CHAPTER 11 BEHAVIORAL ASPECTS OF PERFORMANCE EVALUATION

The company is organized by divisions, and each profit center is responsible for marketing, manufacturing, and customer services functions. Performance Evaluation The performance evaluation system is designed to measure three basic elements: personal performance, attainment of operating goals, and return on investment. Subordinates are evaluated only on the basis of their personal performance; segment managers are judge on all three criteria. The attainment of goals and return on investment are accounting measures based on goals and standards set by the profit center or corporate unit head. Goal Setting The goal-setting process is the same for all units. 1. Sales are set and controlled by the profit center. 2. Other income represents net estimated corporate income from sales of assets, interest income, and the like, and is determined by corporate. 3. Manufacturing costs are set and controlled by a standard cost system. 4. Selling and administrative expenses are determined by a rigid fixed formula and format, with half of the elements zero-base budgeted. 5. Distribution center profits are duplicate credits for distribution center profits given to the manufacturing divisions. 6. Direct overhead-actual includes such items as bad debts and management incentive provisions, which are determined by the profit centers. 7. Corporate direct overhead-allocated includes items such as research and development, advertising, and direct corporate service charges. 8. Operating profit represents the net of items 1 through 7 and is used as an incentive measurement point for the profit centers. 9. Corporate indirect overhead-allocated consist basically of current cost whose benefits are long-term in nature. 10. Tax is determined on the basis of a fixed formula, which uses the effective tax rate for the profit center after considering all permanent tax benefits. 11. Net earnings represent the basis group and corporate incentive measurement.
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12. Capital employed is composed of actual current assets and fixed assets of the profit center, less allocated current liabilities and deferred taxes. 13. Return on capital employed is computed by dividing capital employed into net earnings. 14. Receivable days outstanding are intended to monitor cash flow from receivable and to induce minimization of capital employed. 15. Inventory turnover is used as inventory control measure to prevent excessive inventory build-up. Bonus Computations Segment managers bonuses are determined on the basis of the performance ratings achieved of the three key result areas. Using the relative weights note earlier as base, a typical incentive payout for a profit center. Subordinates are not entitled to bonuses; however, their personal performance appraisal results are used by their superiors when deciding on raises and promotions. Performance Reporting Actual performance of the profit centers and corporate units is reported monthly in the form of segmental statements of earnings and on the basis of various ratios. 1. Statement of earnings. Such a statement is prepared each month on a cumulative basis with variances from goals flagged. 2. Receivable days outstanding. This ratio is presented on a comparative two-year monthly trend basis with the annual objective shown. 3. Inventory turnover. This ratio is determined using the same format as for receivable. Definition and Purpose of Performance Evaluation Performance evaluation is the periodic assessment of the operational effectiveness of an organization, its subunits, and its personnel in light of predetermined goals, standards, and criteria. The primary purpose of performance evaluation is to motivate employees to attain organizational goals and to comply with predetermined behavior standards to produce desired actions and outcomes. Another aspect of performance evaluation is the discouragement of dysfunctional behavior and the encouragement and reinforcement of desired, or functional, behavior through timely feedback of performance results and intrinsic or extrinsic rewards. Uses of Performance Evaluation The greatest benefits are realized when they are used for the following purposes: 1. To manage the operations of the organization effectively and efficiently by maximizing employee motivation; 2. To assist in personnel decisions such as promotions, transfers, and terminations;
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3. To identify specific training and development needs and to provide criteria for selection and evaluation of training programs; 4. To provide feedback to employees about how superiors perceive their performance; and 5. To provide a basis for reward allocations. Motivation as a Tool of promoting Operational Efficiency Motivation is concerned with what induces people to behave in particular ways. Expectancy theory is one of the best predictors of motivation and performance. According to this theory, behavior is influenced by the probabilities people assign to the following relationship: 1. The effort necessary to achieve the goal. 2. Performance and reward. 3. Rewards satisfying personal goal. Effect of Rewards on Behavior There are three ways to shape the behavior of the people who work in organizations: 1. The response to desirable behavior can made something pleasant (praise or a reward) is called positive reinforcement. 2. Desirable behavior can be induced by elimination of something unpleasant is called negative reinforcement. 3. Punishment is a common remedy for undesirable behavior. Types of Rewards and Their Benefits in Functional Behavior Inducement and Reinforcement Rewards can be grouped into intrinsic and extrinsic categories. Intrinsic rewards are personally satisfying feelings that people experience for jobs well done and for goals attained. Intrinsic rewards can be enhanced by techniques such as job enrichment, increased responsibility, participation in decision making, and other effort that lead to increases in peoples self-worth and drive to excel. Behavioral Aspects by Performance Evaluation Steps The following steps are used to measure and evaluate performance. Each step has behavioral implications. Preliminary steps: 1. Define the segments and activities to be controlled and the individuals associated with them. 2. Set performance criteria (policies, goals, and standards) for each organizational segment and activity.
