainment of customer retention objective. The growing
interest in relationship marketing suggests a shift in the nature of marketplace transactions from
discrete to relational exchanges, from exchanges between parties with no past history and no
future to interactions between parties with a history and plans for future interaction.

Customers Relationship Management
To manage and analyse customer’s interaction and data throughout the life cycle with the main
motive of improving business relations the strategies and technologies used is Customer
Relationship Management (CRM). Relation includes relations with customers, assisting in
customer retention and driving sales growth. CRM is knowing the needs of the customers and
providing them with best possible solution.
Analysis of Customers and their Behaviour

Analysis of customers is necessary based on geographical location or purchasing characteristics.
For industrial customer expectation of benefits - quality, discount, serviceability, size of the
should be taken into consideration. During such analysing process, management should keep in
mind the physiological need, safety need, social need, status/ ego need and self-fulfilment need
of existing and future customers.
Customers Account Profitability (CAP)

Undertaking a customer account profitability improvement initiative is a five-step process:
1. Analyse the customer base and split it into the segments.
2. Calculate the annual revenues earned from the customer.
3. Calculate the annual costs of serving the segment.
4. Identify and retain quality customers.
5. Re-engineer / eliminate the unprofitable segments.
Customers Lifetime Value (CLV)

Customer Life time value is the present value of net profit that we derive from a customer over
the entire lifetime of relationship with that particular customer. It is the net present value of the
projected future cash flows from a lifetime of customer relationship. It is an essential tool used in
marketing to focus on more profitable customers and stop servicing non-profitable customers.
Customer’s Selection, Acquisition, Retention and Extension

Customer Selection – Type of customer which the company sneeds to target has to be
selected.
Customer Acquistion – A relationship needs to be developed with in new customers.
Customer Retention – Keeping existing customers.
Customer Extension – the products bought by the customers need to be increased.
The use of Information Technology in Downstream

Supply Chain Management
In managing downstream supply chain, organizations link their sales system to the purchasing
system of its customer through Electronic Data Change. Using E-Business, they sell products.
Intelligence gathering is used to monitor the online customer transactions.
E-mail is the way through which organization keeps in touch with customers. Use of IT results in
quick action, reduction in associated cost and saving in time.
Brand Strategy
Specially branding of product makes a huge difference in its appeal to customers. Branding can
be usage of logo or specific colour or any other means which makes the product or service
distinctively visible among others.
Gain Sharing Arrangements
Gain sharing is an approach to the review and adjustment of an existing contract, or series of
contracts, where the adjustment provides benefits to both parties.
Outsourcing
Outsourcing is a business practice used by companies to reduce costs or improve efficiency by
shifting tasks, operations, jobs or processes to another party for a span of time.

LEAN SYSTEM AND INNOVATION
CHAPTER OVERVIEW
Lean System
“Lean System is an organized method for waste minimization without sacrificing productivity
within a manufacturing system. Lean implementation emphasizes the importance of optimizing
work flow through strategic operational procedures while minimizing waste and being adaptable.”
There are generally 7 types of wastes:
Seven Wastes
Transportation Inventory Motion Waiting Over- Over- Defects

Processing Production
Most of lean system techniques are based on following principles:

• Perfect first-time quality
• Waste minimization
• Continuous improvement
• Flexibility
The characteristics of lean manufacturing:
• Zero waiting time
• Zero inventory
• Pull processing
• Continuous flow of production
• Continuous finding ways of reducing process time.
Just-In-Time (JIT)
CIMA defines:
“System whose objective is to produce or to procure products or components as they are
required by a customer or for use, rather than for stock. Just-in-time system Pull system, which
responds to demand, in contrast to a push system, in which stocks act as buffers between the
different elements of the system such as purchasing, production and sales”.
A complete JIT system begins with production, includes deliveries to a company’s production
facilities, continues through the manufacturing plant, and even includes the types of transactions
processed by the accounting system.

Features
Spare Parts / Material from suppliers on the exact date and at the exact time when they are
needed
Straight delivery to the production floor for immediate use in manufactured products
Visit of engineering staff at supplier sites to examine suppliers processes
Installation of EDI system that tells suppliers exactly how much of which parts are to be sent
Dropping off products at the specific machines
Shorten the setup times
Eliminating the need for long production runs / Streamlined flow of parts from machine to
machine.
Training to employees how to operate a multitude of different machines, perform limited
maintenance.
Several alterations in the supporting accounting systems.
Essential Pre-requisites of a JIT system
• Low variety of goods
• Vendor reliability
• Good communication
• Demand stability
• TQM
• Defect-free materials
• Preventive maintenance
Impact of JIT System on
• Waste Costs: When fully installed, a JIT system vastly reduces all these types of waste.
When this happens, there is a sharp drop in several aspects of a product’s costs.
• Overhead Costs: e costs of material handling, facilities, and quality inspection decline when
a JIT system is installed.
• Product Prices: When a company achieves a higher level of product quality, along with
ability to deliver products on the dates required, customers may be willing to pay a premium.
Performance Measurements in a JIT System
Many of the performance measurement measures used under a traditional accounting system
are not useful in a JIT environment, while new measures can be implemented that take
advantage of the unique characteristics of this system.
• Machine utilization measurements can be discarded under JIT environment.
• Another inappropriate measurement is any type of piece rate tracking for each employee.
• Any type of direct labour efficiency tracking is highly inappropriate in a JIT system.
• Installing a JIT system does not mean that there should be a complete elimination of
operational measures.
Back-flushing in a JIT System

Back-flushing requires no data entry of any kind until a finished product is completed.
Kaizen Costing
This philosophy implies that small, incremental changes routinely applied and sustained over a
long period result in significant improvements.
Kaizen Costing Principles
• The system seeks gradual improvements in the existing situation, at an acceptable cost.
• It encourages collective decision making and application of knowledge.
• There are no limits to the level of improvements that can be implemented.
• Kaizen involves setting standards and then continually improving these standards to
achieve long-term sustainable improvements.
• The focus is on eliminating waste, improving systems, and improving productivity.
• Involves all employees and all areas of the business.
5S
5S is the name of a workplace organization method that uses a list of five Japanese words: seiri,
seiton, seiso, seiketsu, and shitsuke. It explains how a work space should be organized for
efficiency and effectiveness by identifying and storing the items used, maintaining the area and
items, and sustaining the new order.
1. Sort (Seiri): Make work easier by eliminating obstacles and evaluate necessary items.
2. Set in Order (Seiton): Arrange all necessary items into their most efficient and accessible
arrangements.
3. Shine (Seiso): Clean your workplace on daily basis completely or set cleaning frequency.
4. Standardize (Seiketsu): Standardize the best practices in the work area.
5. Sustain (Shitsuke): Not harmful to anyone, training and discipline, to maintain proper
order.
5S methodology is being applied to a wide variety of industries including Manufacturing, Health
care, Education & Government.
Total Productive Maintenance (TPM)

Total Productive Maintenance (TPM) is a system of maintaining and improving the integrity of
production and quality systems. This is done through the machines, equipment, processes, and
employees that add to the value in Business Organisation. TPM helps in keeping all equipment in
top working condition so as to avoid breakdowns and delays in manufacturing processes.
TPM Strategy focuses on eight pillars of success with 5S strategy as foundation.

TPM Goals: Zero Defects, Zero Breakdowns, Zero Accidents.
• Autonomous Maintenance
• Planned Maintenance
• Focused Improvement
• Early Equipment Management
• Quality Maintenance
• Education & Training
• TPM in the Office
• Safety & Environmental Management
Performance Measurement in TPM

The most important approach to the measurement of TPM performance is known as Overall
Equipment Effectiveness (OEE) measure.
Performance × Availability × Quality = OEE %
OEE may be applied to any individual assets or to a process. It is unlikely that any manufacturing
process can run at 100% OEE. According to Dal et al (2000), Nakajima (1998) suggested that
ideal values for the OEE component measures are:
Availability > 90%
Performance > 95%
Quality > 99%
Accordingly, OEE at World Class Performance would be approximately 85%. Kotze (1993)
contradicted, that an OEE figure greater than 50% is more realistic and therefore more useful as
an acceptable target.
Cellular Manufacturing/ One Piece Flow Production System

A Sub Section of JIT and Lean System is Cellular Manufacturing. It encompasses a group
technology. e goals of cellular manufacturing are:
• To move as quickly as possible,
• Make a wide variety of similar products,
• Making as little waste as possible.

Six Sigma
It is quality improvement technique whose objective is to eliminate defects in any aspect that
affects customer satisfaction. The premise of Six Sigma is that by measuring defects in a
process, a company can develop ways to eliminate them and practically achieve “zero defects”.
Six sigma can be used with balanced scorecard by providing more rigorous measurement system
based on statistics.
Numerical Concept of Six Sigma

‘Sigma’ is a statistical term that measures how far a process deviates from perfection. e higher
the sigma number, the closer the process is to perfection.
The values of Defect Percentage

Six Sigma is 3.4 defects per million opportunities or getting things right 99.99966% of the time. It
is possible to develop ways of reducing defects by measuring the level of defects in a process
and discovering the causes.
Implementation of Six Sigma

There are two methodologies for the implementation of Six Sigma- DMAIC: is method is very
robust. It is used to improve existing business process. To produce dramatic improvement in
business process, many entities have used it successfully. It has five phases:
1. Define the problem, the project goals and customer requirements.
2. Measure the process to determine current performance.
3. Analyze the process to determine root causes of variation and poor performance (defects).
4. Improve the process by addressing and eliminating the root causes.
5. Control means maintaining the improved process and future process performance.
DMADV: The application of these methods is aimed at creating a high-quality product keeping in
mind customer requirements at every stage of the product. It is an improvement system which is
used to develop new processes or products at Six Sigma quality levels.
Phases are described in diagram:
1. Define the project goals and customer deliverables.
2. Measure and determine customer needs and specifications.
3. Analyze the process options to meet the customer needs.
4. Design (detailed) the process to meet customer needs.
5. Verify the design performance and ability to meet customer needs.
Both DMADV and DMAIC are fundamental six sigma methodologies for improving quality of
product/process. Broadly, DMAIC deals with improving some existing process to make it align
with customer’s needs while DMADV deals with new design or redesign.
Lean Six Sigma

Lean Six Sigma is the combination of Lean and Six Sigma which help to achieve greater results
that had not been achieved if Lean or Six Sigma would have been used individually. It increases
the speed and effectiveness of any process within any organization.
By using lean Six Sigma, organisations will be able to Maximize Profits, Build Better Teams,
Minimize Costs, and Satisfy Customers.
Process Innovation
Process Innovation means the implementation of a new or significantly improved production or
delivery method (including significant changes in techniques, equipment and/ or software).

Business Process Reengineering
Hammer defines Business Process Reengineering (BPR) (or simply reengineering) as “the
fundamental rethinking and radical redesign of business processes to achieve dramatic
improvements in critical contemporary measures of performance, such as cost, quality, service,
and speed.”
Principles of Business Process Re – engineering

Organize around outcomes
Have those who need the results of a process perform the process
Integrate the processing of information into the work process that produces the information
Treat geographically dispersed resources as though they were centralized
Line parallel activities instead of integrating their results
Put the decision point where the work is performed, and build controls into the process
Capture information once and at the source
Main Stage of BPR
Process Identification
Each task performed being re – engineered is broken down into a series of processes.
Process Reassembly
Re-engineered processes are implemented in the most efficient manner.
Process Rationalisation
Processes which are non-value adding, to be discarded.
Process Redesign
Remaining processes are redesigned.
Porter’s Value Chain is commonly used in Business Process Reengineering as a technique to

identify and analyse processes that are of strategic significance to the organisation.

COST MANAGEMENT TECHIQUES
Target Costing
It can be defined as “a structured approach to determining the cost at which a proposed product
with specified functionality and quality must be produced, to generate a desired level of
profitability at its anticipated selling price”.
In Target costing, we first determine what price we think the consumer will pay for our product.
We then determine how much of a profit margin we expect and subtract that from the final price. -
The remaining amount left is what is available as a budget to be used to create the product.
Components of Target Costing System

Typically, the total target is broken down into its various components, each component is studied
and opportunities for cost reductions are identified. These activities are often referred to as Value
Analysis (VA) and Value Engineering (VE).
Value Analysis is a planned, scientific approach to cost reduction which reviews the material
composition of a product and production design so that modifications and improvements can be
made which do not reduce the value of the product to the customer or to the user.
Value Engineering is the application of value analysis to new products. Value engineering
relates closely to target costing as it is cost avoidance or cost reduction before production.
The initial value engineering may not uncover all possible cost savings. us, Kaizen Costing is
designed to repeat many of the value engineering steps for as long as a product is produced,
constantly refining the process and thereby stripping out extra costs.
Further, Target Costing System is based on involving representatives of all the Value Chain such
as suppliers, agents, distributors and existing after-sales service in the target costing system.
Life Cycle Costing

Life Cycle Costing involves identifying the costs and revenue over a product’s life i.e. from
inception to decline. Life cycle costing aims to maximize the profit generated from a product over
its total life cycle. The life cycle of a product consists of four phases/ stages viz., Introduction;
Growth; Maturity; Saturation and Decline.
LIFE CYCLE CHARACTERISTICS

Introduction Growth Maturity Decline
Objective Create Product Maximise market Maximise profits Reduce
awareness & share while defending expenditure &
trial market share milk the brand
Sales Low sales Rapidly rising Peak Sales Declining sales
Costs Per High cost per Average cost per Low cost per Low cost per
Customer customer customer customer customer
Profits Negative Rising Profits High Profits Declining profits
Customers Innovators Early adopters Middle majority Laggards
Competitors Few Growing number Steady number Declining
beginning to number
decline
STRATEGIES
Introduction Growth Maturity Decline
Products Offer basic product Offer product Diversify brands Phase out weak
extensions, and models items
service & warranty
Price Cost plus profit Price to penetrate Price to match or Price cutting
market beat competitors
Advertising Build product Build awareness & Stress on brand Reduce level to
awareness amongst interest in mass differences and keep hard core
early adopters & market benefits loyalty
dealers
Distribution Build selective Build Intensive Build more Go selective:
distribution distribution intensive Phase out
distribution unprofitable
outlets
Sales Use heavy sales Reduce to take Increase to Reduce to
Promotion promotion to entice advantage of encourage brand minimal level
trial heavy consumer switching
demand

Pareto Analysis
Pareto Analysis is a rule that recommends focus on the most important aspects of the decision
making in order to simplify the process of decision making. It is based on the 80:20 rule that was
a phenomenon first observed by Vilfredo Pareto, a nineteenth century Italian economist. He
noticed that 80% of the wealth of Milan was owned by 20% of its citizens. is phenomenon, or
some kind of approximation of it say, (70: 30 etc.) can be observed in many different business
situations. e management can use it in a number of different circumstances to direct
management attention to the key control mechanism or planning aspects. It helps to clearly
establish top priorities and to identify both profitable and unprofitable targets.
Environmental Management Accounting [EMA]

• EMA identifies and estimates the costs of environment-related activities and seeks to
control these costs.
• The focus of EMA is not on financial costs but it also considers the environmental cost or
benefit of any decisions made.
• EMA is an attempt to integrate best management accounting thinking with best
environmental management practice.
Environmental Costs
Environmental Prevention Costs –

Those costs associated with preventing adverse environmental impacts.
Environmental Appraisal Costs –

The cost of activities executed to determine whether product process and activities are in
compliance with environmental standards, policies and laws.
Environmental Internal Failure Costs –

Costs incurred from activities that have been produced but not discharged into the environment.
Environmental External Failure Costs –

Costs incurred on activities performed after discharging waste into the environment. These costs
have adverse impact on the organisation’s reputation and natural resources.
Identification of Environmental Costs

To prepare environmental management accounts an intense review of general ledger containing
costs of materials, utilities and waste disposal etc. is required. Since the environmental costs are
generally ‘hidden’ in ‘general overheads’ of the company, it becomes difficult for management to
identify opportunities to cut environmental costs but nonetheless it is crucial for them to do so to
preserve natural resources getting scarcer.
In 2003, the UNDSD identified four management accounting techniques for the Identification and
Allocation of Environmental Costs:
Input-Output Analysis
This technique records material inflows and balances this with outflows on the basis that, what
comes in, must go out.
Flow Cost Accounting

This technique uses not only material flows but also the organizational structure. Classic material
flows are recorded as well as material losses incurred at various stages of production. Flow cost
accounting makes material flows transparent by using various data, which are quantities
(physical data), costs (monetary data) and values (quantities x costs).
The material flows are divided into three categories, material, system, and delivery and disposal.
Life Cycle Costing
Lifecycle costing considers the costs and revenues of a product over its whole life rather than one
accounting period. Therefore, the full environmental cost of producing a product will be taken into
account. In order to reduce lifecycle costs, an organization may adopt a TQM approach.
Activity Based Costing (ABC)

ABC allocates internal costs to cost centres and cost drivers on the basis of the activities that
give rise to the costs. In an environmental accounting context, it distinguishes between
environment-related costs, which can be attributed to joint cost centres, and environment driven
costs, which tend to be hidden on general overheads. The environment-driven costs are removed
from general overheads and traced to products or services. e cost drivers are determined based
on environment impact that activities have and costs are charged accordingly. is should give a
good attribution of environmental costs to individual products and should result in better control of
costs.
Controlling Environmental Costs

After Identification and Allocation of Environmental Costs, task of controlling starts. An
organization may try to control these costs as mentioned below-
Waste
‘Mass balance’ approach can be used to determine how much material is wasted in production,
whereby the weight of materials bought is compared to the product yield.
Water
Businesses pay for water twice – first, to buy it and second, to dispose of it. If savings are to be
made in terms of reduced water bills, it is important for organizations to identify where water is
used and how consumption can be decreased.
Energy
Often, energy costs can be reduced significantly at very little cost. Environmental management
accounts may help to identify inefficiencies and wasteful practices and, therefore, opportunities
for cost savings.
Transport and Travel

Again, EMA techniques may be used to identify savings in terms of travel and transport of goods
and materials. At a simple level, a business can invest in more fuel-efficient vehicles.
Consumables and Raw Materials

These are directly attributable costs and discussions with management can reduce such costs.
For example, toner cartridges for printers could be refilled rather than replaced.
Reasons for Controlling Environmental Cost
There are three main reasons why the management of environmental costs is becoming
increasingly important in organizations.
First, a ‘carbon footprint’ (as defined by the Carbon Trust) measures the total greenhouse gas
emissions caused directly and indirectly by a person, organization, event or product.
Second, environmental costs are becoming huge for some companies, particularly those
operating in highly industrialized sectors such as oil production. Such significant costs need to be
managed.
Third, regulation is increasing worldwide at a rapid pace, with penalties for non-compliance also
increasing accordingly.

Role of EMA in Product/ Process Related Decision Making
The correct costing of products is a pre-condition for making sound business decisions. e
accurate product pricing is needed for strategic decisions regarding the volume and choices of
products to be produced. EMA converts many environmental overhead costs into direct costs and
allocate them to the products that are responsible for their incurrence. e results of improved
costing by EMA may include:
• Different pricing of products as a result of re-calculated costs;
• Re-evaluation of the profit margins of products;
• Phasing-out certain products when the change is dramatic;
• Re-designing processes or products in order to reduce environmental costs and
• Improving housekeeping and monitoring of environmental performance.

PERFOMANCE MEASUREMENT AND EVALUATION
CHAPTER OVERVIEW
Performance
Benchmarking Measurement
and Evaluation
Responsibility Centre
• Cost Centre
Performance Reports • Revenue Centre Performance
• Profit Centre Measurement in the
• Investment Centre Not for Profit Sector
• VFM
• Adapted balanced
Divisional Scorecard
Performance
Measure
Financial Financial & Non - financial Social & Environment

• Return on investment • Balance Scorecard • Triple Bottomline
• Residual Income • The Performance Pyramid
• Economic Value Added • Building Block Model
• Shareholder Value Added • The Performance Prism
Linking CSFs to KPIs and Corporate Strategy
DIVISIONAL PERFORMANCE MEASURES

1. Pure Financial:
• Return on Investment (ROI)
• Residual Income (RI)
• Economic Value Added (EVA)
• Shareholder Value Added (SVA)
2. Other Measures:
• Balanced Scorecard
• The Performance pyramid
• Building Block Model
• The Performance Prism
• Triple Bottom Line (TBL)
Return on Investment (ROI)

♦ ROI expresses divisional profit as a percentage of the assets employed in the division.
♦ ROI is a common measure and thus is ideal for comparison across corporate divisions
for companies of similar size and in similar sectors. ROI can therefore lead to a lack of
goal congruence.

Residual Income (RI)
♦ To overcome some of the dysfunctional consequences of ROI, the residual income
approach can be used.
♦ For evaluating the economic performance of the division, residual income can be
defined as divisional contribution less a cost of capital charge on the total investment
in assets employed by the division.
♦ Residual income suffers from the disadvantages of being an absolute measure, which
means that it is difficult to compare the performance of a division with that of other
divisions or companies of a different size.
Economic Value Added (EVA)
♦ Economic Value Added is a measure of economic profit. Economic Value Added is
calculated as the difference between the Net Operating Profit after Tax (NOPAT) and
the Opportunity Cost of Invested Capital. is opportunity cost is determined by
multiplying the Weighted Average Cost of Debt and Equity Capital (WACC) and the
amount of Capital Employed.
EVA = NOPAT – WACC × Capital.
Shareholder Value Added (SVA)

A variation along the same concept as EVA. Rappaport suggested that future cash flows
should be discounted at a suitable cost of capital and that shareholder value would be
increased if this measure were to increase. According to Rappaport, the following seven
factors - he calls them “value driver”- affect shareholder value:
♦ Rate of Sales Growth
♦ Operating Profit Margin
♦ Income Tax Rate
♦ Investment in Working Capital
♦ Fixed Capital Investment
♦ Cost of Capital
♦ Life of the Project
Triple Bottom Line (TBL)

TBL incorporates the three dimensions-
1. Environmental: measures the impact on resources, such as air, water, ground and
waste emissions (Baumgartner & Ebner, 2010, p.79).
2. Social: relates to corporate governance, motivation, incentives, health and safety,
human capital development, human rights and ethical behaviour.
3. Economic: refers to measures maintaining or improving the company’s success.
Linking CSFs to KPIs and Corporate Strategy

In order to truly achieve effective measurement of business performance, the KPIs must be
selected and designed in a way that ensures that the CSF is delivered if the KPI meets the
threshold, and the CSFs in turn must be designed and constructed in a way that ensures
that the company’s strategic vision is delivered if the CSFs are met.3
Balanced Scorecard
The balanced scorecard is a method which displays organisation’s performance into four
dimensions namely financial, customer, internal and innovation. e four dimensions
acknowledge the interest of shareholders, customers and employees taking into account of
both long-term and short-term goals. Kaplan and Norton classified performance measures
into four business ‘perspectives’.
• Financial Perspective: Financial performance measures indicate whether the
company’s strategy implementation and execution are contributing to its revenue and
earnings.

• Customer Perspective: In this stage, companies identify customers and market
segments in which they compete and also the means by which they provide value to
these customers and markets.
• Internal Business Perspective: In this stage companies identify processes and
activities which are necessary to achieve the objectives as identified at financial
perspectives and customer perspective stage. These objectives may be achieved by
reassessing the value chain and making necessary changes to the existing operating
activities.
• Learning and Growth Perspective: In the learning and growth perspective,
Companies determine the activities and infrastructure that the company must build to
create long term growth, which are necessary to achieve the objectives set in the
previous three perspectives.
Performance Pyramid
The Performance Pyramid is also known as Strategic Measurement and Reporting
Technique by Cross and Lynch 1991. They viewed businesses as performance pyramids.
The attractiveness of this framework is that it links the business strategy with day-to-day
operations.
In the above pictorial presentation:

♦ ‘Objectives’ are shown from top to bottom.
♦ ‘Measures’ are from bottom to the top.
♦ At the top is the organization’s corporate vision through which long term success and
competitive advantages are described.
♦ The ‘business level’ focuses on achievements of organization’s CSF in terms of
market and financial measures.
♦ The marketing and financial success of a proposal is the initial focus for the
achievement of corporate vision.
♦ The above business are linked to achieving customers’ satisfaction, increase in
flexibility and high productivity.
♦ The above driving forces can be monitored using the operating forces of the
organization.
♦ The left-hand side of the pyramid contains external forces which are ‘non-financial’.
♦ On the other hand, the right-hand side of the pyramid contains internal efficiency which
are predominantly ‘financial’ in nature.

