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Chapter 4
Organizational architecture
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Principal/Agent relationship
- - Principal (boss) evaluating person below them and delegating decision-making responsibilities
- - Agent can make own decisions
- - This is a hierarchical relationship
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Elements of Organizational Architecture
- •System to partitioning decision rights
- •System to measure performance
- •System to rewardperformance
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System to partitioning decision rights
What decisions does the manager get to make?
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System to measure performance
- This is ALWAYS an amount #### !!!!
- Sales, profit, etc.
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System to reward performance
What number are you basing the reward on?
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General Issues in org architecture
- •Importance of balance among elements
- •Desirability of linking decision rights to knowledge base
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Importance of balance among elements
If we change one piece, need to change another one too. Award now based on sales rather than profit --> Bonus needs to correspond to sales rather than profitability
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Desirability of linking decision rights to knowledge base
Decisions should be made by those who have the knowledge about it
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Country Culture Differences—
Hofstede/Hofstede and Bond
- •Power distance
- •Individualism/collectivism
- •Masculine/feminine
- •Uncertainty avoidance
- •Confucian dynamism
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•Power distance
Weak-Strong: How comfortable are people with there being differences in power? --> delegation
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•Individualism/collectivism
Collectivism: people do things that are in the best interest of the group/themselves --> reward system
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•Masculine/feminine
Also for reward systems: masculine has more focus on money, feminine has focus on intangible rewards like time off
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•Uncertainty avoidance
Comfort/discomfort of being in an unfamiliar surrounding
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•Confucian dynamism
Decisions based on the long run vs the short run
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Self-interest Issues
- •Input invisibility
- –Shirking
- –Free rider problem
- •Horizon problem (mgr has different time frame than the company)
- •Goal incongruence--conflict among parties (one person focusing on improving design while the other is focusing on improving cost effectiveness)
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Chapter 5
- Responsibility Accounting—
- Cost, Revenue, Profit, and Investment Centers
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Direct application of organizational architecture ideas to Responsibility accounting
- -Decisions made affect the cost.
- -You are being measured on your performance on the basis of cost
- -you will be rewarded based on cost
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Investment Center Performance Measures
- •ROI (return on investment) = Profit/Investment
- •Residual Income = Profit - (Cost of Capital x Investment)
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ROI =
- Profit/Investment
- - If ROI is greater than the investment, the less the ROI
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•Residual Income =
- Profit - (Cost of Capital x Investment)
- - If you get a % of this, your goal will be to increase profit while decreasing the amount of $ in investments.
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Controllability principle
- •Include only controllable factors in performance measure
- •Reasons why one might want to include uncontrollable factors in performance measure (violate
- controllability principle)
- –Encourage related actions
- –Incorporate general factors
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Interaction issues— Transfer pricing & Rules & CONFLICT among depts
- •Arises when market transaction is moved inside company
- •Possible alternatives--Opportunity cost is desired
- RULES:
- –Transfer price is market price (adjusted)
- –Transfer price is based on full cost
- –Transfer price is based on variable cost
- –Transfer price is negotiated
- CONFLICT: Buyer wants the TP to be low while Seller wants the TP to be high
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Interaction issues continued— Transfer pricing
- •Information asymmetry may be present among parties
- •Costs associated with process of negotiation
- •International (across jurisdiction) tax differences may be a constraint on use of transfer price in performance evaluation
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