The Building Block Model
Fitzgerald and Moon proposed a Building Block Model which suggests the solution of
performance measurement problems in service industries. But it can be applied to other
manufacturing and retail businesses to evaluate business performance.
Performance Prism
The Performance Prism is an approach to performance management which aims to
effectively meet the needs and requirements of all stakeholders. is in contrast with the
performance pyramid which tends to concentrate on customers and shareholders and is
also in contrast with value based management, which prioritizes the needs of shareholders.
There are five ‘facets’ to the Performance Prism which lead to key questions for strategy
formulation and measurement design:
• Stakeholders Satisfaction: The organization needs to focus on who are the
stakeholders? What are the needs and wants of the stakeholders.
• Strategies: What are the strategies required by the organization to fulfill the wants and
needs of the stakeholders?
• Processes: What are the necessary processes required for satisfying the above
strategies?
• Capabilities: What capabilities does the organization need for operating and
enhancing the process?
• Stakeholders’ Contributions: It further takes into account what contribution does the
management need from its stakeholders?
Performance Measurement in the Not for Profit Sector

The following are key challenges for measuring performance in not for – profit organisations
–
Key Challenges:
• Benefits cannot be quantified
• Benefits may accrue over a longer term
• Measurement of utilisation of funds & expenditure
• Multiple objectives
Value for Money (VFM) Framework

A framework which can be used for measurement of performance in not – for – profit sector
is the Value for Money framework. Not-for profit organisations are expected to provide value
for money which is demonstrated by:
1. Effectiveness: Whether the organisation has achieved its desired mission and
objectives?
2. Efficiency: Whether the resources and funds available to the organisation has been
utilised efficiently i.e., maximum output has been obtained with minimum input?
3. Economy: Whether the desired output has been obtained using the lowest cost? It
must be noted that use of lowest cost approach should not compromise quality.
Adapted Balanced Scorecard

Kaplan developed the ‘Adapted Balanced Scorecard’ for measuring performance at NGOs. -
e main assumption of this adapted scorecard is that mission statement and not profits is the
main point to be met.
1. Customer Perspective: Satisfaction of beneficiary and other stakeholder’s interest.
2. Financial Perspective: Fund raising, funds growth and funds distribution.
3. Internal Processes Perspective: Internal efficiency, volunteer development and
quality.
4. Innovation and Learning Perspective: The capability of organisation to adjust to the
changing environment.
Other Performance Measures

♦ The ability to raise funds to meet the objectives efficiently.
♦ Submitting periodic reports to the stakeholders in a transparent manner
♦ The best use of financial as well as non-financial resources to achieve desired
objectives and mission.
♦ The long-term impact (benefits) of the activities of the not-for profit organisations.
♦ The quality of services provided by the organisations.
Performance Measurement Process.
The performance measurement The various objectives / mission of
process typically starts with the organisation is broken down
identification of the overriding and mapped with key strategies:
objectives and mission of the Stakeholder (Customer), Financial,
not – for – profit organisation. Internal Process and Learning &
This includes evaluating the Growth.
mission, vision and strategy on
a continuous basis.
The performance measures / The actual outcome is measured

key performance indicators and evaluated against the
of each of the perspectives is performance measures defined.
defined.
Any changes which are required

to the performance measures
are carried out after analysis of
the outcome on a periodic basis.

BUDGETARY CONTROL
CHAPTER OVERVIEW
Budgetary Control
Budget is an estimation of revenues and expenses over a specified future period of time
which needs to be compiled and re-evaluated on a periodic basis based on the needs of the
organisation.
Budgetary Control is the process by which budgets are prepared for the future period and
are compared with the actual performance for finding out variances, if any. In other words,
Budgetary Control is a process with the help of which, managers set financial and
performance goals, compare the actual results with the budgets, and adjust performance,
as it is needed.
Feedback and Feed-Forward Control

Feedback and Feed-forward are two types of control schemes for systems that react
automatically to changing environmental dynamics.
Feedback Control
Feedback as the name suggests is a reaction after an action has taken place. So, there has
to be an error if we want to take corrective actions.
According to the CIMA’s Official Terminology, It is defined as: ‘Measurement of differences
between planned outputs and actual outputs achieved, and the modification of subsequent
action and / or plans to achieve future required results. Feedback control is an integral part
of budgetary control and standard costing systems.’
A feedback system would simply compare the actual historical results with the budgeted
results.
Limitations
Feedback control system does have some operational limitations. First, it depends heavily
on success of the error detection system. Second, there may be a time lag between the
error detection, error confirmation, and error revision during which actual results may
change again.
Feed-forward Control
In certain cases, we may be able to measure the amount of error before it has actually
taken place. We may thus be able to place a control mechanism before the error takes
place. Feed-forward Control is one such Controlling system.
According to the CIMA’s Official Terminology, It is defined as the ‘forecasting of differences
between actual and planned outcomes and the implementation of actions before the event,
to avoid such differences.
A feed-forward control system operates by comparing budgeted results against a forecast.
Control action is triggered by differences between budgeted and forecasted results.
Any manager who ignores feed-forward control will contribute to the downfall of a company.
Limitations
1. The feed-forward process is an evaluation process and is concerned with the
estimates of uncertain future. This problem of uncertainty is likely to limit application of
the concept.
2. Study of future is not well developed; neither are the tools that have potential for
overcoming the problem of uncertainty.
The Effect of Budget Difficulty on Performance
“Budget level that motivates the best level of performance may not be achievable. In
contrast, the budget that is expected to be achieved motivates a lower level of performance
as managers no longer aspire to meet the budget target.” e balanced scorecard approach of
Kaplan and Norton, and the building block approach of Fitzgerald and Norton can be a great
help in ensuring that objectives (or targets), or budgets are set for a very wide range of
factors, both financial and non-financial.

Circumstances Where Top-Down Budget Setting is Preferable
1. Where personality characteristics of the participation may limit the benefits of
participation.
2. Where participation by itself is not adequate in ensuring commitment to standards and
managers can significantly influence the results.
3. Where a process is highly programmable and clear, stable input-output relationships.
4. Where a firm has large number of homogeneous units and operating in a stable
environment.
Use of Accounting Information in Performance Evaluation

Some dysfunctional consequences that arise with accounting measures of performance
may not be due to the insufficiency of the performance measures, but rather may be
outcome from the way in which the accounting measures are used. The accounting
information provided by an accounting system must be interpreted and used with care.
Hofstede (1968) found that stress on the actual results in performance evaluation led to
more extensive use of budgetary information, and this made the budget more relevant.
However, this
stress was associated with a feeling that the performance appraisal was unjust. To
overcome this problem, the correct balance must be established when the budgeted
performance is evaluated.
Hopwood (1976) observed three distinct styles of using budget and actual cost information
in performance evaluation in manufacturing division of a large US company:
♦ Budget Constrained Style: e evaluation is based upon the Cost Centre head’s ability
continually to meet the budget on short term basis.
♦ Profit Conscious Style: Performance of the Cost Centre’s head is linked to ability in
increase the general effectiveness of his unit’s operations in relation to the long- term
goals of the organisation.
♦ Non-Accounting Style: Accounting data plays a relatively unimportant part in the
supervisor’s evaluation of the Cost Centre head’s performance.
A Summary of the Effects of Three Styles of Management

Style of Evaluation
Budget - Profit – Non -
Constrained Conscious Accounting
Involvement with Costs High High Low
Job-related Tension High Medium Medium
Manipulation of Accounting Extensive Little Little
Information
Relations with Superiors Poor Good Good
Relations with Colleagues Poor Good Good
Beyond Budgeting (BB)

Limitations of Traditional Budgets
• Developed and updated too infrequently, usually annually.
• Time - consuming and costly to put together.
• Constrain responsiveness and flexibility.
• Concentrate on cost reduction and not on value creation.
• Often a barrier to change.
• Add little value, especially given the time required to prepare.
• Rarely strategically focused and are often contradictory.
To overcome these limitations a tool came into force known as Beyond Budgeting. Beyond
Budgeting is a leadership philosophy that relates to an alternative approach to budgeting
which should be used instead of traditional annual budgeting.
According to CIMA’s Official Terminology- ‘An idea that companies need to move beyond
budgeting because of the inherent flaws in budgeting especially when used to set contracts.
It is argued that a range of techniques, such as rolling forecasts and market related targets,
can take the place of traditional budgeting.’
BB identifies its two main advantages.

♦ It is a more adaptive process than traditional budgeting.
♦ It is a decentralised process, unlike traditional budgeting where leaders plan and
control organisations centrally.
Implementation of Beyond Budgeting

There are nine steps that Hope and Fraser consider to be essential to implementing the
Beyond Budgeting approach.
1. Define the Case for Change and Provide an Outline Vision.
2. Be Prepared to Convince the Board.
3. Get Started.
4. Design and Implement New Processes.
5. Train and Educate People.
6. Rethink the Role of Finance.
7. Change Behaviour – New Processes, Not Management Orders.
8. Evaluate the Benefits.
9. Consolidate the Gains.
Conclusion on Budgeting
1. Budgeting is evolving, rather than becoming obsolete – it depends on trust and
transparency.
2. Shift from the top – down, centralised process to a more participative, bottom – up
exercise in many firms.
3. It highlights the level of improvement that can be achieved even with relatively simple
modifications and a great deal of trust.
4. Budgeting has changed, the change has been neither dramatic nor radical. Instead,
incremental improvements, with traditional budgets being supplemented by new tools
and techniques.
5. Forecasting in fact is more important.

13
CASE STUDY
LEARNING OUTCOMES
After studying this chapter, you will be able to:

❑ Evaluate appropriate cost management and performance management
techniques in case studies and other exercises which simulate real-life
business situations to enhance the quality of decision-making and the
creation of shareholder value
❑ Understand the links between cost management, performance management
and strategic management within the context of an organisation’s strategy.
© The Institute of Chartered Accountants of India

13.2 STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION
Value Chain Analysis/

Value Recoginition
Value Shop Model
Total Quality
Management
Quality Management
Cost of Quality
Tools
Environmental Mgt. EFQM
Accounting Business Excellence
Model
Ethics & Non Financial Baldrige Criteria
Considerations Value Analysis/
Engineering
Business Process Re-
Strategic Cost Value Management
engineering
Management Process Innovation &
Re-engineering
Process Innovation
Target Costing
Cost Management
Life Cycle Costing
Techniques
Throughput Accounting
JIT, Kaizen, 5S, TPM,

Strategic Cost Management and
Lean System
Cellular Mfg., Six Sigma
Product Service &
Performance Evaluation
Delivery
Supply Chain Upstream and
Management Downstream Flow
Decision Making
Decision Making Internal Transfer Pricing
Pricing Decision
External
Linking of CSFs to KPIs
and Strategy
Financial ROI, RI, EVA, SVA
Performance Divisional Performance
Management Measures
BSC; TBL; Performance-
Non Financial
Prism, Pyramid etc.
Benchmarking
Standard Costing
Cost Control & Analysis Beyond Budgeting
Budgetary Control
Behavioural Aspects
Profitability Analysis Strategic Analysis;
Analysis Through ABC
Planning and
ABB & ABM
Forecasting Tools

CASE STUDY 13.3
ESSENTIALS FOR CASE STUDY

Case Study is not about the quantity, but the quality.
Prepare a plan for each issue.
Decide what models to use and prioritize the issues.
Identify the impact and alternative actions that could be taken, as well as the
relevant concepts and calculations required.
Answer should have a logical flow.
Offer a detailed analysis of the issues and conclude with sound, well justified
recommendations.
Not to spend too much time on calculations.
Do not place too much attention and time on the presentation.
Quality of discussion on each issue which is most important, not the ranking order.
Discuss each of the issues in depth, explaining their impact.
Do not leave any of the issue undecided.
Recommendations should include ‘what to do', 'why to do it' and 'how to do it’.
Identify ethical issues and then briefly justify.
Recommendation should appear at the end of the report.
Practice makes perfect.

CS-1: Value Chain Analysis, Balanced Scorecard, KPI

You are the Finance Manager of DP Limited which is in the business of manufacturing wire rods.
A division in the company manufactures copper wire rods from a single manufacturing plant in
Central India. The division purchases raw material (copper cathodes) from various suppliers
across the country. The cathodes are melted and wire rods of various dimensions are produced.
Each batch of wire rods produced are tested for quality and strength.
The wire rods are stored in rolls in the warehouse and dispatched in company owned trucks as
per the requirement of the customers. The customers are required to pay 50% of invoice value
as advance and balance 50% within 30 days of delivery of goods. The company prices its copper
wire rods based on the price prevailing on London Metal Exchange after adjus ting it with a factor
to cover conversion costs and profits.
The company explores newer markets by advertising in national dailies and participating in
various industrial events in India as well as abroad. An annual conference of customers is
conducted by the company to improve customer relationships and attract newer customers. The
customers have right to return the material if quality specifications are not met. There is a
separate team to handle such complaints.
The following email was sent by the Chief Financial Officer of the company to you.
--------------------------------------------------------------------------------------------------------------------- -------
From: Chief Financial Officer
To: Finance Manager
Subject – Commodity Price Fluctuation
The board is quite aware of foreign exchange fluctuation related risks. However, they are not
much aware of risks related to fluctuation in commodity prices. The prices of copper which are
used to manufacture copper wire rods have fallen down by over 20% in the last six months owing
to global factors.
The procurement team of Copper Wire Division has been waiting for the right time to buy these
metals as they expect the prices to fall down further. However, we are at a verge of stock -out of
these metals as no purchase was made in the last one month.
The bonus of procurement team largely depends on the annual savings as compared to the
budgeted cost of purchase. I am not happy with the approach of speculation and making profits
out of price fluctuation in raw materials. Could you highlight the issues r elated with our
performance measurement mechanism and suggest how it could be improved?
Regards,
Chief Financial Officer
Attachment:

CASE STUDY 13.5
Copper Prices Quoted on LME
-------------------------------------------------------------------------------------------------------------------- -------
Required
(i) EXPLAIN and IDENTIFY the various primary activities of Copper Division.
(ii) DISCUSS the issues with performance measure in force in the company.
(iii) ADVISE an alternate performance measure and Identify Key Performance Indicators
(KPI).
Solution
(i) Value chain is defined as “a chain of value added activities; products pass through the
activities in a chain, gaining value at each stage”. Value chain focuses on systems, and
how business inputs are changed into business outputs purchased by customers. The entire
set of activities that a business undertakes to covert inputs to outputs are interlinked to
each other.
Porter’s value chain classifies activities into primary activity and secondary activity.
Primary Activities
Primary activities are those activities that are directly related with creating and delivering a
product to the end customers. The following activities are considered as primary activities:
Inbound Logistics
Inbound logistics involves arranging inbound movement of materials from suppliers to the
manufacturing plants. The activities related to inbound logistics in the case of copper
division of DP limited would involve transporting copper cathodes from multiple suppliers
across the country and storing them in the warehouse. The cathodes stored in warehouse
would be issued to the production facilities depending on the requirement of the producti on
plants.

Operations
Operations involve those activities which are concerned with conversion of input into
outputs in case of manufacturing companies. The activities under operations would include
those related to melting of copper cathode and converting the copper cathodes into wire
rods. The quality tests carried out for wire rods would also be included as a part of
operations.
Outbound Logistics
These include planning and despatch, distribution management, transportation,
warehousing, and order fulfilment. This includes warehousing of finished goods (copper
wire rods) and distribution of copper wire rods to its customers. The company uses its own
trucks to distribute finished goods to its customers. The scheduling of trucks and dispatch
of material would also be a part of outbound logistics.
Marketing & Sales
Marketing and sales are the means whereby consumers and customers are made aware of
the product which is ultimately sold to them. The activities include selling products to the
end customers covering activities like product management, price management, promotion
and marketing management. DP limited uses advertisement in national dailies and holds
conferences as a part of its marketing and sales efforts. The company also holds annual
customer conference to improve customer relations and attract new customers.
Service
In case of manufacturing industry, service generally refers to the after sales service which
are required to maintain the value of product and includes activities like installa tion, repair
etc. The service team is also expected to handle customer returns on account of poor
quality of copper wire rods.
(ii) What is the issue?
A procurement team is generally a cost centre and the most appropriate way to evaluate
performance of cost centre is the comparison between actual cost and budgeted cost (also
called variance). A large portion of bonus (performance measurement) is dependent on the
savings in actual purchases.
The company has adopted variance analysis as a measure of performance. If the team is
able to reduce the actual cost of purchase as compared to the budgeted cost, a higher
bonus is paid. The procurement team has stopped purchase of copper cathodes to save on
the purchase budget which ultimately would translate into higher pay-out of bonus.
The commodity prices of copper have fallen by about 20% in the last six months. The
speculation of fall in price has resulted in halting of procurement process. It is very difficult
to time the market and such speculation could lead to losses to the company. There could
be a stock-out situation if the procurement is not resumed and the situation could hamper
the production and overall delivery schedules.

CASE STUDY 13.7
The procurement team appears to have taken a short- term view of price movement. The
team is focused on earning higher bonus and hence is waiting to buy at lower prices. There
is a larger impact of not being able to deliver product on time which could damage the
reputation of the company. This has been ignored by the procurement team. Managers
must be encouraged to consider the impact on the company as a whole and not on just the
own department.
The company is using just a financial measure to measure performance. This can result in
lopsided view of the goals and objectives of the company. Managers tend to look at short
term profits and ignore the long- term growth.
Optimum Performance Measurement
A performance measurement is most effective when the goals of the respective
departments are aligned with that of the company. This ensures that each employee within
the company works towards the overall objective of the company. The company
manufactures wire rods and the objective of the copper division is to manufacture copper
wire rods as per the requirement of the customers.
The profit flows from the main business of the company. If a department focusses on an
objective which is not aligned with the main goal, the company as a whole suffers. A stock-
out like situation would hamper the image of a company, if wire rods are not delivered as
per schedule to the customers.
Another aspect to be considered is that managers and employees are evaluated only on
those parameters which are controlled by them. If for example, the procurement team is
able to purchase copper at a discount to market price because of their efforts, it could be
considered as saving.
The prices of copper are determined by the prices on commodity exchanges and are not in
the control of procurement managers. The performance of managers and employees should
not be impacted by global change in prices of commodities as they are not controlled by
the concerned employees.
(iii) Alternate Performance Measure
The issue with financial performance measures alone is that managers tend to have a short-
term view as can be seen in our case. In order overcome possible short-termism of financial
measures Kaplan and Norton developed the Balanced Scorecard which outlined four key
areas in which company and divisional performance should be measured to focus on both
the short and long term needs of the organisation.
The key idea is that managers are to be appraised on a variety of measures which include
non-financial measures so that their focus is both long and short term. The four perspectives
used to measure performance measure in a Balanced Scorecard is given below:
Financial Perspective: This measures the financial performance which is linked to the
overall objective of maximising shareholder’s wealth. We already use financial measures
to measure performance. The weightage could be reduced to include other measures. Also,
factors beyond the control of managers like commodity prices should be excluded.

Customer Perspective: This includes focussing on customers and meeting their needs.
Measures could include quality of material produced, optimum levels of inventory
maintained, number of stock-out instances, etc.
Internal Business Perspective: This includes measures to evaluate the performance of
business processes with particular emphasis on productivity and efficiency. Measures could
include procurement lead time, number of defective purchases etc. The company could use
measures like JIT to reduce the procurement lead time.
Training and Growth: This includes focusing on innovating in processes and developing
and learning for the future. Trainings could be given to procurement managers to identify
best quality of copper cathodes, aspects related to purity etc.
CS-2: VALUE CHAIN ANALYSIS

S-Mart was founded in 1990 as a departmental store catering to the entire household
requirements (from grocery to clothing) of middle income groups. The company since has grown
leaps and bounds and inaugurated its 100th store in 2017. S-Mart is known for high quality
products which are available at discount to the market price at its store. The company claims to
give at least 5% discount on listed price across product segments. The sales of company have
grown 30% on Y-o-Y basis. The company has highest net profit margin and highest return on
equity in the industry.
S-Mart has tie-ups with more than 500 vendors across India who provide high quality products on
demand. S-Mart pays all its suppliers in advance and hence enjoys preferential pricing as
compared to its competitors. The company procures products using the Just-In-Time (JIT)
philosophy which helps it to keep low level of inventories and thereby freeing up significant
amount of working capital. The products are directly delivered to the stores by company o wned
trucks and mini-vans and hence, there is no requirement of warehouses to store products.
The company sells products which are required by households on a day to day basis and is not
keen to sell premium products which have higher margin but lower demand. This ensures that
inventory is moved out of the stores faster and increases the inventory turnover ratio. The
company owns all the stores which it operates under its brand name.
There is no third-party franchisee appointed to operate the stores. Since the products are directly
procured from he manufactures and sold to customers, there are no intermediaries in between.
S-Mart invests in superior quality products and high level of customer services than aggressive
marketing. The company believes that it can attract more customers by offering quality products
at reasonable prices rather than spend huge amount on marketing. However, need based
marketing activities are carried out by the company. S-Mart aims to build customer loyalty through
high level of customer service at its store.
S-Mart is one of the few companies which has witnessed a low employee turnover in the industry
in which it operates. The motivation level of employees are very high which results in excellent
performance across all levels. Company rewards its employees generously through employee
stock options plan. The company conducts training sessions for its employees periodically to

CASE STUDY 13.9
equip them with latest techniques in areas of procurement, sales, marketing, and customer
service. The result of these efforts is clearly visible in the company’s growth.
The company has a solid Information Technology infrastructure for all its activities. The company
has leveraged technology across all departments - be it procurement, logistics or sales. It has
implemented SAP-R3 which is one of the leading Enterprise Resource Planning system globally.
Various reports relating to inventory levels, sales, liquidity position etc. are available on a real -
time basis to the senior management.
Required
Map the various activities performed at S-mart to the Porter’s Value Chain model.
Solution
Introduction
Value chain is defined as “a chain of value added activities; products pass through the activities
in a chain, gaining value at each stage”. Value chain focuses on systems, and how business
inputs are changed into business outputs purchased by customers. The entire set of activities
that a business undertakes to covert inputs to outputs are interlinked to each other. A business
carries out these activities to earn a profit or margin.
A business should undertake only those activities which add value to the end product being
delivered to the customer. A value chain analysis helps business identify those activities which
are not adding value (in other words wasteful activities). An example of a wasteful activity could
be unnecessary storage of products which increases the inventory and working capital
requirement. Such activities must be removed to ensure that the margin of business improves.
Value Chain Analysis is one way of identifying which activities are best undertaken by a business
and which are best outsourced.
Porter’s value chain classifies activities into primary activity and secondary activity.
Primary Activities
Primary activities are those activities that are directly related with creating and delivering a
product to the end customers. The following activities are considered as primary activities -
Inbound Logistics
Inbound logistics involves arranging inbound movement of materials or finished goods from
suppliers to the manufacturing plants or retail stores. Since S-Mart is not involved in
manufacturing, all the activities that it undertakes to deliver the products to its retail stores would
form part of Inbound Logistics. The company has its own transport fleet to ensure timely delivery
of products to the retail stores. The company also has a JIT system in place which ensures
minimum inventory level. A reason why the company uses its own fleet of trucks is to ensure that
there are no failures on the supply side. In JIT systems and especially in retail business, it is very
important that stock outs are avoided.

Operations
Operations involve those activities which are concerned with conversion of input into outputs in
case of manufacturing companies. In retail business, it comprises of those activities which are
concerned with running of stores, planning of inventory levels of various products, deciding the
layout of various stores etc. The company operates through 100 stores which are owned by itself.
The company does not have franchisee or agent model for operation of its stores. The ownership
of the stores ensure that the quality standards are maintained across various stores and customer
get the best value. Since the stores are owned, the company does not face any risk of closing the
stores due to expiry of lease arrangements. The company can also invest to build the best layout
for the stores.
Outbound Logistics
These include planning and dispatch, distribution management, transportation, warehousing, and
order fulfilment. In case of a retail business, this includes activities carried out to deliver the
product to the customer. S-Mart operates through its own stores and there are no outsourcing or
franchisee arrangements. The company does not have any warehousing requirement as the
product are directly delivered to the retail stores. The customers directly pick up the products from
the stores and there is no transport requirement in this case. The company must however ensure
that the customer waiting time is low at the time of invoicing and checkout from the store.
Marketing & Sales
Marketing and sales are the means whereby consumers and customers are made aware of the
product which is ultimately sold to them. The activities include selling products to the end
customers covering activities like product management, price management, promotion, and
marketing management. S-Mart builds customer loyalty by offering high quality products at
affordable pricing. The company does not spend a huge amount on marketing.
Service
In case of manufacturing industry, service generally refers to the after sales service which are
required to maintain the value of product and includes activities like installation, repair etc. In
case of retail stores, service would encompass a superior experience at the stores and managing
return of products by the customers. S-Mart aims to build customer loyalty through high level of
customer service at its store.
Secondary Activities
Secondary activities are those activities which support the primary activities in their function. The
following are the broad classification of secondary activities:
Procurement
Procurement refers to the processes of acquiring various products and include activities like
identifying sources of these products, vendor selection, placing an order, purchase of products
etc.

CASE STUDY 13.11
The company deals with over 500 vendors across India on advance payment terms to procure
high quality products at preferential pricing. This helps the company get better discounts which it
can pass it onto the customers. This ensures that the company does not carry the burden of
discounts being offered to the customers.
Technology spans across all the primary activities of an organisation. It includes activities like
process automation, an Enterprise Resource Planning (ERP) system, inventory management
systems etc. The company has implemented SAP R/3 - an ERP package which helps in the
management of various functions of procurement, logistics and sales. A robust system is always
necessary to ensure that the JIT systems work effectively. Such systems assist in real-time
monitoring of inventory levels and triggering purchase orders when inventory levels are low. The
entire flow of products from an order placement till the delivery to customer can be tracked
seamlessly.
Human Resource Management
This involves areas of recruiting, managing, training, developing and rewarding people within an
organisation. S- Mart has a very low employee turnover and a very high level of employee
motivation. The company rewards all its employees generously and conducts periodic training
and development programmes for its employees. This ensures that the employees are highly
motivated which translates into a consistently high performance.
Infrastructure
This includes not only the physical infrastructure but also all departments of management,
finance, legal which are required to keep the company’s store operational. All these are important
for organisation’s performance in primary activities.
CS-3: PORTER’S VALUE CHAIN MODEL VS. VALUE SHOP MODEL

Westwood Solar Solutions (WSS) has mastered the art of developing Solar Domestic Water Heater
that fulfil customer’s needs. WSS’s designers and product developers focus on solutions to get rid of
everyday hassles and transform these into a pleasant experience. WSS also has a wide service
network that spans the length and breadth of India to ensure good care of customers and products,
by providing a prompt and pleasant service experience. In the past, WSS had a dominant position in
the Indian market. However, over the past four years, it has been found that its profits and its share in
the market have come down.
WSS has business Model comprising of following steps:
▪ Firstly, WSS’s highly qualified and skilled experts visit customer’s locations to identify and design
the appropriate heater as per customer’s requirements. WSS’s experts are recognized as the
best in the industry, and customers agree that they produce the most effective solutions to their
complaints.

▪ At WSS, in the laboratories, the heater design goes through intricate, complex, and dynamic
process. Prototypes are developed on the basis of discussions in previous step. Thereafter,
these prototypes are tested. Once a final design is decided, such design is passed to the
manufacturing division for production.
▪ Then, WSS manufactures appropriate Solar Water Heater to the desired specification and
installs at the customer’s location.
▪ After the heater’s installation, WSS renders annual maintenance services for which it is well-
known in the industry.
WSS’s customers pay a total price for design, manufacture and initial installation of the Solar Water
Heater and an annual maintenance charge after that. Total prices are quoted before design work
begins.
Although customers appreciate the high quality of the solutions provided by WSS’s team, however,
they are complaining that the overall prices are too high. Customers have said that although other
suppliers do not solve their problems as WSS does, they do charge less. Consequently, WSS has
lower down its prices to compete in the market. There is a doubt that the manufacturing and installation
stages of the business model are not contributing sufficiently to the firm since costs at both stages are
going high.
Partners of WSS have considered that this situation should no longer continue and have
recommended that a value chain analysis to be conducted as to identify the way forward for WSS.
Although majority of partners are in the agreement with the proposed value chain analysis, however
senior partner ‘W’ has stated that value chain analysis is inappropriate idea. She says that she has
heard a number of criticisms of the value chain model.
Assuming yourself as management accountant of WSS, answer the following questions:
Required
(i) DISCUSS the benefits that may accrue to WSS from conducting a value chain analysis.
(ii) DISCUSS the criticisms of Porter’s value chain model in the context of WSS
(iii) EXPLAIN other form of Value Chain Analysis that may be more suitable for WSS.
Solution
(i) There are following benefits accruing to WSS through a value chain analysis:
▪ Value chain analysis is a process by which a firm identifies and analysis various
activities that add value to the final product. The idea is to identify those activities which
do not add value to the final product/service thereafter eliminating such non-value
adding activities. The analysis of value chain help a firm in obtaining cost leadership
or improve product differentiation. For WSS, value chain can provide with more
unambiguous picture of the value of the manufacturing function as perceived by
customers.
▪ This model also helps in analyzing other firms within the same industry. As WSS
observed that other firms in the industry are considered to be more cost effective in

CASE STUDY 13.13
terms of manufacturing, it may plan to use the value chain model to examine the reason
for the same.
▪ The value chain will assist WSS to determine ways to get best approach towards
developing higher level competitive performance. This model assists firms in finding
ways to develop higher level of performance either by cost leadership or product
differentiation. Right now, WSS is in a situation wherein it is being defeated on price
by some of its competitors, however is recognized as the best solutions provider to
customer's problems. Through detailed value chain analysis, WSS may be able to
ascertain the reason of falling down in such situation and partners may be able to take
decision regarding the future vision of the firm.
▪ Through this analysis, WSS may apply other relevant management techniques as well.
Post value chain analysis, WSS will be in a position to decide whether it is worthwhile
to continue the technique of benchmark (processes and performance) against its rivals,
to develop an information systems strategy, to carry out a business process re-
engineering process or to adopt activity-based management.
Further, WSS may decide to outsource manufacturing and keep focus on design and
services by following value chain analysis model. This technique may be appropriate
for WSS as by outsourcing manufacturing, WSS may be able to focus on its core area
for which it is well-known in the industry.
▪ Value Chain analysis will also facilitate the development of performance metrics for
WSS. By developing such metrics WSS may be able to identify which aspects of its
business model are not contributing to the overall value and profits of the firm. Although
currently WSS has suspicion that manufacturing and installation are the weak parts of
its operation, development of transparent and appropriate metrics would enable WSS
to recognize where value and profit are being added in the business model.
(ii) Number of criticisms of the value chain developed by Michael Porter have been:
▪ This value chain analysis cannot easily be applied to firms belonging to service
industries. This criticism is particularly imperative in the context of WSS which has
upward profits from rendering solutions and services rather than that from
manufacturing tangibles products. Many people appreciate that the model is more
suitable to manufacturing-based industries, rather than service based industries.
▪ Often this model is seen as complicated and perhaps could be a source of frustration
for the management of a firm. Although the staff of WSS includes bright and intelligent
experts, they may not see the value in-depth analyses of business which is required
for a full value chain analysis.
▪ This analysis has a linear approach and ignores the concept of value networks. This
criticism is specifically relevant to WSS because its major business resort to the
cooperative relationship that the experts have with their customers. If, WSS decides to
outsource manufacturing and focus on design and service, this will become even more
relevant where relationships are utmost important.

▪ Often value chain analysis is perceived as time consuming and expensive as a whole.
However, if the analysis is to be completed timely, there will be requirement of reliable
data such as cost of components in business model. However, in the absence of good
cost capturing system, this model could prove to be a costly process. After completion
of this process, still there is no guarantee that the process lead to have upward trend
in profitability and where it does, it may take some time in realization.
(iii) WSS requires to acknowledge that the nature of its business is turning from manufacturing
zone to a solutions provider or professional services firm.
From this point of view, it would be better for WSS to analyze its business using the
Professional Services Value Chain/ Value Shop Model. The concept of Value Shop came in
to lime light holding the hand of Charles B. Stabell and Oystein D. Fjeldstad in 19 98.This
concept aims to serve firms from service sector. It only deals with problems, figure out the
main area requiring service and finally come with the solution. This approach is designed to
solve customer’s problems rather than creating value by producing output from an input of
raw materials.
A Value Shop mobilizes resources (say: people, knowledge or money) to solve specific
problems such as delivering a solution to business problem. This shop model is iterative,
involving repeatedly performing a generic set of activities until a solution is reached.
Secondary activities in the Professional Service Value Chain have same support activities
as those in the porter’s value chain, However the primary activities are described differently
to recognize the different nature of a service-oriented business. In value shop, primary
activities are performed in a circle within a firm to perform generic set of activities iteratively
before reaching a conclusion. Since WSS team communicate with customers to find a
solution before testing of developed prototypes, so they will find the vale shop, compatible
and effective model to use.
CS-4: PORTER’S FIVE FORCES & DIVISIONAL TRANSFER PRICING

In the ‘Five Forces Model’, one of the crux is that companies or divisions compete with their
buyers and suppliers. The same model can be used to evaluate the competitive environment of
the divisions of large, complex companies. In such companies, some of the divisions may be
buyer and supplier to one another. This leads to management accountants becoming involved in
negotiations leading to the agreement of suitable transfer prices between these divisions.
Required
(i) EXPLAIN, how the forces applied in a relationship between supplier and buyer led
Michael Porter to reach a conclusion that companies compete with their buyers and
suppliers.
(ii) DISCUSS, the issues of negotiating and agreeing transfer prices between divisions within
a large, complex organization. Make references to Michael Porter’s model, and your
arguments in part (i) where appropriate.

CASE STUDY 13.15
Solution
(i) Michael Porter concluded that companies or divisions compete with their buyers and sup -
pliers because they exercise bargaining power over one another. The relative competitive
advantage is determined by the degree of bargaining power of each of the parties. Porter
viewed competition as activity that affects margins where buyers and suppliers struggle to
steal margin from each other.
The competitive forces between buyer and supplier affect price and quality. A large order
or powerful buyer will exercise force by trying to encourage the supplier to improve quality,
either of the product or service being provided, or of the services supporting the product.
As another option, a powerful buyer might be willing to accept the standard product, but
demands a discount, thus increasing its own margin at the expense of the supplier.
Relative size of the parties also determines the bargaining power, or it also depend on the
degree of reliance on one another. A large buyer or supplier, for whom the other party is a
small or unimportant portion of business, is more likely to exercise power to get a "good
deal". It is clear that a buyer placing a small order is in a worse position to ask for a discount
than one placing a very large order. In the same way, if a buyer represents a major portion
of turnover, a supplier will work hard to keep such a buyer happy, thus may increase the
service package to support the product by incurring costs.
A buyer or supplier also has greater bargaining power if switching costs in doing business
elsewhere is incurred by other party. This cost would, if incurred, reduce margins. This will
lead to the party being less likely to break up the relationship with other party.
Some elements of the bargaining power are also determined by the availability of
alternative suppliers or buyers. A large supplier will give no concessions to a very small
buyer if it is confident that another buyer will be available to replace it. Similarly, a buyer
looking for a very special material or service may find that it has no alternative than to accept
the terms offered by a single supplier.
Thus, companies and divisions “compete" with their buyers and suppliers. However, this
depends on how broad the definition of “competition” is. Michael Porter started from the
premise of a very broad definition, consequently could prove his hypothesis.
(ii) In a large and complex company, divisions may have been developed or acquired along a
supply chain. This means that, within the company, there are divisions that are buyers and
suppliers for each other. The logic behind establishing this structure is that it reduces
transaction costs, cuts out supplier margins and secures reliable supply of raw materials or
components. In this situation, the company faces the risk of sacrificing any saving in
transaction costs if management needed to invest considerable time in transfer pricing
negotiation.
In effect, the divisions concerned will be competing with one another like buyer and supplier
during the negotiation, in the same way as described in Part (i). The transfer price agreed
will affect, to some extent, the profitability of each of the divisions. If bonuses are paid to
managers as per divisional performance, the transfer price will determine the level of bonus
paid. Thus, managers may have a personal interest in enduring negotiations that will destroy
value in the company.

The parent company must determine whether the transfer price is in the best interests of
the company. If it is, it should simply be imposed. This finish off competition but may
discourage managers, especially when divisional bonuses are paid. In most companies,
some level of negotiation is allowed, but this may be not realistic if transfer is necessary. In
this case, the bargaining power of the supplier division is vastly increased, thus destroy the
balance of the negotiation.
The opposite is the case if the supplier division is not allowed to make external sales, or if
there is no external market (for example, for a special component). In this situa tion, the
bargaining power clearly lies with the buyer division, as the supplier has no choice but to
make the transfer. However, if the special component or supply is not available from
elsewhere, the bargaining power may shift to the supplier division as its product is of
different nature.
The outcome of any transfer price negotiation must be ended in a transfer at a fair price. In
this case, fair means that the price must be comprehended as fair by the division concerned.
Any other outcome may lead to loss of motivation in one or both of the divisions. A fair price
can be easily determined if there is a free market of the product, component or service being
transferred (in other words, it can be both sold and bought outside). If this case does not
exist, the range of transfer prices may fall between marginal cost of a unit and full cost plus
normal margin.
In corporate terms, the most important transfer pricing issue is that while consolidating the
accounts, the transfer price cease to exist. While consolidating the supplier and buyer
division accounts, the revenue from the transfer price cancels out the cost of purchase, so
the net result is that the transfer disappears. In entire development, most of time and efforts
are wasted and simply rise in internal transaction costs. Accordingly, any competition
between the divisions is worthless. If the management accountants comprehend this, and
the relative bargaining power of the divisions concerned, it is possible to determine
negotiations quickly, thus distorting as little value as possible.
CS-5: BUSINESS EXCELLENCE MODEL

As a guest lecturer at a symposium for Business Excellence where you are giving a lecture on
“Sustaining Business Excellence”. A manufacturer of a fashion clothing line is one of the
participants at the symposium. He has the following query:
“We are an apparel company that manufacture and sell our fashion clothing and accessories
directly through 30 stores spread across India. Shortly we are planning to establish similar outlets
overseas. Our business is under constant change due to changing customer trends. At the same
time, we are the largest company in our industry segment in India, both in terms of market share
and profits. We have a satisfied base of customers who are loyal to our brand. Shareholders are
also satisfied stakeholders due to good returns provided on their investments. What woul d be
the relevance of Business Excellence model to our company?
Thank you!”

CASE STUDY 13.17
You are required to frame an appropriate response to this query.

Required
(i) EXPLAIN the importance of business excellence to an organization.

(ii) LIST the tool available to achieve and sustain excellence.
(iii) APPLY the fundamentals of EFQM model on the apparel company.
(iv) EXPLAIN the relationship between various criteria of the model in general terms.
Solution
(i) Business Excellence is a philosophy for developing and strengthening the management
systems and processes of an organization to improve performance and create value for
stakeholders. Stakeholders in an organization are not limited to shareholders (business)
alone. They include also customers, employees (people) and society. What an organization
does impact all the stakeholders in different ways, yet they are all interlinked to each other.
Customers’ needs are of paramount importance to companies. Yet given uncertain
conditions, shareholders demand challenging return on their investments. Employees need
more from their company than just their pay-check. They want the company to enable to
grow their knowledge and experience that can improve their career growth. Society expects
companies to operate ethically and for the overall betterment of the society and
environment.
For several years businesses have been operating under challenging circumstances. For
example, landline phones have been entirely replaced by mobile phones. Television
programs can be watched seamlessly on internet enabled mobile phones. Not just this,
today’s smartphones have computing capability much more than the computers that were
used in Apollo Mission to send the first man to moon! The proliferation of mobile phones
has changed not just the telecom industry but also others like communication, banking, e -
commerce etc. The pace of change is both exhilarating and challenging.
To manage this complex scenario, a company cannot focus on only one aspect of their
operations. Optimize processes, delivery quality to customers, manage employee talents,
earn required return on investment while managing to be a socially responsible
organization. In short, the company should achieve excellence in all aspects of its
operations. This is business excellence. Business excellence principles emerged because
of development of quality drive into traditional business management. It is imperative not
just to achieve excellence but also to sustain it.
Business excellence models are holistic tools that help companies develop stakeholder
focused strategy. Each operation within a company enables a corresponding result.
Business models present a formal, standardized cause effect relationship between different
operations (enablers) and their resultant consequences. If the company want to achieve a
different result, it has to do things differently. This can be better analysed through these
models. Continuous improvement on various operations will ultimately lead to excellence.
More importantly, these models need to be used to sustain and maintain excellence to retain

their competitive advantage. They are not to be taken as one time exercise by the company.
Assessments using this model have to be made periodically so that timely a ction can be
taken to achieve the desired result.
(ii) Some of the popular business excellence models are (i) the European Foundation Quality
Management (EFQM) model (ii) Baldrige Criteria for Performance Excellence (iii) Singapore
BE Framework (iv) Japan Quality Award Model and (iv) Australian Business Excellence
Framework.
(iii) The apparel company is a well-established player in the industry. It is a growing company
that is looking to expand its operations overseas. To achieve business excellence in this
environment, the company could adopt the EFQM model, which is a popular model.
The EFQM model was developed by the European Foundation for Quality Management.
The model provides an all-round view of the organization and it can be used to determine
how different methods fit together and complement each other. It can help the company
understand the cause and effect relationships between what their organization does and
the results it achieves. Creating an EFQM Management Document gives the organization a
holistic overview of its strategic goals, the key approaches it has adopted and the key results
it has achieved.
The fundamental concepts for excellence are the basic principles that describe the essential
foundation for any organization to achieve sustainable excellence. With respect to the
company they can be detailed as below:
(a) Adding value to customers: Companies need to understand their customers, their
needs, anticipate their needs and make use of opportunities to fulfil their expectations.
In the current case, fashion apparel business is ever changing and dynamic due to the
changing trends in customer’s tastes. This could differ across locations within India
and abroad. In the era of e-commerce, competition would be cut-throat. Before going
to “how” it can meet customer’s needs, the company should be clear on “what” need
of the customer it can satisfy. For example, should the company cater to Indian apparel
market, western apparel market, men or women or children apparel marke t etc. Once
the “what” is clear, the company should have mechanisms in place to find out and
anticipate customer tastes. Accordingly, it should structure its operations to add value
to the customers in terms of quality, availability, support, and experienc e.
(b) Creating a sustainable future: Society and environment (People and Planet of Triple
Bottom-line concept) play a major role in ensuring the sustainability of business. A
company should have as much positive impact on its surroundings and try to minimize
any negative impact on the same. Here, the company should assess the environmental
impact of its operations, measures to minimize adverse impacts, business impact on
the society etc. For example, leather is contended to be harmful to the environment
since it requires the skin of animals specially cattle hide, needs huge amount of energy
and chemicals to process it. This has a negative environmental impact. As regards
societal impact, suppliers of cloth to the apparel company should not indulge in l abor

CASE STUDY 13.19
malpractice like child labor and should adhere to safety standards within its factories.
The company should procure cloth only from suppliers who adhere to such standards.
(c) Developing Organizational Capability: Companies need to manage change within the
organization and beyond. The company should identify “what it is capable of being
great at?” in order to differentiate it from its competitors. For example, the apparel
company may have the capability of tracking its inventory at the stores on real time
basis. As soon as the inventory falls below a certain level, the stores issues fresh
products to stock up. This ensures that there are no stock outs at the retail outlet. This
ability to track inventory real time and ability to stock up quickly may be unique to the
company that gives it a competitive edge. Another can be the ability to quickly change
the apparel production to meet changing trends. Likewise, the company should identify
and develop unique capabilities to have a competitive edge in the market.
(d) Harnessing creativity and innovation: Continuous improvement and innovation brings
value to the company. The company should promote a working environment that
enables and appreciates creativity and innovation. For example, new apparel desi gns
can be promoted to test the market. If found feasible, the company can go for mass
production of the same.
(e) Leading with vision, inspiration, and integrity: The tone at the top defines the rest of
the company. The leaders and management of the company should have a clear vision
of what the company wants to achieve, develop strategy to achieve it, work with
integrity and ethics. Leaders shape the future of the organization.
(f) Managing with agility: Agility would be the capability to identify and effectively respond
to opportunities and threats. For example, although the apparel company is in an
expansionary phase, it should consider the threat, yet opportunity of using e -
commerce as a platform to reach out to customers directly. Brick and mo rtar stores
are becoming largely redundant due to online platforms, a threat the company should
recognize and act upon.
(g) Succeeding through the talent of people: An organization is only as good as the people
who work in it. There should be an atmosphere of teamwork that enable achievement
of organizational and personal goals. Performance evaluation, reward and recognition
programs, training and talent network are ways to cultivate talent within the
organization.
(h) Sustaining outstanding results: Use of EFQM model is not a onetime exercise. Constant
and periodic evaluation is required to keep up and sustain excellence.
(iv) The criteria of the model are comprised of 5 enablers and 4 results. Enablers covers what
an organization does (its objective) and how it does it (strategy, use of resources to achieve
it).
(a) Leadership: A leader defines the organization’s culture. They enable the organization
to achieve its goals by taking the correct decisions at the correct time. To do this the y
should have sufficient skill, work as per the company’s code of conduct and should be
ethical in their dealings.

(b) Strategy: Operations should be planned and directed as per a clearly defined strategy.
The company’s vision and mission statement with respect to its various stakeholders
are the goals that the organization wishes to achieve. Strategy (plan) enables the
company to achieve these goals.
(c) People: Excellence is possible only if the people working in the company wish to
achieve it. They must be motivated, recognized, and managed to enable them to work
towards the company’s vision and mission. The work culture should be that this opens
up opportunities for personal development as well. This would cultivate a bond with
the organization, which enables people working within to strive for excellence.
(d) Partnerships and resources: Effective management of partnerships that the company
has with other organizations is critical to success. Partners could be external vendors,
suppliers, and service providers. The services of partners enable business to operate
smoothly. Resources, both tangible and intangible should be managed optimally.
Tangible resources can be financial (cash, bank accounts) and physical assets
(machinery, building, land etc.). Intangible resources would be intellectual property
rights, information technology, licenses etc. Proper management of resources enables
optimal results.
(e) Processes, Products, and Services: A company exists because of its processes,
products, and services. They should be managed and continuously improved to create
value to the stakeholders.
Results are what the organization achieves following its operations and decisions. As
explained before, the stakeholders of the company are investors (business), people
(employees), customers and society. In order to track performance, the company has to
develop Key Performance Indicators (KPI)s for each of the stakeholder groups. Results
should be tracked periodically. Changes to targets and benchmarks should be continuously
made to reflect the current objectives that the company wants to achieve. Some of the
results that the company can look at are:
(a) Customer results: Are the customers of the company satisfied with the products and
service? How does the company fare in terms of brand loyalty? Is the customer base
growing to indicate increasing market share?
(b) People results: Does the company have skilled and motivated employees? What is the
employee turnover with reasons for the same? Does the company have proper access
to hire required talent? Are the employees motivated, trained, recognized, and
rewarded for their performance? What is performance measurement system, is it
robust and accurate to measure performance?
(c) Society results: Is the company a good corporate citizen. Are the objectives of
corporate social responsibility being met? If the organization is a not for profit
organization, is it meeting its objectives and goals?
(d) Business results: Is a for profit organization achieving the required return on
investment, profitability that the shareholders and other investor demand? Has the
company been able to manage financial and other risks properly?

CASE STUDY 13.21
Enablers enable achievement of results. EFQM model documents this flow and symbiosis
in a structured way. It highlights the strength and weakness of the enablers. With this
information, the company can alter its operations and strategy to achieve desired results.
On assessment, there is a flow from results to enablers. If the results have been achieved,
enablers continue to operate status quo. If the results fall short of targets, changes have to
be made to enablers to improve performance.
Therefore, it can be concluded the EFQM model encourages constant self-assessment to
achieve excellence.
When a company wins an excellence award based on a business excellence model, it gains
in stature within the industry. This recognition could work to its advantage financially and
otherwise.
CS-6: SUPPLY CHAIN MANAGEMENT

Sun Electronics manufactures and sells various electronic goods like mobile phones, laptops,
televisions, refrigerator etc. The company sells these goods through the 30 stores situated in
different parts of the country. The store managers place a request to the centralised team situated
in Mumbai on a monthly basis. One store can send only one requisition per month.
The requirements of the stores are forwarded to the production planning team which is
responsible for scheduling the manufacturing of these products. Once the goods are
manufactured, the goods are sent to a central warehouse in Mumbai and are dispatched to
different stores according to the store requirements. The time taken from placing a request from
store to the delivery of product to the store takes about 30-40 days on an average. In the process
the company procures parts from more than 100 vendors. The company has faced quality related
issues with many vendors leading to delay in production.
The average holding period of inventory in Sun Electronics is very high at 45 days as against an
industry average of 15 days. Since the order to delivery time at a store is very high, the company
has traditionally allowed high inventory holding to reduce the stock outs at store level. The
company is under severe pressure to improve its working capital cycle.
A high amount of inventory held at each store also means that the products become obsolete
quickly. In case of products like mobile phones, new and upgraded versions are available in the
market as early as six months from the date of initial launch of a particular model. A significant
portion of inventory of mobile phones becomes obsolete every year. The company generally
resorts to a discounted sale to liquidate such obsolete models.
The management at Sun Electronics has identified e-commerce as an opportunity for faster
growth, both in terms of revenues and profitability. The company is considering launch of its own
e-commerce website to sell all products which are currently being sold in physical stores .
Depending upon the success of online sales, the company might choose to optimize and close
certain physical stores in the next couple of years.

The management of the company is cognizant of the fact that existing inventory procurement and
management system will not fit in the new e-commerce business. E-commerce works on a
inventory light model and quick as well as on time delivery of products of the customers. The fact
that customers could be from a location other than those where Sun Electronics has phy sical
presence makes the matter complex.
Required
The company is considering implementation of a supply chain management system. Will a

supply chain management system be of use to Sun Electronics in light of the e -commerce
venture? You are required to EXPLAIN the concept of Supply Chain Management and
EVALUATE the applicability of in the current case.
Solution
Issue
Sun electronics manufactures and sells various electronic products through its physical stores.
The existing manufacturing system does not take into consider the demand of products in the
market. Store managers are allowed to submit only one order per month. A high level of inventory
can be seen at Sun Electronics as compared to the industry average. The store managers tend
to keep high level of inventories as a safeguard against stock-outs. Whereas, keeping inventory
to meet customer requirement is good, high level of inventories due to inefficient processes is
not advisable.
The company also has a longer working cycle because of a long order to deliver time and excess
holding of inventory. A significant amount of working capital is blocked due to this pra ctice.
Technology changes rapidly and the company is expected to roll out latest products in the market.
A product like mobile gets outdated very soon and the company has to resort to discounted sales.
This results in financial losses to the company.
The company has identified an opportunity in e-commerce. E-commerce businesses require
leaner models and faster response time. The production must be based on the demand from the
customer and not on an ad-hoc basis. In the following paragraphs, the importance of supply chain
management (SCM) and its applicability in the current case is discussed.
Supply Chain Management (SCM)
Supply Chain Management can be defined as the management of flow of products, services and
information, which begins from the origin of products and ends at the product’s consumption at
consumer’s end. SCM also involves movement and storage of raw material, work-in-progress
and finished goods. In other words, supply chain management involves management of all
activities associated with moving goods from the raw materials stage to the end user. An
important objective of SCM is to correlate the production and distribution of goods and services
with demand of the product.

CASE STUDY 13.23
The following are the various activities which an organisation carries out to meet the customer
requirements (Primary activities under value chain model) -
▪ Inbound Logistics covering procurement and related activities.
▪ Operations covering conversion of raw materials into finished products
▪ Outbound Logistics covering movement of products from plants to end users
▪ Marketing and Sales
▪ Service
Supply Chain Management looks each of the above activities as integrated and interrelated to
each other. None of the activities can be looked in silos. In the case of Sun Electronics , there is
a restriction on number of orders which a store manager can place. This would lead to excess
ordering because of the fear of stock-outs.
The customer demand is completely ignored and hence the production is not in sync with the
market demand. This could lead to excess production, higher inventory holding and longer
working capital cycles.
The facts presented in the case indicate the following problems at Sun Electronics:
▪ Production planning is not based on customer demand & is done on an ad-hoc basis.
▪ Inventory Holding period is very high (45 days against an industry average of 15 days).
▪ The working capital cycle is longer.
▪ The time take to fulfil an order from the store is very high.
▪ The production is dispatched to a central warehouse for further deliveries to the stores. This
could be an inefficient process.
▪ Liquidation of products at discount for products with low shelf life.
SCM Process and applicability to Sun Electronics
The SCM process is explained below:
▪ Plan - The first step in SCM process is to develop a plan to address the requirements of the
customer. Sun Electronics must shift its focus from ad hoc and predetermined production
planning to understanding the requirements of customers. Production must be planned
based on the demand of products. The focus must be on producing what the customer
wants.
▪ Develop (procure) - In this step, the materials required for production is sourced from
various suppliers. A good relationship with supplier is required to ensure that the
parts/materials are received as and when required by the production team. It is also
important that the vendors supply quality material which is not the case in Sun Electronics.
The company must select suppliers which are dependable and can deliver quality products

in the stipulated time. The company must focus in reducing the lead time required for
sourcing materials which will reduce the inventory holding period.
▪ Make - The third step is making or manufacturing the products required by the customer.
This is quite different from the existing practice in Sun Electronics where store managers
are allowed to place only one order. This would mean that the company is not considering
the ever changing demands and tastes of the customers.
▪ Deliver - The fourth stage is to deliver the products manufactured for the customers. This
stage is concerned with logistics. The time required to deliver to the store in case of Sun
Electronics is very high. The company must evaluate if the centralised warehouse is causing
delay in delivery of products to the stores.
Logistics is one of the important component of the entire supply chain process. Right from
procurement of material, movement of raw material in the plants and final delivery of
products of customers, logistics play a critical role. An excellent system must be in place to
ensure that the movement of materials and final product are uninterrupted.
Warehousing also plays an important role in today’s business environment. The company has
a centralised warehouse to meet the needs of all its stores. This would not be the most efficient
way. The company must evaluate creation of additional storage facility which would ensure
timely delivery of goods to the stores. Newer products can reach the market faster.
Benefits of SCM to Sun Electronics
SCM looks at the entire value chain process as an integrated process. There is a seamless flow
of information and products between suppliers and customers. The customer’s requirements
would be captured to plan the production. The suppliers would be intimated to supply the
materials according the the production plan. An effective logistics system ensures that movement
of materials is seamless. Sun Electronics can also consider implementing an integrated ERP
which would also interact with vendors on real time basis.
The following benefits of SCM can be envisaged for Sun Electronics -
▪ Better Customer Service as customer is supplied with what he/she wants in the minimum time.
▪ Better delivery mechanism for goods.
▪ Improves productivity across various functions and departments.
▪ Minimises cost (both direct and indirect).
▪ Reduces the inventory holding time and improves the working capital cycle.
▪ Enhances inventory management and assists in implementation of JIT systems.
▪ Assists companies in minimising wastes and reduce costs.
▪ Improves supplier relationship.

CASE STUDY 13.25
E-Commerce and SCM

The SCM is the backbone of E-commerce industry. Customers buying products online want
deliveries to be faster. Another distinct feature of e-commerce is that buyers could be located in
any corner of the country and not just restricted to the cities where Sun Limited has physical
presence. This definitely means that the company must have an effective Supply Chain
Management in place which could meet the customer’s requirement.
The existing practice of one order per month from each store would not work in the e -commerce
space. Orders can come at any time and from anywhere. Supply Chain Management would be
required for success of e-commerce business.
Customer Orders
The company must have an effective mechanism to capture customer orders and feed it into the
production planning on a real time basis. An integrated ERP system would be required for this
purpose. Any delay in intimating the production team would mean delay in production and
delivery which would not be taken positively by the customers. The existin g system of one order
per month from a store would not fit the purpose. A real time flow of information would mean
lower inventory holding.
Procurement
The material requirements must be communicated to suppliers seamlessly. The company must
identify those vendors who can deliver quality materials in the required time frame. A delay in
supplies would delay the production process. A company cannot afford this in e-commerce
business. Automatic exchange of information using EDI (Electronic Data Interchange) or
Integrated ERP systems would ensure that the vendors receive material requirements in a timely
manner.
Production
As discussed earlier, the production must be in accordance with the customer order. This requires
a shift in approach of the production team. Business environments have shifted from “Customer
will buy what we produce” to “We have to produce what the customers require”. The company
would ideally not produce products to store them and sell later.
Logistics
Logistics would be the backbone of entire e-commerce set up. Right from sourcing of materials
to delivery of products at the customer’s door step, logistics would play an important role. If the
company has an in-house logistics facility, the logistics team must be trained with the requirement
of the new business. If the company has outsourced the logistics, vendors must be briefed about
the requirements of the e-commerce. The company might have to tie up with new logistic vendors
to avoid any delay in deliveries.

CS-7: KAIZEN COSTING

Zen Limited is a leading mobile manufacturing company and sells its mobile phone across the
world. In a fast-changing technological environment, Zen has been able to maintain its leadership
in smartphones segment for third year in a row now. Though the revenues have grown year on year,
the costs have increased at a higher rate in the mobile phone industry as a whole.
“We have been leaders in revenue. We must lead in cost reduction front as well. I believe we can
achieve this with improvements overtime, however minor they might be!”
– This is what the CEO of Zen has told its directors in a recently concluded board meeting.
The net profit margins of the company has fallen from 10% in 2018 to 8% in 2019 owing to rise in
raw material & repair cost. Another significant rise in the cost was on account of repairs of mobiles
which are under warranty. There was an increase in these repair costs by `1.5 crores which
represents 1% of the total turnover of the company.
The process of repairs/ replacement of under warranty product is outlined below:
▪ The company own 200 repair centres in various cities in India.
▪ A customer whose phone is under warranty and requires replacement/ repair visits any of
the 200 centres to deposit the faulty mobile phone.
▪ The technician at service centres examines the phone and the service centre sends the
phone to a centralised repair centre at Mumbai. The phones are sent to Mumbai even for
minor repairs which can be done locally if requisite infrastructure is provided to the service
centres.
▪ The phones are sent in batches. Each service centre creates 3-4 batches of mobile phones
in a day. (A recent study showed that the batches could be combined into a single batch per
day)
▪ The phones are repaired in Mumbai’s centralised centres and sent back to the respective
service centres for handing them back to the customer. The phones which are repaired are
sent in separate batches and those which are replaced are sent in separate batches.
Required
You are working as a Finance Manager in Zen. The finance director has approached you to
understand whether the minor improvement would be useful given the size of the company.
The Finance Director has asked you to examine the process of warranty repairs and
replacement and submit a report covering the following aspects:
(i) What is the CEO referring to when he says “minor improvements”? EXPLAIN.
(ii) LIST the benefits of such minor improvements.
(iii) APPLY the above process to the warranty claim process and explain how the process
can be improved.
(iv) Any other matter which you consider relevant.

CASE STUDY 13.27
Solution
Issue
Zen limited is a leader in manufacturing of mobiles and is concerned about increasing costs. The
increase in warranty related costs has been significant in the current year as compared to
previous year. This has reduced the net profit of the company by 1% of sales.
Applicability of Kaizen Costing
“Kaizen” is a Japanese word which means “Change for Better”. In business parlance, Kaizen is
used to refer to small and continuous improvement across all functions, processes and
employees. Kaizen costing is a cost reduction system. Yashihuro Moden defines Kaizen Costing
as "the maintenance of present cost levels for products currently being manufactured via
systematic efforts to achieve the desired cost level.
Toyota Production System is considered as a pioneer in Kaizen Costing. Though the model was
used for eliminating wastage from production at factory initially, the concept can be applied in any
of the processes in a business. Since Kaizen is a continuous improvement process, a radical
change or disruptive innovation is not expected in Kaizen costing.
The following are the key features of Kaizen -
− Kaizen processes focus on eliminating waste in the systems and processes of an
organisation, improving productivity and achieving sustained continual improvement.
− Application of small, incremental changes routinely applied and sustained over a long period
can lead to significant improvements.
− It aims to involve workers from multiple functions and levels in the organisation.
− A value chain analysis helps to quickly identify opportunities to eliminate wastage
− Although incremental changes can often be too small to be seen, Kaizen can be very effective
in the long run. An airline which identified that 75% of its flyers would leave the olive from
salad, the airline decided to remove it from its servings. This saved the airline $ 40,000 per
year. Another example is where an airline stopped printing its logo in the rubbish bags as it
did not add value saved over $ 300,000 per year.
The CEO is referring to Kaizen costing when he mentions minor improvements to save costs over
time. Kaizen costing takes into consideration various costs such as costs of supply chain,
manufacturing costs, marketing, sales, distribution costs etc.
Benefits of Kaizen Costing
− Kaizen reduces waste in areas such as employees waiting time, transportation, excess
inventory etc., which leads to improved efficiency in overall business processes and systems.
− A company applying Kaizen philosophy can achieve cost reduction through small incremental
improvements and cost savings.

− Kaizen looks at functions and processes at all levels of organisation and requires participation
of all employees and massive as well as open communication system. This participative
approach improves teamwork across the organisation.
− Product improvement using Kaizen is likely to result in less number of defective products
leading to customer satisfaction and reduction in warranty related costs.
− The reduction in wastage, improved efficiency and cost reduction improves the overall
profitability of the company.
Implementation of Kaizen in the Current Case
The implementation of Kaizen as a cost reduction techniques can take several forms. The key
question to ask for implementation is - “Can we eliminate waste?”. The waste can take several
forms like -
− Unnecessary movement of material and men - Travelling for meeting in cases where a video
conferencing could help.
− Unwanted part in a product which if removed is not likely to impact the performance of the
product. (Nano sim card has reduced a significant portion of use fibre boards as compared to
the traditional sim cards.)
− Defects which involve extra cost in terms of reworks.
− Waiting time - A simple example could be locating for files in your computer which has not be
arranged properly. This leads to waste of time.
The above is just an indicative list where improvements can be made. However, an important
point to note is that reduction of waste should not be done by compromising the quality of product.
Apple launched iPhone 5c as a budget phone by using plastic material instead of Aluminium. The
market did not like the product as it was considered to be an inferior product as compared to
iPhone 5s.
Another way of looking at Kaizen is asking following questions -
− Can we eliminate functions from the production process without compromising the quality and
utility of end products? - Removing unnecessary movements of material and men.
− Can we eliminate some durability? - Use of unbreakable plastic for producing disposable
glasses would be waste of resources
− Can we minimise design? - e.g. use of Nano Sims.
− Can we substitute parts of the product being manufactured?
− Can we take supplier’s assistance to get better quality parts?
− Is there a better way? - This is a question which must be asked continuously to ensure that
the improvement is not a one-time exercise.
(The above questions also form a part of the Value Engineering Process)

CASE STUDY 13.29
Application of Kaizen at Zen Limited

The current warranty claim process at Zen involves movement of mobile phones from various
service centres across the country to a centralised centre in Mumbai. The possible improvements
in the claim process is explained below -
− The company needs to analyse whether it requires to own 200 centres by itself across the
country. The company can evaluate closing down centres with less customer footfalls or
outsource the ones which are not located at the strategic location. This would save some cost
to the company.
− The current process requires each service centre to send the faulty mobile phones back to
Mumbai for repair or replacement. This is done even in case of minor repairs which can be
handled locally. The company can provide necessary infrastructure to the service centres to
carry out minor repairs locally. This would save logistics cost of sending the phones to Mumbai
and back to service centre. The company should analyse the past data to understand the
proportion of phones which require minor repair. Repairing the phones locally wou ld also
reduce the turnaround time and the customer will get back the phone faster.
− The current process is to send phones in 3-4 batches in a day. This effectively means creating
3-4 consignments, documents for dispatches and incurring extra costs for tra nsportation.
Combining the phones in a single batch would reduce the cost of transportation and
administrative cost as well.
− The phones can be sent back from Mumbai in single batch instead of creating multiple batches
to save transportation costs.
The above improvements must be revisited continuously to derive required benefit from Kaizen
process.
Apart from eliminating waste in the warranty claim process, the company must also identify root
causes of increase in warranty claims in the current year as compared to previous year. Every
phone being sent back for repair/replacement involves avoidable cost. The company must also
revisit the manufacturing process and quality control processes to eliminate wastage in production
process and improve quality.
− Zen can consider producing better quality mobiles at the manufacturing process to reduce the
warranty claims.
− The pattern of warranty claim must be analysed to understand whether there is certain
common problem related to repair claims. If the issue has some relation with parts used in
mobile, the issue can be taken up with supplier of such parts.

CS-8: TOTAL PRODUCTIVE MAINTENANCE

Super Refineries Limited is a leading oil refining company operating in India. The company has
three plants - one each situated in North, South and West. The company has a refining capacity
of 30 million barrels. The company currently enjoys a 40% share of the domestic market. The
plants run on all 365 days in a year and operate at 100% of the capacity. The company currently
does not have any maintenance schedule in place for its plant and machinery. Any repair
requirement of plant and machinery is carried out on ad-hoc basis.
The company has implemented Total Quality Management (TQM) to ensure that the company
rolls out top quality products. The company did not receive any complaints from its customers
regarding poor quality of products or products not meeting the specifications. The entire
production team is quite excited with superior quality of products.
However, in the last three months, about 30% of the dispatches to customers were delayed. This
comes at a time when the entire plant had to be shut for maintenance activity due to breakdown
in the machineries for a week. The company also witnessed 20% rejection of the final products.
The customers claimed that the products did not meet the specification agreed by them with the
company. The Director of Refineries is worried about the worsening situation of production at
plants. Another concern for the director is the increase in number of accidents and loss of
productive time due to this.
The chairman of the company convened an urgent meeting of the Board of Directors to
understand the impact and reasons of the situation at production plants. A key issue highlighted
by plant supervisors is that the scheduled maintenance activity for plants was never carried out.
The underlying assumption for not carrying out such maintenance activity was - “Since the plant
is running smoothly, there is no requirement of preventive maintenance activity. Such activities
cost a lot in terms of money and also cause loss of productive time which could otherwise be
used for production”. The maintenance departments and production department functioned in
silos with almost no co-ordination amongst themselves. The most critical parts of the plant were
not maintained for a long time.
The chairman called you after the meeting and asked you to help him understand the current
issue at the plant. “We had Total Quality Management (TQM) in place at all our plants. I
understand from the production director that TQM is working as intended. Why are we facing the
breakdown problem inspite of having a TQM in place”- said the Chairman?
Required
The Chairman has asked you to quickly prepare a note highlighting the following points -
(i) LIST the likely losses arising due to breakdown of machinery due to non-maintenance.
(ii) EXPLAIN the key features of such programme.
(iii) COMPARE the programme identified above and TQM.
(iv) ADVISE the various types of maintenance practices that the company can implement.

CASE STUDY 13.31
Solution
Issue
Super Refineries Limited has implemented a Total Quality Management and is known for
producing top quality products. The company enjoys 40% market share in the domestic market.
The plants operate at 100% capacity and on all days of the year. This indicates that the company
does not carry out preventive and corrective maintenance. The company has not received any
complaints with respect to quality from its customers. This can be attributed a solid TQM in place.
However, in the last three months, the company has faced delayed in supplies and customer
rejections. The delay in supplies could be attributed to the breakdown in the machineries. The
production could have been of an inferior quality if the production managers would have rushed
to meet the production deadlines due to loss of production time owing to breakdown.
The discussions at the board meeting indicate that the company has not prioritized preventive
maintenance. Maintenance is being carried out on an ad-hoc basis with a proper preventive
maintenance schedule. The company is concerned about costs of maintenance and hence no
preventive maintenance was carried out. Further, there is no co-ordination between the
production team and maintenance team.
Losses Arising Due to Breakdown
The following are the losses which can be associated with the breakdown of machinery at Super
Refineries Limited -
− Equipment failure leading to unexpected loss of time - The production at plants was
interrupted and the supplies to customers were delay in case of Super Refinery Limited.
− Idle waits and stoppages due to ad hoc maintenance requirements. Since the interruption is
unplanned, the productive labour time is wasted.
− Production of inferior quality products causes financial losses. The company would also
incur additional costs to remake the product without any additional revenues.
− The company would also incur losses in terms of additional set up costs. Every time a
machine breaks down, a significant amount of time would be wasted in setting up the
production processes again.
Total Productive Maintenance (TPM)
Based on the facts of the case, it is very clear that the company has not prioritised maintenance.
The company can use TPM philosophy to address the issue.
TPM is a maintenance philosophy aimed at eliminating production losses due to faulty equipment.
The objective of TPM is to keep equipment (plant, machinery etc.) in such a position to produce
expected quality products at the maximum capacity with no unscheduled stops. This also includes
attaining:
− Zero breakdowns.
− Zero downtimes.

− Zero failures attributed to poor condition of equipment.

− No loss of efficiency or production capacity due to the equipment.
The concept was initially applied to equipment i.e., plant and machinery. Of late, the concept has
also been extended to processes and employees. TPM focusses in keeping equipment and
employees in top working condition to avoid any breakdowns and delays in manufacturing
process.
Traditionally, maintenance work has been considered as a responsibility of the Maintenance
Team which is different from the production team. Total Productive Maintenance seeks to involve
workers in all departments and levels in ensuring the effective operations of the plant. When both
the teams work in alignment, learnings can be shared with each other. The production team also
takes ownership of maintenance requirement. A sole focus on higher production without taking
care of maintenance requirement can hamper the long-term production requirements, as could
be seen in the case of Super Refinery Limited.
Features
− Traditional maintenance is centred in the maintenance department. However, TPM seeks to
involve workers at all departments and levels. There is a great amount of co-ordination
between the production and maintenance team in TPM.
− Autonomous maintenance focusses on training operators to be able to take care of minor
maintenance tasks. This relieves specialised maintenance staff to focus on critical issues.
− TPM focusses on achieving and sustaining zero loses with respect to minor stops,
measurement and adjustments, defects, and unavoidable downtimes.
− Planned Maintenance is aimed to have trouble free machines and equipment producing
defect free products for total customer satisfaction. The approach here is proactive
maintenance instead of reactive maintenance. Super Refinery limited had a reactive
approach to maintenance where maintenance was carried out on an ad hoc basis.
− TPM emphasises on training of workers across all levels and departments. The ultimate
objective is to have a factory full of skilled workers.
The issues faced by Super Refinery Limited due to unplanned shutdowns can be addressed using
a Total Productive Maintenance philosophy.
The following are the Eight Pillars or Principles of TPM -
− Autonomous Maintenance
− Focused Improvement
− Planned Maintenance
− Early Equipment Management
− Quality Maintenance
− Education and Training
− Office TPM
− Safety, Health and Environment

CASE STUDY 13.33
TQM and TPM

Total Quality Management (TQM) and Total Productive Maintenance are often used
interchangeably. However, TQM and TPM are considered as two different approaches. TQM
attempts to increase the quality of goods, services and concomitant customer satisfaction b y
raising awareness of quality concerns across the organisation. In other words, TQM focuses on
the quality of the product, while TPM focuses on the equipment used to produce the products. By
preventing equipment break-down, improving the quality of the equipment and by standardising
the equipment, the quality of the products increases. TQM and TPM can both result in an increase
of quality. However, the approach of each is different. TPM can be seen as a way to help achieving
the goal of TQM.
Super Refinery Limited has implemented TQM and is delivering high quality products to its
customers. TQM focusses on the end product being supplied to the customer. In the process of
producing high quality and volumes of products, the maintenance aspect of plant and mac hinery
was ignored by all. This led to breakdowns and unplanned shutdown of the plant and machineries.
The TPM philosophy would focus on the equipment which support production of high quality
products under TQM.
Types of Maintenance under TPM
The following are the types of Maintenance Programmes which Super Refineries Limited can
implement-
Breakdown Maintenance
No maintenance is carried out unless the equipment actually fails. This is the approach taken by
Super Refineries Limited currently. This type of maintenance is used when the equipment failure
does not impact the operations and production significantly and the only cost incurred is the cost
of repair. This is not advisable in case of Super Refineries as breakdown of machineries have led
to significant delays in deliveries and poor quality of production.
Preventive Maintenance
It is a daily maintenance (cleaning, inspection, oiling and re-tightening), designed to retain the
healthy condition of equipment and prevent failure through the prevention of deterioration,
periodic inspection or equipment condition diagnosis, to measure deterioration. This can be
compared with a routine and periodic maintenance activity of a vehicle.
Corrective Maintenance
Corrective maintenance focusses on making machines easier to clean and maintain. There could
be reconfiguration of certain parts of the machines (say, a lubricating pipe) to ensure that the
maintenance staff can carry out maintenance effectively and easily.

Maintenance Prevention
Through the analysis of maintenance data, the maintenance technicians can work with the
designers of our machines to create machines that are more reliable. Maintenance and repairs
that are required can be made as simple and as easy as possible to reduce time, save money
and improve safety.
Autonomous Maintenance
In case of autonomous maintenance, minor and day to day repairs are carried out by the operators
of plant themselves instead of waiting for technicians. Activities like lu bricating, bolt tightening
etc. are done along with minor repairs by the floor workers or operators. Maintenance team is
called only when sophisticated and highly technical maintenance work is required. You may
change the tires of your car on your own but to repair a puncture or wheel alignment, you visit a
technician.
Conclusion
Super Refinery Limited should implement a TPM which would complement and support the TQM
philosophy. This would also address the issue of the production team and maintenance team not
working in co-ordination. Down time for maintenance should not be considered as a cost or
unproductive activity. This should be an integral part of the overall manufacturing plan. This would
ensure that emergency and unplanned downtime are kept to a minimum.
CS-9: SIX SIGMA AND COST OF QUALITY

Absolute Singapore Pte Ltd. (ASPL) manufactures electronic components for washing
machines in an assembly line. Recent market survey reports indicate erosion of its clientele.
Feedback taken from customers suggest that the company’s products were not of good quality.
ASPL is concerned because its competitors have been able to achieve zero defect performance
in terms of nil sale returns on account of quality and nil subsequent warranty cost. Therefore, the
competitors enjoy huge customer loyalty.
To satisfy its customers, the company ASPL wants to improve its product quality. Consequently,
it has decided to undertake Six Sigma study of its operations.
Below is the additional information given about ASPL’s operations:
Yearly sales of electronic components are 25,000 units at `20,000 each. Of these, 1% sales are
returned due to quality issues. These are scrapped and a replacement is made by the company.
In addition, each product is under warranty for one year after sale. If a claim is accepted under
warranty, service and replacement of parts is done free of cost. Current yearly warranty claims
(these are separate from sales returns), which is also representative of the average yearly
warranty claims, amount to `30,00,000 per annum.

CASE STUDY 13.35
Quality control check and inspection is carried out directly at the assembly line. There is no quality
check done at any other point in the entire work flow. Total time spent on inspection is 2,000
hours in a year which costs the company `10,00,000 per annum. Inspection leads to 10%
rejection i.e. 2,525 units. These units require only one cycle of rework, after which they are ready
for sale. Rate of rework in the units rejected on inspection at the assembly line is 5 units in 1 hour.
Cost of rework is `6,250 per hour.
The variable cost of electronic component is `12,500.
The Six Sigma team as part of its study found that rework on products was mainly due to the
following reasons:
(1) Assembly line workers, including new hires, learnt on the job as to how to assemble the
input material to produce the final electronic component. This lead to many errors due to
lack of proper standardized training. Therefore, on account of these errors, the entire
electronic component has to assembled again.
(2) Sub-standard quality of raw material is detected on inspection only at the assembly line. By
this time, the defective material is already fitted into the final electronic component.
Therefore, entire component has to be reworked upon to replace the defective raw mat erial
input.
(3) Machines are outdated and are not entirely suitable for the current production methodology.
Proposed solutions to tackle these issues are as follows:
(1) Provide training to assembly line workers to train them on the production methodology. This
training is expected to standardize work flow, thereby reducing errors. Such training
programs will be held regularly to update the workers on new methodologies. These
programs can also serve as employee feedback sessions about the actual working
conditions at the assembly line. This two-way communication can improve and streamline
the production process. Brainstorming can help detect or give heads up about potential
problems in the production process. Total training hours in a year are expected to be 5,000
hours, costing `1,000 each hour.
(2) Currently poor quality of raw material input is detected only on inspection at the assembly
line. This results in wastage of resources in terms of material, time and capacity. In addition
to the existing inspection at the assembly line, a new functional area for quality planning and
improvement is proposed to be set up. At the time of procurement, the department will
determine the appropriate quality of raw material input, ensure that suppliers supply material
as per these requirements as well as suggest alternatives that can help improve produc t
quality. By ensuring quality of raw materials at the beginning of the production process,
wastage of resources is reduced, if not can be eliminated. Cost of setting up such a facility
will be `1,50,00,000. In addition to this facility, inspection will continue at the assembly line.

This ensures complete quality check during the entire production cycle. At the same time,
due to the introduction of this new functionality for quality control, the pressure on resources
for inspection at the assembly line would reduce.
(3) Current machines should be replaced entirely with new machines. Old machines can be sold
for negligible amount as scrap. New machines would cost `3,60,00,000 having a life of three
years.
Implementation of the above three solutions can have the following impact:
• Rework of products can be entirely eliminated.

• Sale returns will reduce from 1% to 0% due to better quality of products.
• Yearly warranty claims will reduce from `30,00,000 to nil per annum.
• With the introduction of the new facility, time required for inspection at the assembly line
would reduce from 2,000 hours to 1,200 hours. Cost of inspection to do quality check at the
assembly line would reduce from `10,00,000 per annum to `600,000 per annum.
• Due to better quality, ASPL can build better reputation with the customers which can further
yield additional sales of 5,000 units per year.
Required
You are the management accountant at ASPL. As part of the Six Sigma project implementa tion
team, you are requested to EVALUATE proposals suggested by the Six Sigma team. The team
has used the DMAIC technique to assess quality improvements.
Solution
DMAIC technique analyses operational problems by assessing them in the following phases (1)
Define; (2) Measure; (3) Analyze; (4) Improve and (6) Control.
(1) Define the problem, project goals and customer requirements: Poor quality leading to
erosion of clientele.
Customers feedback indicates that product quality requires improvement. Dis -satisfaction is
reflected in the form of sale returns and warranty claims. Competitors have no sale returns
on account of poor quality as well as no warranty claims on its products. Hence, in an
environment where 100% quality can be achieved, ASPL is facing quality issues. This is
the problem to be addressed. Failure to do so would result in loss of clientele, leading to a
possibility of going out of business. The goal of the project is to identify what is the sigma
level at which the company is operating and to suggest improvements to the production
process it achieve 6σ level of operations.

CASE STUDY 13.37
(2) Measure current performance: Indicators of poor quality to find out what is the sigma level
of the current operations?
Current performance focusing on quality can be determined based on the cost incurred in
the following phases:
(a) Sale returns: Sale returns are 1% of total sales. Gross sales are 25,000 units per
annum at selling price of `20,000 each, therefore having a value of `50,00,00,000.
Sales returns @1% amount to `50,00,000 that represent the return of 250 units per
annum. The cost of poor quality on account of these sale returns is the variable cost of
the product ` 12,500 per unit. This is an avoidable cost amounting to `31,25,000 per
annum that is 0.63% of sales (`31,25,000/` 50,00,00,000).
(b) Warranty claims: Warranty is an undertaking given by the company to repair the
electronic component free of cost if defect occurs within a specific period of time.
Hence, when the customer files a claim that is accepted by the company, it means that
there has been an issue with the quality of the product. This is a liability / cost that
should ideally be kept minimum, if not nil like ASPL’s competitors.
Warranty for the product is for one year from the date of sale. Warranty claims this year
is `30,00,000, which is given to be representative of the average yearly warranty cost .
Therefore, currently this cost amount to 0.60% of sales (`30,00,000/ `50,00,00,000).
Summarizing sale returns and warranty claims alone represent 1.23% of current sales.
Considering the current percentage of deficiency, the company is operating between 3σ
and 4σ level. The rest of the industry is able to achieve 6 σ level of operations. At zero
defective production, there are no sale returns on account of quality and no warranty claim
costs. Therefore, is tremendous scope for improvement in ASPL’s operations.
(3) Analyze: What is the cause of poor quality? What is the cost of resources focused on quality?
Six sigma team studied the production process in detail. Replicating the issues detailed in
the given problem:
(a) Problem 1: Assembly line workers, including new hires, learnt on the job as to how to
assemble the input material to produce the final electronic component. This lead to
many errors due to lack of proper standardized training. Therefore, on account of these
errors, the entire electronic component has to assembled again.
(b) Problem 2: Sub-standard quality of raw material is detected on inspection only at the
assembly line. Inspection leads to 10% rejection of units. By this time, the defective
material is already fitted into the final electronic component. Therefore, to entire
component has to be reworked upon to replace the defective raw material input.

(c) Problem 3: Machines are outdated and are not entirely suitable for the current
production methodology.
The above factors result in rework on products, an internal failure cost, that lead to wastage
of material, resources, and capacity.
Two costs incurred to focus on quality are cost of inspection and cost of rework, 2,525 units
are reworked upon. Time required to rework 2,525 units per year = 2,525 units / 5 units per
hour = 505 hours per year. Cost of rework is given to be `6,250 per hour. Therefore, total
cost of rework per year = `31,56,250.
Inspection cost for 2,000 hours at the assembly line is given to be `10,00,000 per annum.
Therefore, total cost of resources currently incurred for quality = `41,56,250 per annum.
(4) Improve: Reduce errors and improve quality of the product
While cost of resources currently incurred for quality is only 0.83% of sales ( `41,56,250/
`50,00,00,000), a detailed analysis brings forth many qualitative aspects that ASPL needs
to be address. If its competitors are able to achieve excellence in quality, so must ASPL, in
order to remain in business. Therefore, following are the proposals that can provide solutions
to the problems referred to above:
(a) Solution to Problem 1: Periodic training sessions to educate new hires and update
workers in the assembly line on the latest techniques in production. Standardized and
informed working will lead to lower errors and thereby improving product quality. Cost
per year = 5,000 hours yearly training × `1,000 per hour = `50,00,000.
(b) Solution to Problem 2: Delay in detection of poor quality input can be resolved by
streamlining the work flow. New function for quality planning and improvement, at the
beginning of the process helps in early detection, without wastage of resources. Cost
per year for introducing this functionality = `1,50,00,000.
(c) Solution to Problem 3: Replace old machines with newer ones. Machine upgrade will
align the resource with the production requirements. This reduce chances of errors i n
the production process.
Cost of procurement: `3,60,00,000 has a life of 3 years. Therefore, annual depreciation
is `1,20,00,000.
(d) Consequences of implementing these proposals, as given in the problem, can result in
the following improvements:
(i) Rework of products can be entirely eliminated.
(ii) Sale returns will reduce from 1% to 0% due to better quality of products.

CASE STUDY 13.39
(iii) Yearly Warranty claims will reduce from `30,00,000 to nil per annum.
(iv) With the introduction of the new facility, time required for inspection at the
assembly line would reduce from 2,000 hours to 1,200 hours. Cost of inspection
at the assembly line would reduce from `10,00,000 per annum to `6,00,000 per
annum.
(v) Due to better quality, ASPL can build better reputation with the customers which
can further yield additional sales of 5,000 units per year.
When the company is capable to achieve points (i), (ii) and (iii) milestones, it would
have achieved 6 σ operational level. The cost of quality report summarizes the above
discussion:
Cost of Quality Report
Cost of Quality Component Before Improvements After Improvements

Current Cost % Projected %
` of Cost of
Sales ` Sales
Preventive Cost
Training
(5,000 hrs. × `1,000 per hour) ××× ××× 50,00,000 0.83%
Quality Planning and Improvement ××× ××× 1,50,00,000 2.50%
Appraisal Cost
Inspection Cost 10,00,000 0.20% 6,00,000 0.10%
Internal Failure Cost
Rework 31,56,250 0.63% ××× 0.00%
External Failure Cost
Sale Returns 31,25,000 0.63% ××× 0.00%
Warranty Claims 30,00,000 0.60% ××× 0.00%
Total Cost of Quality 1,02,81,250 2.06% 2,06,00,000 3.43%
Yearly Sales 50,00,00,000 60,00,00,000
Total Cost of Quality / Sales (%) 2.06% 3.43%
(e) Cost of quality is 2.06% of sales of which 1.23% alone is external failure cost. This has
an impact on the customer experience and can erode customer base. By implementing
the six-sigma team’s proposal, this external failure cost on account of sale returns and
warranty costs, can completely eliminated. Internal failure cost can also be eliminated.
The increase in cost of quality proposed to be made would be a preventive cost to avoid
failure of quality. The company should focus on preventing the error such that it ensures
that product is of good quality when it reaches the customer at the very first instance.

This enhances the customer experience and therefore eliminating the scope for
external failures like sales returns and warranty claims. Better quality can yield further
sales of 5,000 units per year. Therefore, an increase in spending on quality measures
is justified since it not only yields significant improvements to quality but also brings in
more sales orders.
Improvement to the financial position of the firm is summarized below:

Particulars Amount `
Improved Contribution Margin (Ref. note 1) 3,75,00,000
Elimination of Goods Replacement 31,25,000
Elimination of Warranty Claims 30,00,000
Elimination of Rework 31,56,250
Savings in Inspection Cost 4,00,000
Total Benefit …(A) 4,71,81,250
Additional Costs Incurred
Training 50,00,000
Quality Planning and Improvement 1,50,00,000
Increase in Fixed Cost
(Yearly Depreciation of Upgraded Machines) 1,20,00,000
Total Additional Cost …(B) 3,20,00,000
Net Benefit …(A) - (B) 1,51,81,250
Note 1: Incremental Contribution:
Sales have increased by 5,000 units. Selling Price is `20,000 per unit while variable
cost is `12,500 per unit. Contribution is `7,500 per unit.
Conclusion: Six Sigma team’s proposals are focused on preventing the error
from occurring. Consequently, quality improves, sale improves and thereby can
yield a net benefit of `1,51,81,250 per year to the company.
(5) Control: Maintain quality at 6σ level and keep the production facilities updated.
(i) Training sessions with workers can serve as two-way communication platform to detect
other problems that can be resolved in more timely manner. Inputs received can also
be used to improve the production work flow as well.
(ii) New function of quality planning and improvement can help the company be better
informed about the latest production methodologies.
(iii) Updated machines are better equipped to handled changes in the production process
since they are built with the latest technology. ASPL should do a continuous
assessment of the state of its machines and upgrade them when necessary.

CASE STUDY 13.41
CS-10: ENVIRONMENTAL MANAGEMENT ACCOUNTING
Shandaar Bangle Ltd (SBL) have been recognized as a manufacturers and exporters of high
quality Bangles, designed, and manufactured using optimum quality raw material, sourced from
trustworthy vendors of the market.
Manufacturing Process
The process of manufacture of glass bangles is highly skilled labour oriented one comprising of
the following main operations:
Glass Melting Parison Making Spiral/Coil Forming

Phase Phase Phase
In first phase, glass batch materials like sand, soda ash, lime stone fel dspar, borax etc. with
other additives and colouring materials in a suitable proportion are mixed manually and fed into
the pot places in pot furnace. The raw material is melted in the furnace at a temperature of about
1300 – 1400 (°C) to obtain molten glass.
In second phase, molten glass is drawn from the pot of the furnace with the help of the iron pipe
and formed into gob to gather required quantity of glass for formation into parisons on iron plates.
The parisons of different colours are joined together and reheated in an auxiliary furnace to obtain
required designs.
In third phase, the reheated parison is then transferred to ‘Belan Furnace’ from which the glass
is further drawn into spiral/ coil of bangles on the spindle counted and rotated manually at uniform
rate of revaluation synchronizing with the manually at the other end of the furnace. Spiral are
then taken out from the spindle and cut with the help of a pencil cutter to separate out the single
pieces of bangles from spiral. These cut or un-joined bangles are then sent for joining of end,
finishing cutting & polishing, decoration etc. The finished products are then neatly packed for
sale.
Environmental Impact
But unfortunately, these processes have environmental impact at all stages of the process,
including emissions of airborne pollution in the form of ashes, gases, noise and vibration.
Conditions of the Workplace
Due to limitations of maintaining appropriate temperature for melting and moulding of the glass,
furnaces are kept burning. Therefore, workers have to work with such working conditions continuously
without proper leisure time.
The above-mentioned factors become more harmful while working in immense heat and sound which
is normally higher than permissible levels.

Health Impact
A recent study has revealed adverse impact of pollution over workers and people who are living
in nearby area.
Management Initiatives
The management of company is worried about environmental impact and health impact and has
taken certain initiatives in taking care of environment like- batch house cyclonic dust collector,
noise absorbing device, natural gas fired furnace, better refractory materials, training for waste
minimization, treatment of solid waste, research and development activities aimed at reducing
pollution level, planting trees, treatment of nitrogen oxide and other harmful gases.
Management desires to adopt environmental management accounting as a part of strategic
decision making process.
Required
(i) EXPLAIN the requirement to have environmental management accounting and IDENTIFY
the SBL’s environmental prevention, appraisal, and failure costs.
(ii) ANALYZE the appropriateness of SBL incorporating the following in implementing
Environmental Management Accounting:
− Activity Based Costing
− Life Cycle Costing
− Input Output Analysis
(iii) EXPLAIN the need of non-financial consideration in decision making and suggest safety
measures that can be taken into consideration for workers.
Solution
Environmental management accounting (EMA) is the generation and analysis of both financial
and non-financial information in order to support internal environmental management processes
i.e. identification, prioritization, quantification and recording of en vironmental cost into business
decision.
By adopting EMA, SBL will have following benefits:
▪ Product Pricing.
▪ Budgeting.
▪ Investment Appraisal.
▪ Calculating Investing Options.

CASE STUDY 13.43
▪ Designing, Calculating Costs, Savings and Benefits of Environment Projects.

▪ Setting Quantified Performance Targets.
▪ Assessment of Annual Environmental Costs.
▪ Environmental Performance Evaluation, Indicators and Benchmarking.
▪ External Reporting- Disclosure of Environmental Expenditures, Investments and Liabilities.
Environmental Costs of SBL

▪ Environmental Prevention Cost: These costs are basically incurred in relation to activities
undertaken to prevent the production of waste that could harm the environment.
Company’s efforts to minimize the effect of its activities on the environment like installing
batch house cyclonic dust collector, natural gas fired furnace, better refractory materials,
training for waste minimization, research and development activities, noise absorbing
device and planting trees can be classified as Environmental Preventive Cost.
▪ Environmental Appraisal Costs: It means costs incurred in relation to activities undertaken
to determine whether product processes and other activities within firm are complying with
environment standards.
SBL may perform ‘Contamination Test’ to observe the environment compatibility of its
processes can be categorized under environmental appraisal cost.
▪ Environmental Failure Cost: It means cost incurred in relation to activities dealing with
pollution arising from the activities of entity includes costs related to treatment harmful
gases and treatment of solid waste.
Appropriateness of Techniques for Identification and Allocation
Activity Based Costing
This costing technique would help the SBL to separate environmental costs from the general
overheads and allocate them to glass bangles by identifying appropriate drivers of these
environmental cost. Possible environment activities for environmental costs and their drivers are:
Cost Drivers
Activity
▪ Number of trees planted
▪ Planting of trees
▪ Volume of nitrogen oxide treated
▪ Treatment of nitrogen oxide (in the same
way, activity and related cost driver for
other gases would be determined)
▪ Volume of such waste
▪ Solid waste removal
▪ Man hours worked for such activities
▪ Research and development activities

Life Cycle Costing

By using this costing in EMA, SBL would be able to identify, record and control the environmental
costs relating to various stages in the life of glass bangles. At each of following stage
environmental cost would be incurred:
− In raw material stage, some natural product would be purchased.
− In manufacturing stage, emission and treatment of nitrogen oxide & other gases and
treatment of solid waste.
− In marketing and distribution stage, environmental cost relating to transportation of glass
bangles to various customers.
Input /Output Analysis
Here detail analysis of input and output of a system is done for the purpose of assessment of
ecological wellbeing of entity’s products, processes and other activities. This technique is based
on the fact that whatever goes into the system has to come out of it.
In case of SBL, it can evaluate the volume of sand, soda ash, lime stone feldspar, borax etc. and
the resulting volume of output i.e. glass bangles. Through such evaluation, the SBL would be
able to allocate and analyses environmental cost attributable to input and output of glass bangles.
Non-Financial Considerations
Entities generally give emphasis on financial measures such as earnings and accounting
returns but little emphasis on drivers of value such as customer and employee satisfaction,
innovation and quality. Due to which mostly companies could not continue in long term. So for
the purpose of achieving long-term organizational strategies, non-financial consideration should
be taken into account. Without this it may be that company achieve short term goal but would be
difficult to achieve long term goal.
In SBL, it can be clearly seen that there is great impact on health of workers. By creating a safe
and healthy environment for employees, SBL can improve productivity, business performance, staff
morale and employee engagement. Further, SBL will also be able to reduce – accidents/ work related
ill health/ sick pay costs as well as insurance costs. A healthy workforce can demonstrate corporate
responsibility. If SBL look after employees, business is likely to have a more positive public image.
To create safe and healthy environment following measures can be taken into consideration:
− Safety monitoring system.
− Workers must be trained.
− Recruitment of more workers.
− First aid kit should be available.
− Protective glasses, clothes, gloves should be provided.
Regular health check-up camps and awareness programs.

CASE STUDY 13.45
CS-11: ETHICAL AND NON-FINANCIAL CONSIDERATIONS
Star Limited is in the business of manufacturing copper rods. The copper rods are sold to various
cable wires manufacturers across the country. The growth in economy, especially the power
sector, has led to a sharp increase in demand of cable wires and copper rods. Th e company is
considering an opportunity to set up its own copper wire manufacturing plant and gain a share of
cable wire’s market. A detailed study was carried out to understand the market of cable wires,
market growth, competitive landscape, financial feasibility etc. The Chairman has asked the
Director of Finance to review the financial feasibility study and highlight concerns, if any.
The following paragraphs contain summarised information of financial study carried out:
− The project of setting up a new cable wire manufacturing plant is expected to yield a Net
Present Value of `200 crores considering a project life of 20 years. The initial cost of setting
up the plant is `500 crores which is readily available with the company. The project would
yield an IRR of 17.5% which is higher than the IRR of other plants under operation.
− The plant would employ about 70% of labour on contractual basis. These labours would
mostly comprise immigrants from neighbouring countries. The feasibility study has assumed
that the immigrants labours would be paid 15% less wage than that paid to other workers.
However, the wage paid to immigrants would still be higher than the minimum wage
requirements. The contribution to retirement funds is also not considered in the project
evaluation. The company feels that immigrant workers would not stay beyond a period of a
year and thus there is no requirement to contribute to retirement funds.
− The existing plants of the company do not have free space available and hence the company
will need to buy land adjacent to its existing plant. A part of the proposed land to be acquired
falls under the forest reserve area where no commercial activity is allowed. The company
officials are in liaison with the government officials to get the land parcel approved. A certain
amount of the value of land would be paid to certain government officials through a
consultant. This cost is not a part of the project evaluation report.
− The new plant would also produce certain chemically harmful waste which would be
disposed off into a nearby river after treatment. The company however does not have any
technology to treat the waste fully. A new treatment plant would cost about `100 crores.
The finance director has forwarded the entire report to you for comments.
Required
(i) LIST Various non-financial and ethical consideration in decision making.
(ii) EVALUATE the impact of the various issues in the financial study and give your
RECOMMENDATION.

Solution
Issue
Star Limited manufactures copper rods and is considering commencing a new plant for
manufacturing of cable wire. A financial evaluation has been carried out and the project appears
to be financially viable. The project has a positive NPV of `200 crores and an IRR of 17.5%.
Though the project is financial viable, there are certain concerns relating to the project.
Non-Financial and Ethical Consideration in Decision Making
Capital Budgeting or Investments decisions are generally made based on the various fin ancial
evaluation like Net Present Value, Internal Rate of Return, Payback Period etc. The financial
considerations in capital budgeting decisions are important because the end objective of every
for-profit business is maximisation of shareholder’s wealth. However, an important aspect of
capital budgeting is that investment decisions cannot be purely based on financial analysis; there
are other soft non-financial aspects of the investment appraisal that need to be thoroughly looked
into. Some of the non-financial considerations that a company factors for capital budgeting or
investment decisions are listed below:
Environmental Factors
Environmental factors like pollution, deforestation, impact on climate and weather, greenhouse
effects etc. must be considered by companies while selecting a project for implementation. Any
project which adversely affects the environment is not taken positively by common public and
environmentalists. A lot of projects have been stalled or delayed due to the protests by pro -
environment groups leading to cost and time overrun. The government through ministry of
environment could impose penalties on projects which are violating environmental norms or green
norms.
Staff Motivation
Staff motivation and satisfaction is another important factor which companies might consider while
choosing projects. If, for example, a company decides to implement automation in its plants for
operations which would result in redundancy in labour, the overall staff motivation would come
down. Staff and workers would resort to strikes and lockouts to protest against such decisions.
The company should adopt a participative approach while taking such decisions considering the
impact it would have on the labours.
Government Regulations
The companies must comply with relevant government regulations while implementing projects.
Some projects might be profitable and yield excellent returns. However, if the profits and
cashflows are generated by violating government regulations, it could be harmful in the longer
run for the company and its brand. The companies must ensure that all relevant laws and
regulations are complied with.

CASE STUDY 13.47
Availability of Resources
The evaluation of any project must also consider availability of key resources like raw material,
manpower, logistics infrastructure, electricity etc. If there is any constraint on any of the key
resources at a future date, a financially viable and excellent project could well turn into a failed
project. It is thus important that the requirements and availability of key resources are analysed
in advance.
Availability of Project Site
Site selection involves measuring the needs of a new project against the merits of potential
locations. This indicates the practice of new facility location, keeping in mind project requirements.
A wrong or unsuitable project location may mar the very benefits of a financially lucrative
investment proposal.
Corporate Social Responsibility
Corporate social responsibility refers to "the ethical principle that an organisation should be
responsible for how its behaviour might affect society and the environment”. The companies do
not function in silos but are a part of the larger society and environment. They have a responsibility
towards the society and environment to use the various resources judiciously and ensure a
sustainable development. Companies are expected to uplift the well being of the society at large
and to not harm the environment through operations. The aspects of corporate soci al
responsibility must also be considered while deciding the project to be implemented.
Ethics
Ethics are a set of guiding moral principles for individuals and corporates. Every company has a
duty of care to various stakeholders (shareholders, employees, suppliers, customers etc.). A
company is expected to act in a fair and transparent manner and be honest in all its dealings with
stakeholders.
Issues in the Financial Study
As discussed earlier, the project is financial viable with a very good NPV and IRR. The amount
required to build the plant is also available with the company. Financially, the pr oject must be
accepted. However, there are certain non-financial issues which must be addressed before a
decision to build the plant is taken.
Payment to Labour and Ethics
As explained earlier, every company has a duty of care to all its stakeholders and the stakeholders
must be treated fairly. Labours are a key stakeholder for the construction and running of the plant.
The company has chosen to pay 15% lower wage to immigrant workers and not contribute
anything towards their retirement benefits.
The company is paying a higher wage to the labours than required by law and hence there is
nothing illegal in such payments. However, the company must not discriminate between workers
who are doing same nature of work just because the workers are immigrants. The reputation of

the company might be affected because of the lower wages paid to immigrants. There is a
possibility that these labours go on protests and strikes or decide not to work for the company.
The company has also decided not to contribute to retirement funds for these workers. This could
have a legal implication as well. The financial impact of paying wages at par with other workers
and contributing to the retirement fund for immigrant workers is not known. However, the company
should reconsider this decision and pay all the workers the same level of wages. The company
should also contribute to the retirement fund of employees.
Availability of land and bribery
The existing plant does not have sufficient space to build a new plant and hence the company is
planning to acquire additional land which falls under the forest reserve area where no commercial
activity is allowed. The company is in liaison with government officials to get the land acquisi tion
approved. The company would also be paying bribes indirectly to the government officials to get
the land allotment approved.
The payment of bribes to government officials, whether directly or indirectly would be unethical.
The company could face litigation for acquiring land by unfair means and in future, there is a
possibility of such allotments being cancelled. The company’s reputation would also be dented if
news of bribery is published by the media. The company also has a responsibility towards th e
environment and must contribute towards a sustainable development. The society at large would
not take acquisition of forest land by unfair means positively. This impact the overall goodwill and
brand image of the company.
The company must evaluate if land at other sites can be acquired for construction of the plant.
Such acquisition would be at a higher cost but would be beneficial to the company in the longer
run.
Chemical waste and technology
The proposed plant is likely to emit chemically harmful waste which would pollute the
environment. The technology available with the company can treat such waste partially. The
company has to incur an additional cost of `100 crores to build a new treatment plant. This means
that the NPV of the project would be reduced by `100 crores and IRR would also be lesser if the
new treatment plant is built.
As discussed earlier, the company must operate in a socially responsible manner and consider
implication of its action on the environment. The pollution caused by plants affects the surrounding
environment and might lead to protests by local residents. Sometimes such protests are backed
by NGOs as well. The commissioning of environmentally sensitive projects is difficult at times and
can cause project delays as well.
The company should consider acquiring a new chemical waste treatment plant to ensure that
there is no discharge of harmful waste from the company’s plant. Though, there is an additional
cost involved in building a new plant, it is important that the society a t large perceives that the

CASE STUDY 13.49
company is operating in a socially responsible manner. The company operates in a society and
is an integral part of it and hence, it has certain responsibilities towards the society as well.
Conclusion
The ultimate objective of a company is to maximise shareholder’s wealth. The company must,
however, operate in a socially responsible manner in achieving the objective of wealth
maximisation. The company has a duty of care to other stakeholders like employees, society at
large etc. In some cases, there may be conflict between different stakeholder’s objectives. For
instance, a new waste treatment plant would be good for the environment and society at large but
would be adverse for shareholders as an additional cost of `100 crores would be incurred. The
company must definitely consider non-financial factors along with financial factors while deciding
on whether to build a new plant or not.
CS-12: BALANCED SCORECARD

Fair Limited manufactures and sells motor vehicles in India and different parts of the world. The
company has its head office in New Delhi and three regional offices. The manufacturing plants
are situated in Pune and Bhubaneshwar. The company has over 10,000 employees who are paid
a fixed salary and a performance related pay (PRP).
The PRP is determined using the financial performance as a measure. The performance of
departments which are profit centers is based upon the revenues and profits the departments
generate. The performance of cost centers is based upon the cost savings against the budget.
Of late, the company has identified critical issues with the motor vehicles manufactured and sold
in the market. In the last one year, itself, the company has recalled mor e than 2 lakh vehicles
owing to quality issues like faulty gearbox, issues with axle, braking systems etc. The company
was also penalized for selling vehicles which does not meet the emission norms.
The board of directors carried out an internal review of these frequent recalls and issues with the
vehicles. In most of the cases, it appeared that the recall of vehicles was on account of lower
quality of material and parts used. A couple of critical quality and emission checks were ignored
to dispatch more vehicles in the limited time, leading to higher sales and profits.
The board is concerned with the reputational risk with the issue related with recalls. The company
was consumer’s most trusted brand for last three years in a row. It is unlikely to win the award
this year due to negative feedback from customers. The board wants to win the trust of the
customers back and be profitable as well.
Required
You are the advisor to the board. The board seeks your advice on the following aspects:
(i) STATE advantages and disadvantages of using financial measure as a performance
measure.

(ii) ADVISE an alternative performance measure which includes non-financial measures as

well.
(iii) IDENTIFY 2 critical success factors and 2 Key Performance Indicators for the
performance measure chosen in (ii).
Solution
What is the issue?
Fair limited is into manufacturing of motor vehicles. The company has used financial measures
for performance. Of late, the company has faced quality related issues leading to vehicle recalls.
The company has also been penalized for violating emission norms. Since the company has been
using financial measures only, it appears that non-financial aspects related to quality have been
ignored. The company has adopted the principle of profit at any cost which can be seen from use
of low quality materials and parts as well as skipping key quality checks.
Financial Performance Measure
Financial performance measures focus on financial results or aspects. These measures focus on
the profits made by a business or a unit of business. They also include costs saved against
budgets. Various financial performance indicators include – growth in revenue, profitability,
variance from budget, Return on Capital Employed etc.
In the case of Fair limited, the performance of employees is done on the basis of financial
performance indicator. When performance is evaluated on financial parameters, the emp loyees
and managers tend to focus only on profitability in anticipation of higher bonuses and pays.
The problems related to quality issues in vehicles produced by Fair limited might be linked to the
use of financial performance measure. Low quality parts are used to save costs and improve
profitability. The quality checks prior to sales were also skipped to sell more vehicles with limited
resources. This is an apparent case of compromise in quality for seeking higher profits and
revenues. In light of above, the advantages and disadvantages of financial performance
measures are given below.
Advantages
− Focus on financial objectives and is linked to the overall objective of wealth creation of
shareholders.
− Such measures are objective.
− Quantification of results is possible.
− The measures are comparable across companies of a particular industry.
− The framework to measure financial performance is established in most of the cases.
Disadvantages
− Focus on short term profits and Ignores long term sustainable growth. As can be seen in the
case of fair limited, the company has compromised quality for short term profits. This is
harmful to the company in the longer run.

CASE STUDY 13.51
− This measure can be distorted by inflation. A 5% growth in sales might be good but if the
inflation is 6%, the real growth is negative.
− Financial information might be manipulated to show a better performance.
Non-financial performance measures use measures other than financial to measure performance
of employees and departments. The advantages of non-financial measures are
− Non-financial measures help business to measures every area whether financial or non-
financial. Financial measure would not be able to suitably measure areas like performance
of IT department.
− It focuses on qualitative aspects as well.
− These measures take a long-term view unlike financial measures where employees tend to
take a short term view.
The disadvantages of Non-Financial measures are:
− These require huge amount of information to measure each area of performance and might
lead to shift of focus from core goals and values.
− These can be subjective as non-financial measures cannot be generally quantified.
− Non-financial measures like measures of quality are difficult to measure.
Balanced Scorecard
An alternative performance measure which focuses on both financial and non -financial measures
is the Balanced Scorecard. It outlines four key areas in which compa ny and divisional
performance should be measured to focus on both the short and long term needs of the
organisation. The key idea is that managers are to be appraised on a variety of measures which
include non-financial measures so that their focus is both long and short term.
As discussed earlier, it appears that managers at Fair limited have ignored long term sustainable
growth and qualitative factors and focused on short term profits and sales. This is one of the key
disadvantages of a financial measure of performance. The company can start measuring
performance both on financial as well as non-financial aspects. This would ensure that employees
are not short sighted on profits alone.
The four areas or perspectives in a Balanced Scorecard are –
− Financial Perspective
Financial perspective focuses on financial performance of the business and divisions. The
various financial measures used by companies are profitability, revenue growth, cost control
etc. This is currently being used in Fair limited to measure performance.
− Customer Perspective
This perspective views organizational performance from the point of view the customer or
other key stakeholders that the organization is designed to serve. These could include
measures like customer satisfaction index, percentage of returns, percentage of goods
delivered on time etc.

− Internal Business Perspective

This perspective views organizational performance through the lenses of the quality and
efficiency related to product or services or other key business processes. The measures
under internal business perspective could be number of defective products produced,
production performance per unit of time etc.
− Training and Development/ Learning and Growth Perspective
This perspective views organizational performance through the lenses of human capital,
infrastructure, technology, culture and other capacities that are key to breakthrough
performance. The key measures could be number of new products produced, amount
invested in training and development etc.
In each category/Perspective, the organisation must follow through from the business strategy,
to ensure they are focused on the long-term direction of the business. Clear objectives should be
set under each category according the SMART criteria (Specific, Measurable, Achievable,
Relevant and Time-bound), measured at the end of the period, and lessons learnt from actual
results to help to improve performance in future periods and keep the organisation on track to
achieve its strategic goals.
Applying Balanced Scorecard to Fair Limited
The issues related to quality have arisen at Fair Limited as the managers and divisions focused
on profits at the cost of quality. The recall of vehicles was primarily on account of use of sub-
standard parts. The company should consider using non-financial measures as well as a
performance measure. Balance scorecard can be effective tool to apply financial and non -
financial measure.
The company must take steps to put focus on quality related aspects as well as financial aspects.
A proper application of various Key Performance Indicators under the respective Critical Success
Factors can help the company overcome the current issue.
Critical success factor (CSF) is a management term for an element that is necessary for an
organization or project to achieve its mission. It is a critical factor or activity required for ensuring
the success of a company or an organization. These are the key areas in which the organisation
has to do well if they are to remain competitive and profitable. The critical success factors have
to be linked with the overall strategy of the organisation.
Key Performance Indicators (KPIs) are the ways in which the organisation’s performance for the
CSF can be measured. It is a measurable value that demonstrates how effectively a company is
achieving key business objectives. Organizations use KPIs to evaluate their success at reaching
targets.
The Critical Success Factors and Corresponding KPIs for Fair limited for each of the perspective
in the balanced scorecard is given below:
Perspective Critical Success Factors Key Performance Indicator
Financial ▪ Be the Most Profitable Company ▪ Profitability ratios.
in Motor Vehicle Industry. ▪ Revenue growth.

CASE STUDY 13.53
▪ Become the No.1 Company by in ▪ Variance to budget.

terms of Market Share in five ▪ Number of vehicles sold.
years.
Customer ▪ Be No.1 Choice of Customers. ▪ Number of vehicles sold vis-à-vis
▪ Implement Zero Recall Policy. those sold by competitors.
▪ Number of recalls of vehicles.
▪ On time delivery of vehicles.
Internal ▪ Total Quality Management. ▪ Number of defective cars produced.
Business ▪ Zero Idle Time at Factory. ▪ Number of cars returned by
customers as faulty.
▪ Number of hours spent in waiting by
labours at assembly line.
Training and ▪ Upto Date Technology used in ▪ Amount spent in research and
Development Manufacturing Facilities. development year on year.
▪ Skill Development for Labour ▪ Number of training hours undergone
and Supervisors. by workers and supervisor.
▪ Number of new model of vehicles
launched.
CS-13: THE BUILDING BLOCK MODEL

Grab and Go is a fast food joint operating in a very competitive business environment. It is a
profitable business with very good prospects for growth. A strategy development meeting is
underway to chalk out a plan to improve business growth in a very systematic measurable
manner.
The following information is given to you:
Grab and Go has the following mission statement “Derive strength to grow in scale using our
passion for the craft of cooking and service that will satisfy our customers, employees and other
stakeholders.” Grab and Go is a closely held partnership firm with five partners. It started at a
scale of operations that catered to the local demand within a locality. Reputation for good quality
food and service has help it scale up its operations in the recent years. Most of the key decisions
relating to operations like decision about the menu and its method of preparation, product pricing,
finance, marketing, administration etc. are centralized. Skilled chefs, managers for various
functions and the firm’s partners are part of this core team.
A general survey published in a food trade magazine highlighted people’s perception about fast
food diet. Predominant opinion was that the current food platter available in food joints across the
town were not healthy option. People want healthier choices in the menu when they dine out. At
the same time, they do not want to compromise on taste or presentation of the food item. The
other focal point for improvement was the order taking system. In most food joints, the current
system is manual where the order taking staff note down a customer’s order on paper, send it to

the kitchen and then delivers the order on intimation from the kitchen, which is also done manually
by the kitchen staff. This system has problems like errors in taking down orders, most times
delivery staff are unaware of the content in an item or its availability, delays in delivery leading to
customers complaining about food served cold etc. This problem takes away the pleasure of
dining out and is leaving customers dissatisfied. Another scope for improvement is that customers
want more payment options other than cash to settle their bills. With the advent of plastic money
and mobile e wallet payments carrying cash around has become cumbersome for most of them.
The partners have decided to use this as an opportunity to develop Grab and Go as the niche
food joint addressing the customer’s concerns, while managing to remain profitable.
Consequently, Grab and Go plans to expand by providing more choices along with its regular
menu to health-conscious customers. Also, revamping its ordering, delivery and payment system
would improve customer experience. A reasonable return at the overall firm level would be a
return on equity (Net Income / Total Partnership Capital) of 25% each year. Capital structure will
remain unchanged. The partners are not interested in diluting their share by bringing in new
partners or take external funding with ownership stake. They may however utilize bank financing
for expansion, but only if required.
Expansion of business will entail opening new branches in other localities as well as forging
franchise with other stakeholders. However, Grab and Go is not clear how to measure market
share since the fast food industry market is not entirely an or ganized sector. There is no clear
information about the overall revenue of the whole sector.
In the past, it was quality of its products that drove growth. The management wishes to maintain
high quality standards across branches and franchisee. Therefore, an internal quality control
department may be established to look into the same. External certifications from government
food inspectors and other recognized agencies would also be required to be met. Quality refers
to both product quality and service quality, in this case, service being an inherent part of customer
experience.
The staff at Grab and Go are also excited at this opportunity. Expansion of the food joint would
present a more dynamic work culture. Chefs would have the opportunity to enhance the ir skill by
trying out various ways to cater to the consumer’s palate. Ordering and delivery staff would have
the opportunity to enhance their people management skills. This learning opportunity would
definitely be an impetus for their career growth. With expansion chances of promotion within the
organization increase. Financially, better business leads to the expectation of better pay and
reward system.
Consequently, the management is intent on developing a performance management system that
tracks performance across the organization. Among the different models, the Building Block
Model is being considered.
Required
ADVISE the partners how the Building Block Model at Grab and Go could be implemented.

CASE STUDY 13.55
Solution
Performance management using the Building Block Model poses three questions based on which
the performance measurement system is developed:
What dimensions of performance should the company measure?
Dimensions are the goals that the company wants to achieve based on its overall strategy, those
goals that define its success.
How to set the standards (benchmarks) for those measures?
What are the rewards needed to motivate employees to achieve these standards?
Dimensions
Dimensions (goals) include financial and non-financial goals. Dimensions are further categorized
as into results and determinants. Results are tracked as (a) financial performance and (b)
competitive performance. Determinants are tracked as (a) quality, (b) flexibility, (c) innovation,
and (d) resource utilization. Determinants influence results.
Results
(a) Financial Performance: Grab and Go is a closely held partnership with 5 partners. Partners
are interested in earning profits that have been benchmarked at an overall return on equity
of 25% each year. This can be derived from periodic financial statements that get prepared
as part of the accounting function. Partners want to retain the current capital structure. This
implies that they do not have any plans to go public or have other external funding with
ownership stake. They may take loans from banks for funding their expansion.
Consequently, if they want to expand, the firm has to make sufficient profits that will yield
ample cash reserves. Therefore, Grab and Go’s financial performance dimensions should
also include profitability ratios like gross profit ratio, net profit ratio, operating margin, return
of capital employed (if bank loans are taken) etc. Cash profit and changes in cash reserves
may also be included as dimensions of performance. These measures should be tracked at
the firm’s overall level as well at the individual branch/franchisee level.
(b) Competitive Performance: Grab and Go was to be a niche joint in a highly competitive
segment. However, to measure how it compares with its peers there is a limitation in terms
of availability of information due to the unorganized nature of the fast food industry. All the
same, one of the measures that can be helpful are the number of branches / franchisees the
firm is able to open.
Grab and Go is also likely to have a competitive edge because it is foraying into providing
healthier food choices along with its regular menu. Since this is unique among its segment,
it will retain a competitive edge until its peers start replicating the same. Therefore, one other
measure for competitive performance could be the spread and uniqueness of Grab and Go’s
menu as compared to its peers. Information for this could be gathered from published /
researched sources like trade magazines as well as informal sources like customer feedback
/ word of mouth.

Determinants
(a) Quality: Quality drove past performance and it will continue to drive performance even after
expansion. For product quality, the management should track if internal quality checks and
external certifications are met periodically. Quality control should cover all branches and
franchisees. Non-compliance may require immediate attention of the management. For
service quality, periodic training programs can be initiated to educate the staff with people
management skills. Therefore, Grab and Go should determine parameters that the
management would be interested in ensuring that quality standards are met and how non -
compliance should be reviewed.
(b) Innovation: Innovation involves experimenting with the appropriate inputs which make them
healthy. At the same time, the healthier option should satisfy the taste and presentation
preference of customers. This requires innovative efforts from qualified and skilled chefs.
This will give the competitive edge to Grab and Go. Innovation has to be constant and not a
onetime exercise. Therefore, management may review the number of new variants that have
been introduced in the menu, regularity of these introductions and customer feedback of the
same.
(c) Flexibility: Growth in scale of operations combined with a competitive business environment
implies that Grab and Go should have some flexibility in its operations. This could mean
ability to hire staff quickly, cater to seasonal surges in customer’s demand etc.
(d) Resource utilization: Better utilization of resources help business function efficiently.
Revamping the order, delivery and payment system would improve the way resources
(kitchen, ordering and delivery staff) operate. Lesser errors and delays would increase
capacity utilization, freeing up time to cater to more customers. Consequently, pressure on
resources decreases. Therefore, some indicators to be tracked can be overtime / idle time
of kitchen, ordering and delivery staff, turnaround time in these functions, table occupancy
rate, breakage, or wastage of material etc. Again here, the management should chart out
the appropriate dimensions that will help them track resource utilization.
Standards
Standards are the benchmarks or targets related to the performance metric that is being tracked
under each dimension. To be useful, standards should have the following characteristics:
(a) Ownership: It is important to establish who in the organization structure is responsible for
achievement which performance metric. Grab and Go has to consider this very carefully. As
explained in the problem, many key management functions like decisions about the menu
and its preparation are determined by a core team. Similarly, the centralized core team is
handling finance and marketing. However, at the branch level, managers of various
operational functions can be held accountable for performance of that specific process. For
example, the chief at a particular branch can be held accountable for the quality of food
prepared in that branch (Dimension: Quality). Similarly, the head of the order taking staff at
a particular branch can be held accountable for the overtime that the staff at putting in at
that branch (Dimension: Resource utilization).

CASE STUDY 13.57
(b) Achievability: Benchmarks and targets will be useful only if they are achieva ble. The
managers who have ownership for the achievement of performance metric have to be
involved in setting benchmarks or targets. They should be clearly defined, preferably
quantifiable. At the same time, they should be in line with the firm’s overall s trategy. If the
target is set very high staff can get de-motivated. If set too low, will not raise the bar for
performance. If not in line with the firm’s overall strategy, there will be discord or gap
between the firm’s performance and what it wants to achieve.
(c) Equity: Benchmarks should be equally challenging for all parts of the business. Grab and
Go should customize its performance measure for each function like kitchen staff, order and
delivery staff, finance staff, advertising staff etc. For example, while turnaround time to meet
a customer’s order would be relevant metric to the kitchen, ordering and delivery staff,
popularity of the advertisement jingle for Grab and Go would be the relevant metric for the
advertisement department. The rigor of the target should be uniform across departments.
Otherwise the staff would view the benchmark system as being biased towards select
functions within the firm.
Rewards
This relates to the reward structure within the firm that includes compensation package, bonus,
rewards, awards, facilities provided to employees etc. Proper reward system is required for
achievement of standards while maintaining costs at optimum levels. Grab and Go should have
a well-defined HR policy for compensation, bonus, promotion, and reward. A good system should
have the following characteristics:
(a) Motivation: Does the reward system drive the people to achieve targets and standards? A
low reward system would not induce staff to work towards the goal. Goal clarity and
participation in target/benchmark setting can motivate staff to achieve standards.
While some part of compensation may be fixed, other parts can be made variable. For
example, bonus of the advertising staff can be aligned to the sales generated, Chefs can be
rewarded bonus based on sales as well quality measures etc. Better job prospects in a
growing environment would also be a good motivator. Grab and Go’s management should
track various metric in this regard. Some of them could be percentage of bonus paid to the
overall compensation package categorized staff cadre, attrition rate, internal promotions,
cross training programs etc.
(b) Clarity: The reward package should be clearly communicated to the staff. It should be
understood by the staff concerned. They should be told what kind of performance will be
rewarded and how their performance will be measured. Grab and Go may consider having
a dedicated HR team for this purpose.
(c) Controllability: Unlike the traditional understanding, rewards need not be based only on the
financial element that the staff can control. There may be other non-financial elements for
which rewards can be given. Both aspects however need to be controllable by the staff
concerned. For example, the chef can come up with a popular menu. If the pricing of the
product, managed by the central core team, is such that it results in a loss to Grab and Go,
the chef may not get the much-deserved bonus. This is not a good reward system and might
lead to attrition.

CS-14: PERFORMANCE PRISM

Galaxy Limited is in the business of logistics and distribution. In 2002, Galaxy limited had
implemented Balance Scorecard as a performance measurement & management system. The
balanced scorecard measures performance across Financial, Customer, Business and Innovation
perspective. The implementation of Balanced Scorecard had the following impact -
− The company’s financial performance improved substantially.
− The complaints from customers regarding poor service reduced.
− The company has pioneered in innovation in the field of door to door delivery of goods.
All these led to improvement in profitability of the company. The share prices are trading at life time
highs. Since the ultimate objective of a commercial organisation is to maximise shareholder’s
wealth, the CEO of the company is extremely pleased with the affairs at the company.
Of late, the company has witnessed high employee turnover ratio. Though the company has a
formal exit interview process for the resigning employees, the inputs received from these interview
is rarely considered in improving the HR practices. One of the common feedback from employees
who left the company was that there is too much pressure to perform and improve customer
service without adequate support of systems and processes.
Also, the truck drivers who move consignment from one city to another have been on strike thrice
in the last one year demanding better pay and working conditions. These drivers are generally
hired on contractual basis. They are not entitled to any retirement benefits. The drivers have been
insisting that they be taken as permanent employee and are given benefits applicable to
employees of the company.
The above two issues were discussed in one of the board meetings. The directors wondered if
they had the right performance measurement mechanism to address the issues. The company is
doing great financially but must also ensure that the employees and other stakeholders are taken
care of apart from shareholders. The board is also concerned that they have too much of data
and reports to look at on performance management as the current measurement is done on a
monthly basis. However, the alignment of such reports to the overall strategy of the company is
missing.
Required
RECOMMEND an alternative performance measurement mechanism which considers all

stakeholders instead of just shareholders and employees.
Solution
Issue
Galaxy limited use Balance Scorecard to measure performance. Balance scorecard focusses on
the financial, customer, business and innovation perspectives. The company has been doing
great on financial parameters and customer satisfaction parameters. However , of late the

CASE STUDY 13.59
company has been facing issues related to high employee turnover and dissatisfaction of the
truck drivers.
The board of directors is also concerned about the volume of performance measurement data
and alignment of performance measurement with the strategy of the company. An alternate
performance measurement mechanism is Performance Prism.
Performance Prism
Performance Prism is considered to be a second-generation performance management
framework conceptualized by Andy Neely and Chris Adams. The following are the factors which
make Performance prism should replace the models like Balanced Scorecard -
− Organisations cannot afford to focus on just two stakeholder group - Investors and
Customers. Other stakeholders group like employees, suppliers, government etc. should not
be forgotten. This is important for sustainable growth of companies both profit oriented and
non-profit oriented.
− Most of the performance measurement models do not focus on changes that could be made
to the strategies and processes. The underlying assumption is that if right things are
measured, the rest will fall into place automatically.
− Stakeholders expect somethings from the organisation. The organisation also must expect
contribution from the stakeholders. There is a ‘Quid Pro Quo’ relationship between the
stakeholders and organisation.
Another problem highlighted by Andy Neely and Chris Adams was that management are
measuring too many things. They believe that in doing so they are controlling the organisations
well. The problem with increased measurement is that the management starts micro-managing
things and lose sight of the strategic direction. This negatively impacts the organisation in the
longer run.
The performance Prism aims to measure performance of an organisation from five different facets
listed below:
− Stakeholder Satisfaction
− Stakeholder’s Contribution
− Strategies
− Processes
− Capabilities
Stakeholder Satisfaction
The first facet of prism focusses on stakeholder’s satisfaction. Though balanced scorecard also
focusses on stakeholder’s satisfaction, it is primarily concerned with the shareholders and
customers and ignores other stakeholders. This is precisely the issue at Galaxy limited where the
shareholders and customers are happy with the company, other stakeholders are not.
The company must identify all stakeholders and determine relative importance of each of the
stakeholders. The company can use Mendelow’s matrix to identify key shareholders in terms of

power and interest of stakeholders. A stakeholder group which has high power and high interest
(say a trade union) must be kept satisfied. The key stakeholders for a company are:
− Investors - They want return on investment.
− Customers - They want good quality products at cheap prices.
− Suppliers - They want better price for products.
− Government - They want revenues and development.
− Society at large - They want employment opportunities.
Each of the stakeholders group exercise different level of power/influence on the c ompany. The
interest of each stakeholder group in the company also differs. Based on the power and interest
of the stakeholders, the company must appropriately perform activities for stakeholder’s
satisfaction.
After identification of the stakeholders, the company must identify the requirements of each of the
stakeholders group. What must the company do to ensure stakeholder satisfaction?
Galaxy limited must ensure satisfaction of the two stakeholders highlighted above. The company
must take steps to improve employee satisfaction and reduce the employee turnover. The
company must also address the issues related to truck drivers and involve them in a dialogue.
The impact of not keeping these stakeholders group satisfied is that the company might suffer
financially in the longer run.
Performance measure - Employee Turnover Ratio, Average employment duration of employees,
Number of strikes by truck drivers etc.
Stakeholders Contribution
In the second facet of Performance Prism, the organisations identify the contribution required
from the stakeholders. The organisations must then define ways to measure the contribution of
stakeholders. This aspect is different from traditional measures where the organisations were just
concerned with what they could contribute to the stakeholders.
The company would take steps to provide better service to its customers. In return the customers
must contribute in terms of profits and revenues to the company. There is a ‘Quid Pro Quo’
relationship as described earlier.
In case of Galaxy limited, the company could improve the employee satisfaction with better pay,
training and growth opportunities. In turn, the employees must perform better to contribute to t he
company as a whole. Similarly, the drivers must be given better working conditions and in turn,
they should contribute towards improving efficiency and on-time deliveries.
Performance Measure - Efficiency of Employees, Productivity, On Time deliveries by Truck
drivers.
Strategies
In the strategies facet of the Prism, the organisation should identify those strategies which the
organisation would adopt to ensure that -

CASE STUDY 13.61
− The wants and needs of the stakeholders are satisfied

− The organisation own requirements are satisfied by the stakeholders.
After the company identifies strategies, the performance measures must be put in place to confirm
that the strategies are working. The various aspects to be considered appropriate communication
of strategies, implementation of strategies by managers and continuous evaluation of
appropriateness of strategies.
Galaxy limited might come out with a strategy of to retain employees by means of better pay and
growth opportunities within the company. This strategy can be called successful if the higher pay
ensures that employees turnover is reduced. As a strategy, the company can start to hire drivers
on the payrolls of the company.
Performance Measure - Number of employees leaving the organisation after getting pay hike,
Efficiency of deliveries after Truck drivers are put on employment of company.
Processes
After identifying the strategies, organisations need to find out if they have the correct business
processes to support the strategy. The various business processes can have sub-processes.
Each process will have a process owner who is responsible for functioning of the process.
The organisations must develop measures to evaluate the how well the processes are working.
The management must be careful to evaluate most important processes instead of evaluating all
the processes. Porter’s Value Chain analysis can be used to identify and evaluate various
processes in the organisation.
Galaxy limited could devise a recruitment process which results in transparency in hiring and pay
of employees. The process could be owned by the Human Resources Manager. The working
condition of drivers can be improved by providing structured training and working conditions.
Capabilities
Capabilities refers to the resources, practices, technology and infrastructure required for a
particular process to work. The company must have right capabilities in order to support the
processes. The company must identify performance measures to set how well the capabilities are
being performed.
While Galaxy limited might choose to increase the salaries of employees, an important question
to answer is whether the company has financial capability to do so.
Conclusion
The facets of Performance Prism are interlinked and must support each other. The company must
first identify the stakeholder wants and what the company wants from those stakeholders. The
required strategies for these are identified and the processes to achieve the strategy followed by
identifying the capabilities to perform these processes.

CS-15: TRADITIONAL ACCOUNTING FRAMEWORK VS. TBL FRAMEWORK
Paper Solutions Ltd. (PSL) is a paper mill producing excellent quality writing and printing paper.
It is located in a small town where eucalyptus, acacia and casuarina trees grow in plenty, which
are required in the paper production process. It sources its raw material from pulp-wood
plantations that grow the above-mentioned trees. These plantations are located in degraded
agrarian land surrounding the factory site, which was previously wasteland. Their owners are
subsistence farmers, who have been encouraged to grow these trees to source raw material for
the paper mill. The mill’s local procurement policy has thus provided a source of livelihood for
this community. Moreover, almost 40% of the staff working at the mill are from the local
community. Most of the mill’s labour force lives in residential areas near the factory site. Catering
to the mill employees’ livelihood needs like food, clothing, education etc. has given the town
alternate sources of income and thus has benefited the town. The plant managers at the mill have
been working on various projects in order to build a sustainable business. This includes, reducing
waste during the manufacturing process, imparting knowledge to local farmers at the pulp-wood
plantations to improve the quality of wood through breeding and seed improvement techniques.
Operations at the mill have yielded substantial profits over the last 15 years since inception.
You are the chief accounting officer of PSL taking care of all the reporting (internal and external)
needs of the company. Recently, you read about the Triple Bottom Line (TBL) reporting that many
other companies are following. You feel the need to introduce TBL reporting because:
The vital role played by the mill towards the development of the town. This can be highlight ed in
the TBL report. This will enhance the company’s goodwill. At the same time, you feel the need
for transparency of operations and balancing the need of various stakeholders involved. All this
can be addressed by publishing the TBL report periodically.
The mill’s operations are driven by the resources available in the environment. What the mill
takes should be returned in equal if not in a higher measure. TBL reporting can help identify
opportunities of giving back to the environment.
You have an appointment with the Chief Executive Officer to discuss this reporting framework.
During a preliminary discussion, the CEO was sceptical of the need for additional reporting. “We
are here to do business, profit should be the sole parameter for measuring our succ ess.
Shareholders are our only stakeholders. Annual reports would provide sufficient information to
others who are interested in our operations.”
Required
To convince the CEO, you need bring out the differences traditional accounting framework and
the triple bottom line framework. Draft an e-mail on this subject that you need to send to the
CEO for discussion at the meeting.

CASE STUDY 13.63
Solution
To: CEO
From: Chief Accounting Officer
Date: 22/06/20XX
Subject: Traditional Accounting Framework vs. Triple Bottom Line Framework
Please find below comprehensive study on both frameworks in context of the PSL.
Best Regards,
Chief Accounting Officer
------------------------Attachment-----------------------------
Difference between traditional accounting framework and triple bottom line framework.
(i) Traditional accounting framework has a “single bottom line” that focuses on the profit that our
company has made during the financial year. This is calculated by reducing costs, including
the cost of capital, from revenues earned during the period, to arrive at the net profit that is
available to the shareholders. This reporting framework has its focus on meeting the
informational needs of mainly one category of stakeholder within the company, namely its
shareholders. It satisfies the information needs of those interested in the financial aspects of
business. It does not provide much insight on the social, environmental and economic
implications of its operations.
Albeit, some information about its operations is available in various parts of its annual report,
like the management discussion and analysis section or the chairman’s letter to shareholders.
However, this is generally not sufficient to satisfy the information needs of other stakeholders,
some of whom can be our company’s employees, customers, suppliers, communities living
near our factory site or even the government. Transactions that do not directly impact our
company are ignored. Recognition of an expense partly depends on utilization of assets. For
example, costs incurred to operate machines used in the pulping process would include labor
expense, repairs, depreciation, utility etc. These get captured as part of cost of goods
manufactured in our financial reports. Therefore, assets and their related expense, that are
owned and within the control of the company will be reported in the financial reports.
However, certain assets are neither owned nor controlled by the organization, yet it utilizes
these resources in its operations. For example, the waste water from our company is
discharged in the river nearby. The waste water contains solids, chemicals and metal
compounds that were used during production. This pollutes the river water, which is the
primary source of water for our town. This poses both an environmental and health risk to the
citizens. Although we have taken sustainability initiatives to reduce this waste, we do not pay
to clean up the river water. It is the government that undertakes the onerous task of cleaning
up the river water and also bears the clean-up cost. This aspect of our company’s operations
and the associated cost will not get captured in our financial reports. Hence, the true cost of
operations of our company is greater than the costs reported in the financial reports. Moreover,
the market price that we charge our customer for our paper product does not factor this cost.
Consequently, both our company and our customers who use our product end up under-pricing
the cost to the environment and society.

It can be concluded that under traditional financial reporting, sustainability and our company’s
performance are mutually exclusive. At the same time, information about sustainability is
extremely important to other stakeholders like the community living next to the factory site
since it affects their lifestyle, the local government that may be incurring substantial expense
to nurture back the environment or environmentalists that seek to protect the habitat of other
species. It might be critical for our company. Healthy environment and society are key drivers
to sustain our operations. “Can we do business in a world fraught with sickness due to
pollution?”
On the other hand, triple bottom line reporting framework focuses on a more broader view of
the company addressing the interests of various other stakeholders. These stakeholders could
our company’s employees, creditors, customers, communities near the factory site,
government etc. The objective is to force ourselves to identify areas within our operations to
create sustainable initiatives that would, in the long run, be beneficial to its current and future
stakeholders as well as to our company itself. It focuses on the impact of the decisions and
operations of our company on the society, environment, and economy. Known as 3Ps, people,
planet and profit, hence the name “triple bottom line”. Triple bottom line goes beyond the
financial aspects of an organization’s performance. This helps stakeholders make more
informed assessments of the opportunities and risks that the company faces.
(ii) Traditional accounting framework uses the reporting currency as the unit of measurement. It
follows the accounting and reporting principles generally accepted in the country it operates.
Materiality under this framework, is measured in monetary terms, that could impact the
decisions of a rational investor. On the other hand, there is no uniform standard or measure
for the TBL framework. Measurement of an aspect, therefore its materiality, could either be
financial or non-financial. Organizations could follow the metrics suggested in the Global
Reporting Initiative (GRI) framework. In India, efforts are underway to align the GRI with the
Business Responsibility Report (BRR) mandated by SEBI for some of the public companies.
The TBL report focuses on both the positive and negative impact of the organization’s
performance on the society, environment and economy. TBL reporting may be (i) core
reporting, report selective metrics or (ii) comprehensive reporting, a detailed report based on
the GRI standards.
In summary, while financial reports provide information about the profitability of our company,
TBL enhances the information available to various stakeholders who may hold different
perspectives of the company’s business operations. TBL will work well to supplement
information in the financial statements.
Overall business strategy should be linked to the TBL reporting to work towards a sustainable
future. Our company has already been working sustainability initiatives. Waste generation is
being tackled by our plant managers. Metrics for this report has to come from various
departments. Awareness about sustainability and its impact may open up opportunities that
are currently being overlooked. Our company has been a lifeline for this town for the past 15
years. Why not use the TBL to highlight these positive aspects and garner goodwill for our
company? TBL reporting need not remain another administrative task requiring just data
gathering. It might vitalize our company to achieve greater heights of success.

CASE STUDY 13.65
CS-16: PERFORMANCE MEASUREMENT IN NOT FOR PROFIT SECTOR

The town of Silver Sands is located along the coast of the Caribbean Sea. Known for its beautiful
coastline and pleasant weather, the town attracts a lot of tourists from all around the world. The
town has two beaches that are maintained by the local government and can be used by the
general public. In order to preserve the natural ecosystem, other beaches on the coastline are
not accessible to the general public. Tourism is the main source of livelihood for its residents.
Consequently, cleanliness of beaches is of paramount importance in order to sustain and develop
this industry.
The local government has recently employed a contractor to clean up the beaches using beach
cleaning machines. The contractor has been selected through a competitive tendering / bidding
process. The contractor uses sand cleaning machines that are pulled by tractors. Sand is
scooped onto a conveyor or screening belt. It is either raked through (combed using prongs) or
sifted through (filtered), in order to separate the waste from the sand. The cleaned sand is left
behind on the beach while the waste is removed. Majority of the litter comprises of plastic waste
(bags, bottles etc.) while some portion also includes sea weed, glass, aluminum cans, paper,
timber, and cardboard. A detailed log is kept by the contractor about the stretch of beach that
has been cleaned, time taken for the clean-up, number of tractors used etc. This log is also
checked and signed by a local government official. This record is used to proces s payments at
the end of the month.
In addition to contracting with the vendor to clean machines, the local government has also
placed bins at various locations on the beach for the public to dispose their waste. The town’s
municipality workers clean these bins every morning. Again, detailed logs of the man power and
other resources employed is kept by the responsible department. In addition, the government
has opened a mobile messaging system, whereby the public can message the government
department if they find litter anywhere in the beach. Depending on whether it is from overflowing
bins or buried debris in the sand, the municipality workers or the contractor will take action to
clear it within 24 hours. A detailed log of these operations is also maintai ned. Patrons can also
suggest measures for improving cleanliness on the beaches.
Due to its importance to the economy, the local government has allotted substantial budget for
these operations. At the same time, it is essential to know if this is sufficie nt for the purpose of
keeping the beaches clean. Therefore, the government wants to assess whether the town is
getting “good value for money” from this expenditure. The “value for money” concept can be
looked at from three perspectives: (i) economy, (ii) efficiency and (iii) effectiveness. The Internal
Audit (IA) department that has been requested to undertake this study, has requested for
guidelines on whether the audit should focus on economy and efficiency of the beach cleaning
operations or on effectiveness of the same. Economy and efficiency audit assess whether the
same level of service can be procured at lower cost or resources while effectiveness audit assess
whether better service can be procured at same cost.

Depending on the outcome of the audits, if required, policy decisions like requesting for additional
funding from the state government, alternate policy measures like levying penalty for littering etc.
can be taken.
Required
Prepare a letter addressed to the IA department.
(i) RECOMMEND guidelines to assess economy and efficiency of beach cleaning
operations.
(ii) RECOMMEND guidelines to assess effectiveness of beach cleaning operations.
(iii) IDENTIFY challenges involved in assessment of effectiveness?
(iv) RECOMMEND general guidelines, how the audit team may conclude the audit based
on the combined outcomes of economy, efficiency, and effectiveness?
Solution
Date 30- July -2018
Dear Sirs,
Re: The economy, efficiency and effectiveness of beach cleaning activities
(i) Economy and efficiency audit of an operation focuses on the consumption of resources and
the output achieved. Economy assesses the financial aspects of the activity i.e. are the
objectives of the activity being achieved at reasonable cost? Efficiency assesses the
volume of input consumed to derive the desired output i.e. are the resources and funds
being consumed to get maximum output?
To look at Economy of Operations, cleaning expenses need to be bifurcated into
payments made to the contractor and the expenses of emptying waste from bins. Any
further subcategories of these expenses, like labour, material, disposal van expenses etc.
also need to be collated from the accounting or cost records. These then have to be
compared to the budgets that were approved by the government of Silver Sands. The
competitive tendering process can be reviewed to ensure that the contractor getting the
order is offering the required quality of service at the lowest price. If the quality of cleaning
has been achieved, by staying within budget, the operation is economical. However, if the
actuals exceed the budget, the government has to compare them with cost of similar
cleaning activities carried by neighbouring towns. On comparison, if Silver Sands
operations are expensive compared to other towns, it indicates that not only are the
operations uneconomical they may not be efficient either.
Efficiency of Operations can be determined by checking the log records maintained for
beach cleaning by the contractor and municipality workers. These would have detailed of
activities carried out and the resources utilized for each of them. For each of these services
(beach cleaning and emptying out bins), the cost drivers can be identified and certain
metrics can be developed for analysis. For example, the cost of running the tractors can be
divided by the total number of tractors operated to get the cost of operations per tractor or

CASE STUDY 13.67
alternatively, by the kilometres of beach cleaned to arrive at a tractor-kilometre rate. While

analysing these activities, certain operational considerations have to be given. For example,
certain stretches of the beaches may take more time or resources to clean due to issues
like rocks or soft sand. Therefore, if resources for operations disproportionate for certain
parts of the beaches, the cost of maintaining those stretches need to be worked out. Data
to get this information will depend on the extent of detailed maintained i n the logs. This
information has to be tracked over some period of time in order to understand trends in
operations and related expenses.
The data collected from the mobile messaging system should also be investigated. How
often and in what stretches of the beach are complaints frequent or maximum? Reasons
for these lapses need to be taken from the contractor (for beach cleaning operation) and
the concerned department (for emptying bins) in order to find out whether resources are
being employed properly.
On this basis, deviations and exceptions should be investigated. The local government can
then decide if there can be alternate sites along the coastline that may be more economical
and efficient to operate.
(ii) An audit about Effectiveness of Operations would focus how the actual cleanliness of
beaches compares with the desired level as laid out in the policy initiative. To assess
whether performance has been met, clear guidelines and metrics have to be defined during
policy implementation.
To begin with, it should be clear as to what constitutes litter. From an operational angle, it
would be difficult to clean out every bit of paper lying on the beach. However, it is possible
to pick up every soft drink aluminum can. Hence, the government authorities must be clear
on what constitutes litter? Which are the refuse that must be cleared within exception
(example food refuse, animal droppings, glass bottles, tin cans, trash bins etc.) and
tolerance level for certain other types of litter (e.g. Paper, seaweed etc.) that may get left
behind even after cleaning. Quantity of waste collected would be the indicator to make the
above assessment.
Certain other parameters like safety standards can also be defined. Safety problems could
be cuts from sharp objects like glass, incidents of vector borne diseases in the area or
health problems from polluted sea water. Assessment has to be made whether these
standards have been met.
For this, the primary source of information about cleanliness would be feedback from the
beach patrons. These could be in the form of complaints received directly or those through
the mobile messaging system would provide data to work out the metrics. This would be an
indicator of “customer satisfaction”. Other inputs could also be the suggestions given by the
patrons about ways to improve cleanliness on the beach.
Observation by making surprise visits to inspect the beaches immediately after the cleaning
operations would also provide sufficient evidence about the effectiveness of operations .
(iii) Challenges Involved in assessment of effectiveness would be:

(a) Defining standards about what constitutes litter and acceptable level of cleanliness?
These are subjective guidelines, the perception of which may differ from person to
person.
(b) Beach patrons also play an important role in making this initiative effective. There has
to be a conscious civic sense of duty not to litter, failing which this initiative will most
likely be ineffective. Therefore, while measuring performance for effe ctiveness,
collection of more litter does not necessarily indicate effective operations . More litter
requires more cleaning and more resources, therefore is actually not a positive
indicator of effectiveness. On the contrary, in the long run, lesser litter collected to
maintain desired level of cleanliness would be a good indicator of effectiveness.
(iv) The outcome of the audits can indicate achievement any or none of the three parameters
of economy, efficiency and effectiveness of the beach cleaning operation. To form an
integrated conclusion based on the different outcomes of individual audits, the audit team
may consider the following guidelines:
(a) Has the objective of the cleaning operation been achieved as per the guidelines in the
relevant policy? i.e. have the operations been effective?
(b) If the answer to (a) is yes, are the expenses within budget. If so, then the operations
are economical and efficient. Given that the operations have been effective at the
same time economy and efficiency have been achieved, the team can conclude that
the cleaning operations policy has been a success.
A cost-over run can also be justified if the operations have been effective. In that case,
the audit team has to conclude whether all expenses incurred are indeed justified and
that the resources have been put to the best possible use. If not, can the operations
be made more economical or efficient?
(c) If the answer to (a) is no, the operation has not been effective, then is the difference
from the target marginal or huge? If the operations have not been entirely effective,
but only by a marginal gap say 95% success, then analysis of expenses can be made
similar to the point (b) mentioned above. However, if the operations have been
ineffective to a larger extent, then the cleaning drive initiative has been ineffective.
The government has to look at alternate solutions of tackling the problem. These could
include imposing heavy penalty for littering, requesting for more funding from the state
government to employ better resources etc.
Therefore, it can be seen that achievement of one objective does not automatically lead to
achievement of other objectives. A holistic approach would be needed to draw conclusions
about the performance of the cleaning operations.
Should you have any further queries, please do not hesitate to ask.
Yours Faithfully
Management Accountant

CASE STUDY 13.69
CS-17: COMPETITIVE ADVANTAGE AND CONTROL SYSTEM

Wings International is a major airline operating from India. It is the biggest airline operator within
the domestic airline segment and is a well-established player in the international airline segment.
Except for a period of few years as outlined below, Wings International has been operating for
the last 3 decades in a segment that caters primarily to the business and premium segment
travellers. On its international routes and certain long distance, yet busy domestic routes, the
airline offers full service on-board. The ticket price includes on board entertainment, transfer of
baggage between flights, more leg room, option to upgrade from economy to business class
seats, meals, and beverages etc. Baggage allowance is liberal with each flyer being allowed 2
checked in baggage and a cabin baggage. A tag line in its advertising goes “GRAB YOUR BAGS,
THEY FLY FREE”. In the domestic segment, the airline operates across major metro cities and
certain other tier-2 cities. International flights operate only from these major metro cities.
Indian aviation industry has been growing exponentially in the recent years due to a thriving
economy. Consequently, there have been many new entrants in the domestic segment, offering
low-cost fares to customers. These airlines have been offering tickets at huge discounts, thereby
attracting a sizable chunk of customers away from Wings International. To counter this and
maintain its market share, Wings International also followed suit. For a period of five years,
tickets on various domestic routes were offered at low competitive price. At the same time, low
fares can be offered only if it is profitable to do so. Therefore, certain cost management measures
were undertaken. Wings International converted to a “no-frills” airline on most of the domestic
routes. Now a ticket covered only the cost of the seat and 1 checked in baggage and 1 cabin
baggage. Going further, baggage allowance was reduced to economize on space and fuel
requirements. To avail any other facility, the flyer wanted had to purchase extra . Another measure
taken was to offer last-minute deals of tickets at a heavy discount if the flight is not fully occupied.
Vacant seats are “perishable”, therefore instead of letting them go empty, the flight can be filled
at cheaper rates. This yield management measure based on capacity utilization was expected to
increase market share and subsequently the airline’s revenue. Tickets could be booked online
using the internet rather than through ticket kiosks maintained by the airline at various locations
in selected cities.
In order to quickly respond to a competitor’s move, the pricing and marketing staff were given
sufficient autonomy to make this price war work. Therefore, in many situations, decisions could
be taken even without the prior approval of the top management. Meanwhile adding to the stiff
competition, fuel prices have been soaring in the last few years. Maintenance of aircrafts, staff
compensation and other overheads have also been increasing. Landing fees in major airports
have increased manifold due to congestion and limited slots on account of multiple airline
operators vying for limited slots.
Given this scenario, after 5 years of operations, the management at Wings International found
that they were not able to generate sufficient profits on many of the domestic routes. A price
discount by a competitor had to be matched with a similar price discount by Wings International
and vice versa. Offering last minute deals to fill up capacity did not generate additional revenue.
The volume of last minute flyers was low. It was found that most flyers booking at the last minute
were anyway “price indifferent”. Had the deals not been offered, the flyer would have been willing

to pay more money anyway to use the airline. Therefore, neither did these deals generate extra
customers nor extra revenue.
Wings International has always been perceived to cater the premium segment traveller, therefore
participating in this price war had been contrary to its image of a premium quality airline. This left
a section of the customers confused about the product offering. Therefore, the management of
Wings International decided to discontinue its discount pricing strategy and exit the "low cost"
airline business. The tickets are now being offered at its usual “full service ” rates. This strategy
is proposed to be followed for both current and prospective projects and operations.
The government has been formulating policies that are aimed at changing the landscape of the
aviation sector. Airports are being built in smaller cities and towns that until date did not have
one. This will improve connectivity within the country. It will increase air traffic as the public now
has an alternate means to travel other than road and rail transport. Instead of flying between two
small airports directly, Wings International proposes to develop a model where flyers from smaller
towns are connected to one of the major metro cities which will serve as a main hub. For Wings
International, the cost of operations will be lower as compared to flying point to point between
the two small airports. For the passengers, better connectivity and more route options will be
available. For example, a flyer from a smaller city, wanting to go to a destination abroad can now
reach the nearest hub by flying with Wings. From the hub, Wings International can fly the
passenger further to the desired destination abroad in its international fleet. For the flyer, this is
a better alternative as compared to reaching the hub by say road transport. For Wings
International, the proposition broadens its customer base. To this effect, Wings International is
already scouting the market for smaller aircrafts that can be operated more economically on the
hub-spoke route. Also, it is in talks with for partnership with other airlines, hotels, car rentals in
order to offer attractive holiday packages to customers. Since most of the other airlines do not
have the scale of operations to achieve the “hub-spoke” model or the ability to offer holiday
packages, Wings International identifies this as a unique proposition that it can offer its
customers. This time the proposed tag line for its advertisement would be “WINGS TO FLY
ANYWHERE, ANYTIME”. Also, Wings International proposed to increase the turnaround time of
flights for better capacity utilization.
Ticket booking is still offered over the internet. In the past, customers like this option due to the
convenience it offered. Dedicated customer service lines available 24×7 to resolve issues is
proposed.
The management of Wings International wants to have a seamless implementation of this project.
This could be a game changer for the company that will help it consolidate its position in the
aviation industry. Therefore, a meeting has been called to discuss critical reporting that needs t o
be in place that ensures a successful launch.
Required
(i) EVALUATE the strategy adopted by Wings International in becoming a “no frills” airline.
(ii) IDENTIFY the strategy adopted by Wings International for the proposed project.

CASE STUDY 13.71
(iii) The entire strategy of Wings International for the proposed project depends on
information available about the future outlook in the industry. RECOMMEND guidelines
to the management to put in place a control reporting mechanism that can enable Wings
International to take preventive measures to avoid errors in its strategy.
(iv) In its previous venture, it took 5 years for Wings International to decide to exit the “no
frills” airline operations. To avoid a delay in taking such decisions, RECOMMEND
guidelines to the management to put in place a control reporting mechanism that can
enable Wings International to correct its errors and make changes in its operations in a
more timely manner.
Solution
(i) Wings International is a premium segment airline charging “full service” rates for its ticket.
However, due to intense competition in the domestic market, it adopted a “low -cost
advantage” strategy. Low-cost advantage or cost leadership was achieved through following
measures:
(a) Becoming a “no-frills” airline, where the ticket included only the seat and 1 each of
cabin and checked in baggage. All other facilities had to be purchased extra.
(b) Baggage allowance reduced to economize of space within the flight and save on fuel
costs.
(c) Online ticket booking facilitated so that the number of ticket kiosks maintained by the
airline were reduced.”
Cost leadership enabled it to offer “low cost” fares to the customers that was generated
through (a) giving huge discounts on ticket prices and (b) yield management of ticket price
based on capacity utilization of the flight. Although, due to its long-standing image as a
premium airline, the transformation to a “no frills” airline could have caused confusion about
the product offering in the minds of discerning traveller, who expect higher service quality.
This could have eroded the customer base in this segment.
This “Low-cost advantage” strategy did not work due to the following reasons:
(a) Price war from competitors reduced the ticket prices to levels that were unviable to
Wings International.
(b) Variable prices to fill up flight capacity worked against the airline, since it was found
that these flyers, due to their immediate need, may have willing paid a higher price for
the ticket than what was offered as part of the deal. These flyers were “price indifferent”
which should have been used to Wings International’s advantage and not against it.
(c) Costs of operations including fuel prices, aircraft maintenance, staff compensation,
overheads such as landing fees had been rising in the recent years.
Due to the above reasons, Wings International’s venture as a low-cost airline became
unviable.

(ii) Wings International plans to foray into offering its service to flyer from smaller cities. This
time it has adopted a “differentiation advantage” strategy. It is marketing in the following
ways as being different from its competitors:
(a) Offering a “full service” price where high quality facilities are provided to the traveller.
Facilities offered ranging from on flight meals and entertainment, better seating
options, liberal baggage allowance and transfer facility etc. differentiate Wings’ airlines
from its “low cost, no frills” competitors.
(b) Ability to offer more connectivity to flyers as compared to other airlines using its unique
“hub-spoke” model. “Wings to fly anywhere, anytime” is a catchy line to present this
concept to potential customers.
(c) Ability to offer vacation packages due to strategic tie-ups with other airlines and
hospitality providers like hotels, car rentals etc.
(d) Product differentiation can also be made between the road and rail transport providers.
It can be based on relative facilities offered and better connectivity, if not based on
relative cost of travel.
(e) Dedicated customer service lines providing support to customers to resolve issues.
Superior quality, customer responsiveness and innovation will enable Wings
International to consolidate its position in the industry in the long run.
(iii) Management Control Report – Feed-forward Control Report
Management control is required to set performance measure to determine if the desired
objectives of the company are being achieved or not. Control is required at every stage
before the activity commences, while the activity is being performed and after the activity
has been completed. Accordingly, control reports generated could be Feed-forward reports
(prior), concurrent reports (during) and feedback reports (after).
When the management of Wings International wants to have a reporting system that
enables to take preventive measures, it would need to have a “Feed-forward” control. This
control will help measure the error before it actually takes places. Preventive measure can
then be taken to change the operational variables to achieve the desired result. Guidelines
to implement a “Feed-forward” control are as follows:
(a) Through planning and analysis is required. In the case of Wings International, the
proposal should be planned and analysed at various levels. The strategy of selection
of appropriate routes, “full service” pricing, strategic partnerships, financing the
proposal need to be taken at a higher level of management. Decisions relating to flight
operations, procurement of supplies like fuel, marketing, human resource planning etc.
can be done by the management in charge of operations.
(b) Careful discrimination must be applied in selecting input variables. Planning and
analysis should be done in an integrated fashion. There should be synergy in the
thinking at an operational level and top management strategic level.

CASE STUDY 13.73
(c) Feed forward mechanism should be kept dynamic. Wings International should keep a
close watch on the government policies and its implementation in the civil aviation
sector. Reporting may be done in pre-determined intervals say a monthly feedforward
reporting can be decided upon. Changes to plans should be made in a timely fashion
to make them relevant.
(d) A model control system should be developed. Authority and responsibility for various
functions need to be determined and clearly defined while developing this model.
(e) Data on input variables should be collected regularly. For example, Changes in fuel
prices, which form a large share of expenses, have to be tracked continuously. If the
prices are expected to fluctuate widely, hedging options or long term price agreements
with suppliers can be considered.
(f) Feed-forward control requires action. At the time of implementation, the control model
developed should be followed in order to establish a systematic course of operations.
(iv) Management Control Report – Feedback Control Report
These are control reports that provide feedback about the operations. It tracks the actual
results with the budgeted / forecasted results. These reports in themselves do not cause a
change in performance. The management has to take timely action to correct the errors and
change its operations, if required.
Guideline to implement this reporting system are as follows:
(a) Feedback report should disclose both accomplishment and responsibility. As
discussed in the feed forward report, Wings International would have already put in
place an organizational structure defining individual authority and responsibility.
Performance should be tracked accordingly, so that individual performance can be
assessed.
(b) Feedback reports should be extracted promptly. The management has to decide the
interval at which these reports need to be generated. The interval should be such, that
changes required can be assessed and action can be taken in a timely manner. In the
previous instance, Wings International had given autonomy to the marketing and
pricing division to take decisions to meet the competitor’s actions. It took five years to
determine that the project was unviable. However, a timely reporting mechanism such
as a feedback report should have been in place to appraise the top management about
the decisions taken. This information would have enabled the top management to
make an earlier assessment as to the viability of “no frills” airline.
(c) Feedback reports should disclose trends and relationships. Trends could be customer
travelling preferences, deals offered by competitors or other changes in flight
operations. Relationships could be supplier relationships, customer relationships,
strategic partner relationships etc. Information generated from all these areas should
be collated in order to provide proper feedback to the management.
(d) Feedback reports should disclose variations from standards. These standards could
be from financial budgets or from non-financial metrics identified as key performance

indicators. For example, delay in flight operations could be a non -financial metric that
can be tracked against an expected standard set in the planning stage. The information
metric for actual operations should be assessed in the same manner with which the
standard was set. For example, a flight delay in operations could be a delay in arriva l
beyond 15 mins. This same standard should be used to assess actual performance.
(e) Feedback reports should be in a standardized format. It should be easily understood
and well presented to the management. Facts should be stated without ambiguity and
in a standard manner.
CS-18: BEYOND BUDGETING

Magical Stay is a hotel chain that has properties in popular tourist destinations. Each hotel is at
least a 50 rooms establishment that has standard, elite and luxury size suites. Currently, the
chain has 9 properties spread across World. Magical Stay has its corporate headquarters in
Singapore, from where the senior management operate. Operations management executives are
based out of each specific property that they cater to. Magical Stay is a public listed company,
with majority of its shareholders being institutional investors like mutual funds, banks and
insurance companies. Since these investors had a high stake in the company, they had
representatives of the board of directors to govern strategic decisions. One of the strategic goals
of the company for 2018, was to earn a profit of ₹1,500 million and keep increasing this target
by 10% each year. Due to recessionary conditions, business has been volatile. Consequently,
senior management is under pressure to meet the targets.
In order to have a defined plan for operations, Magical Stay prepares an annual bud get for each
of the properties as well as one master budget that consolidates at a company level. There is a
separate financial and business analysis team that is in charge of this exercise. Key assumptions
and future expected trends are discussed at with the operations management of each property.
After incorporating the corporate headquarters numbers, the consolidated budget is presented
to the senior management for approval. In order to have a uniform policy across locations, key
metrics like room rent per day, material procurement for kitchen and rooms, employee hiring,
capital investments at each property, advertising and promotional activities are handled directly
by the corporate headquarters.
The management at each location is responsible to ensure smooth operations of the hotel chain
by implementing these policies. The manager of each hotel property is given a target in terms of
revenue to be generated, room occupancy and profit to be achieved. Therefore, the management
at each location is also under pressure to perform and meet the target set by the senior
management. In the past, if the target had not been met for couple of years, the senior
management had closed down the hotel and exited the property. At the same time, best
performers are given more liberal budgets to operate on. Hence, competition between various
locations has always been fierce. There are constant negotiations for been given a “reasonable
/ practical target” that has to be achieved.

CASE STUDY 13.75
Monthly meetings are scheduled with the corporate office to explain variance of results from the
budget. The recent monthly results have shown that 7 of the 9 properties have consistently not
been able to meet the targets in the past six months. The situation is confounded because the
tourism industry has been affected greatly by recessionary trends in the global economy.
Therefore, the footfalls at the regular tourist places, where the hotel has properties, have reduced
considerably. In some places occupancy during peak season has only been 60%. Therefore,
operations are bleak and uncertain. At these meetings, the operations management argue that
due to this dynamic scenario, the budgeted targets set become obscure since they are not based
on the current circumstances.
The corporate office has met with the operations management at each of these properties in
order to understand the situation better. Discussions have taken place about how the business
can be improved. Few of the suggestions to improve performance are:
(1) When the hotel is not fully booked, especially during off-season, give manager at each
property the authority to rent out rooms at an attractive discount. These opportunities have
to encased quickly, therefore the decision about the rate would be better handled by the
personnel at the hotel. A guideline on the discount policy can be worked out with the
corporate office. This will ensure that room occupancy rates increase, while earning
reasonable return.
(2) Allow for procurement of kitchen supplies locally, rather than buying it only from specified
authorized vendors. Not only will this be cheaper, it also allows for moderate flexibility with
the kitchen menu that can cater to customer demands based on current availability of
supplies. Prior approvals can be taken by the management from the quality control
department to ensure that customer satisfaction does not suffer.
(3) A monthly reward and recognition program for employees, based on their service record for
the month. Recommendations can be from fellow employees or the location manager.
(4) Allow the location management autonomy, with a reasonable budget to cater to purchasing
equipment. In order to address certain urgent requirements or repairs, quick response from
the operations management is needed. The current process of getting approval the
corporate office is cumbersome since it takes a longer time. Autonomy can help address
these issues quickly without much damage done to customer satisfaction. Funding can be
quickly procured from banks if required.
Based on these discussions, the senior management has decided to decentralize all of the above
decisions. As a pilot project, they have decided against preparing a line-wise detailed budget
(sales budgets, operations cost budgets, advertising etc.) for each location. Instead the
operations management will be given clear targets at each of the locations regarding the key
profitability ratios, liquidity ratios and leverage ratios, as also guidelines on market share, qualit y
and customer satisfaction. These benchmarks have been finalized based on industry research
of peer group companies. However, the managers have the autonomy to achieve the expected
target based on their individual business scenarios at each location. The focus is therefore not
on achieving budget numbers that have been finalized. Instead management gets growth targets
to achieve.

One year after implementing this decision, it was found that company was able to meet the
shareholders’ expectations, have a robust growth and an energetic employee morale.
Required
(i) DISCUSS the traditional budgeting process had a negative impact on Magical Stay’s
operations.
(ii) EXPLAIN the philosophy behind “growth based targets” instead of “budget based
targets”.
Solution
(i) Magical Stay is operating in a business scenario that is highly competitive and dynamic.
Focus of the traditional budget was driven towards achievement of the company’s strategic
goal, which was profit target of `1,500 million for the year 2018. Accordingly, the senior
management followed a top-down approach to budgeting. Most important policy decisions
like room rent per day, material procurement, employee hiring, capital investments at each
property, advertising and promotional activities are handled directly by the corporate
headquarters. Management in charge of operations at each location only implement it. In a
changing business scenario, this budgeting methodology has the following shortcomings:
(a) Budgets based on these policies may not be flexible enough in a fast-changing
business environment. Although it is based on assumptions and expectations of the
management has made about the business growth, in a dynamic scenario, it is very
difficult to predict the future accurately. Therefore, targets or benchmarks set by the
traditional budgets may become outdated quickly.
(b) These budgets were based on business functions like sales, advertising, operations
etc. While a strategy for these functions is important, they are based on internal
benchmarks and assumptions made by the management. However, for the company
to be flexible in a changing environment, the focus should also be on external factors.
(c) The management aims to make a yearly profit that is 10% more than the previous
year’s profit. If previous year profit alone is the benchmark for growth, certain decisions
may be shelved because they may decrease current year’s profits below target.
However, had these decisions been implemented they may have generated value in
the long term and ultimately may have been better for earning profits in future years.
For example, certain capital expenditures that may need to be undertaken quickly in
order to improve customer satisfaction, may not be incurred at all simply because there
is no budget for it.
(d) Operations management did not have much autonomy since policies were controlled
at the corporate headquarters. At the same time, they were responsible for achieving
the targets set out as per the budget. Responsibility without authority creates a
negative working environment. Consequently, it might be difficult to retain talented
personnel.

CASE STUDY 13.77
(e) In order to meet budget targets, managers may try to negotiate for lower sales targets
to achieve, more budget allocations to meet costs etc. This does not foster positive
business growth. Managers are more intent in meeting targets rather than focusing on
business growth. It leads to lower sales than can otherwise be achieved and leads to
protection of costs rather than working towards lowering operational costs.
It can be concluded that the traditional budgeting process was more inward looking.
Focus is on achieving budget target rather than implementing strategies that can
create more value to the company.
(ii) Following feedback from operations managers, the management given them targets based
on growth instead those based on the budget alone. This is the philosophy of “beyond
budgeting”. Below are features of this philosophy that has enabled Magical Stay to achieve
better results:
(a) It is a more decentralized and participative way of operating a business. Rather than
being made responsible for business decisions, which were not in their control, the
employees delegated responsibility, combined with the necessary authority to execute
decisions.
(b) Operations management and the personnel at each location are capable of quickly
adapting to changing market scenarios. Likewise, since they interact with the
customers directly, it enables them to make quicker decisions to ensure customer
satisfaction or identify opportunities to generate more revenue.
(c) Targets are based on performance of peer group companies. Benchmarks based on
peer group performance will be unbiased and reflects the current business scenario
better. Due to this, customer’s needs and satisfaction automatically gets priority. It is
the customers who ultimately drive business growth. Therefore, rather than having an
inward-looking outlook, focus is shifted to the external market conditions. Due to
autonomy, managers at various locations need not compete with each other for budget
allocation. This channelizes the operational focus to meet challenges from outside
competitors rather than having detrimental competition within the organization. At the
same time, the targets for the company are also based on guidelines from the
corporate office. Therefore, there is congregation of goals with the shareholders’
expectations.
(d) Employee morale is also boosted due to the monthly reward and recognition system.
It fosters healthy competition among employees.
Since the focus is on growth, beyond budgeting can be a way of achieving better results in
challenging business environment.

CS-19: CONTROL THROUGH STANDARD COSTING SYSTEM

‘HAL’ is a manufacturer, retailer, and installer of Cassette Type Split AC for industrial buyers. It
started business in 2001 and its market segment has been low to medium level groups. Until
recently, its business model has been based on selling high volumes of a standard AC, brand
name ‘Summer', with a very limited degree of customer choice, at low profit margins. ‘HAL’’s
current control system is focused exclusively on the efficiency of its manufacturing process and
it reports monthly on the following variances: material price, material usage and manufacturing
labour efficiency. ‘HAL’ uses standard costing for its manufacturing operations. In 2018, ‘HAL’
employs 20 teams, each of which is required to install one of its ‘Summer’ AC per day for 350
days a year. The average revenue per ‘Summer’ AC installed is `36,000. ‘HAL’ would like to
maintain this side of its business at the current level. The ‘Summer’ installation teams are paid
a basic wage which is supplemented by a bonus for every AC they install over the yearly target
of 350. The teams make their own arrangements for each installation and some teams work
seven days a week, and up to 12 hours a day, to increase their earnings. ‘HAL’ usually receives
one minor complaint each time a ‘Summer’ AC is installed and a major complaint for 10% of the
‘Summer’ AC installations.
In 2016, ‘HAL’ had launched a new AC, brand name ‘Summer-Cool’. This AC is aimed at high
level corporates and it offers a very large degree of choice for the customer and the use of the
highest standards of materials, appliances, and installation. ‘HAL’ would like to grow this side of
its business. A ‘Summer-Cool’ AC retails for a minimum of `1,00,000 to a maximum of `5,00,000.
The retail price includes installation. In 2017 the average revenue for each ‘Summer -Cool’ AC
installed was `3,00,000. Currently, ‘HAL’ has 7 teams of ‘Summer-Cool’ AC installers and they
can install up to 240 AC a year per team. These teams are paid salaries without a bonus element.
‘HAL’ has never received a complaint about a ‘Summer-Cool’ AC installation. ‘HAL’’s business
is generated from repeat orders, recommendations, and local press advertising. It employs three
sales executives who earn an annual salary of `3,00,000 each. It offers a six-month money back
guarantee and this has to be fulfilled for 1% of its installations. ‘HAL’ has always been in profits
but was shocked to see that in its results in 2017 it only earned 0.2% net profit on its turnover.
Required
(i) EVALUATE the appropriateness of ‘HAL’'s current control system.

(ii) RECOMMEND four Critical Success Factors (CSFs) which could assist ‘HAL’ in
achieving future success.
(iii) ADVISE ‘HAL’ about the changes it could implement in its standard costing and reporting
system to achieve improved control.
Solution
(i) HAL’s Control System HAL’s current control system is ‘focused exclusively’ on the
manufacturing process and its efficiency even though HAL is also a retailer and installer of
industrial ACs. It is suitable for HAL’s control system to monitor manufacturing efficiency
with the help of the three variances: material usage, material price and manufacturing

CASE STUDY 13.79
labour efficiency. No reasons have been given for focusing on these three variances
and there may be other variances which can provide useful control information that are not
currently computed for example, labour rate and material yield. Although HAL uses stan dard
costing, it is unclear whether it calculates product costs. A lack of product costs computation
may be the reason that it was shocked about its 2017 profit margin. Standard costing could
be in criticism for misdirecting management’s attention. Thus, in the case of a ‘Summer-
Cool’ AC where the highest standards of materials are used, it is pertinent that the quality
of the finished product is not compromised. Therefore, it might be proper to accept
an unfavorable material price variance to maintain the product’s standards. Variance
analysis should not be done in isolation but a holistic view needs to be taken about HAL’s
operations and the current control system may not lead to this. HAL is not currently
controlling and monitoring aspects which are important for competitive success. HAL’s
Critical Success Factors have not been identified yet. There is monthly reporting of
variances but in addition to this, there should also be follow-up actions for outcome
resulting from these reports. However, a month is not inevitably the relevant reporting
period for all aspects of HAL’s business. If there is a production problem leading to
excessive materials wastages, a month is too long time to wait before remedial action are
taken. Therefore, real-time or coexistent reporting may be more relevant for manufacturing
operations. A major deficiency of HAL’s control systems is that they do not extend to
retailing and installation activities. The ‘Summer’ installation teams are incentivized to
complete ACs which could be good for their productivity. However, there is a high level of
complaints associated with their work. As there is no evident means of monitoring the
installation team’s work, the reasons of the complaints cannot be identified.
(ii) Critical Success Factors (CSF) are elements tied to the strategy of business and they
represent objectives that business is trying to achieve, as a corporation, as a department
or as a business unit. Critical success factors may vary over time and may include items
like employee attitudes, manufacturing flexibility etc. There are a range of CSF’s which
could be appropriate for HAL. They include:
CSF: Installations Quality There are different quality expectations for the two ACs and
there have been different levels of quality achieved, can be seen in the historic pattern of
complaints. This strongly implies that the quality of installation should be tracked as a
separate CSF for each AC. This CSF is important for HAL due to cost implications of
rectifications and guarantee claims. It is also important to consider that because of the
effect that poor quality will have on HAL’s future business.
CSF: Customer Satisfaction Like quality, this CSF will need to be monitored separately
for each AC. Customer satisfaction encompass the complete life of a transaction beginning
with the initial enquiry about a purchase and continuing after installation for the life of the
AC. Customer satisfaction will have an influence on HAL’s future business which is
dependent, in part, on repeat orders and recommendations. This CSF will also show the
market’s view of HAL’s brand.
CSF: Brand Performance HAL has two distinct brands. They are directed at different
market segments and have different associated attributes. ‘Summer’ ACs offer limited
choice to the customer and retail, on average, for `36,000. HAL would like to maintain this

business at its present level (7,000 ACs a year minimum) `252 million revenue. HAL needs
to ascertain where this brand is situated in its life-cycle and what marketing activities may
be required to support it. The ‘Summer-Cool’ brand is aimed at a different market segment
and HAL would like to grow this aspect of its business which produces revenue of `504
million. The success of both brands is important for the continual success of HAL and this
CSF indicate a complete view of performance.
CSF: Manufacturing Excellence HAL manufactures all the ACs which it sells and installs.
Manufacturing must be a substantial part of HAL’s total costs and a significant contributor
to profitability. Currently, HAL monitors some limited aspects of manufacturing through its
control system. However, there are many other aspects which have not been reported upon,
for example- innovation, labour abseentism, manufacturing flexibility and investment in
technology. This CSF is much broader than the current control system. It also assists in
searching for competitiveness.
(iii) Standard Costing and Reporting System HAL may be required to abandon or modify its
standard costing and reporting system. The rationale behind this is that the current control
system might lead to an inappropriate emphasis being placed on certain aspects of
performance. It is noteworthy that the installations for ‘Summer’ AC is causing a substantial
level of complaints whereas there has never been a complaint made about a ‘Summer Cool’
AC. It could be that the different remuneration arrangements for the ACs’ installation teams
have led to this and as the complaint level is an important aspect of the CSF i.e. Customer
Satisfaction, HAL may need to modify its remuneration arrangements. It should also reckon
whether it would be benefited from a broader range of variance reporting, for example, it
may find reporting useful to report on labour rates and material yield. For all CSFs, HAL wil l
need to determine the appropriate reporting intervals. Although it is useful to synchronize
this with the accounting reporting cycle, CSFs and KPIs do not necessarily coexist with
accounting period ends. Some KPI’s may require to be reported in real-time, for example,
material wastage, others may be of a longer duration like Customer Satisfaction. There is
a strong argument for disassociation of the CSFs reporting from the financial reporting
cycles.

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CAFCINTER CAFINAL CA

INTRODUCTION TO STRATEGIC COST MANAGEMENT

Strategic Frameworks for The Value Chain Approach for

Industry Core segmentation Internal Internal Vertical

Traditional Cost Management

Limitations of Traditional Cost Management

Strategic Cost Management

Components of Strategic Cost Management

Cost Driver Analysis

Value Chain Analysis

(Recruiting, Training, Development)

(R & D, Product and Process Improvement)

:2: REVISION NOTES – MAY ‘19

Strategic Frameworks for Value Chain Analysis

Industry Structure Analysis

Core Competencies Analysis

In order to attain superior performance and attain competitive advantage, a firm

The Value Chain Approach For Assessing Competitive Advantage

:3: REVISION NOTES – MAY ‘19

Internal Differentiation Analysis

Vertical Linkage Analysis

Problem Finding Problem

MODERN BUSINESS ENVIRONMENT

Quality Management • Theory of Constrains Supply Chain • Gain Sharing

Total Quality Management Business Excellence Model • Key Process

• Prevention Costs • Concepts of Excellence • Relationship with Suppliers

Modern Business Environment

Cost Of Quality (COQ)

Cost of Poor Cost of Good

Internal External Appraisal Prevention

:5: REVISION NOTES – MAY ‘19

Total Quality Management (TQM)

:6: REVISION NOTES – MAY ‘19

Plan–Do–Check–Act (PDCA) Cycle

Criticisms of Total Quality Management

The Business Excellence Model

:8: REVISION NOTES – MAY ‘19

Goldratt’s Five-Step Method for Improving Performance

:9: REVISION NOTES – MAY ‘19

Types of Supply Chain – Push and Pull

Upstream and Downstream Flow

Management of Upstream Supplier Chain

Upstream Supply Chain Management

Relationship with Suppliers

Use of Information Technology

Downstream Supply Chain Management

: 10 : REVISION NOTES – MAY ‘19

Relations Customer’s Use of Brand

: 11 : REVISION NOTES – MAY ‘19

Analysis of Customers and their Behaviour

Customers Account Profitability (CAP)

Customers Lifetime Value (CLV)

Customer’s Selection, Acquisition, Retention and Extension

The use of Information Technology in Downstream

: 12 : REVISION NOTES – MAY ‘19

LEAN SYSTEM AND INNOVATION

Transportation Inventory Motion Waiting Over- Over- Defects

Most of lean system techniques are based on following principles:

: 13 : REVISION NOTES – MAY ‘19