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3. Measure actual performance. Performance Evaluation Steps: 4. Compare actual performance with predetermined goals. Promptly report results to individuals responsible for segment and activities. 5. Determine operational and behavioral causes of unfavorable variances. 6. Reinforcement desired behavior and act to prevent recurrence of undesired behavior. Measurement of actual performance The next step in evaluating performance is measuring the actual results of the segments or activities. Although it appears on the surface to be an objective, repetitious, and routine activity, the measurement itself may trigger many dysfunctional responses. People will try to manipulate information to suit their own purposes. Smoothing Smoothing includes all activities used by managers to affect the flow of data. This may be done by accelerating or delaying messages. Managers may send messages in the current period concerning events that will occur in future periods or they may delay sending a message about current events until future periods. This practice remained undetected for quite some time since the suppliers invoices were the only documentary evidence of the transaction. Biasing Another common data manipulation method is biasing, where by managers select from a set of possible message those likely to produce the most favorable picture of their performance. The varieties of generally accepted accounting methods available provide ample opportunity for these types of activities. Gaming Manipulation of actual performance results can also be accomplished by exploiting various aspects of the superior-subordinate relationship. This activity is called gaming and refers to behavior where the sender acts to cause the desired message to be sent. The inducement to gaming can be minimized by basing the rewards on more than one aspect of performance. To base the reward allocation on various aspects of performance will discourage overemphasis of one aspect to the detriment of all others. Focusing and illegal acts Other strategies through which senders can manipulate messages to suit their own selfish needs are focusing and illegal acts. Focusing occurs by highlighting favorable messages and hiding unfavorable ones. There are many cases of focusing. Workers may falsify data when
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quota fulfillment seems unattainable. Managers may restrict output to avoid higher future quotas. Illegal acts are not limited only to the production flow. Companies falsify cost and sales figures to increase net income to portray a more attractive impression to prospective investors. The chance of their occurrence will also be minimized through a well constructed accounting system capable of motivating desirable behavior and team spirit. Comparison of actual and expected performance The comparison of actual and expected performance is done through periodic performance reports. For optimum impact, separate performance reports should be prepared for each segment, starting with those at the lowest hierarchy level. Performance reports should include all deviations or variances of actual performance from expectations. Performance reports showing all deviations or variances from expectation should be prepared at least monthly. Performance reports should be geared to the needs and experiences of the user. Since performance reports are prepared by accountants, they are predominantly tabulations of financial statistic. To make the reports understandable to users with no accounting background, many companies have found it beneficial to use charts and graphs in their presentation. Percentages and ratios give the evaluated managers a more common frame of reference and avoid possible misinterpretation of materiality and relativity of the variances. Finally, variance should be reported for past and current periods and on cumulative basis to date. Analysis of variances Both unsatisfactory and satisfactory conditions deserve managements attention and should be analyzed and interpreted. Favorable variances should receive similar attention, since they also have high informational content. One problem in determining the causes of variances is that managers and subordinates may not cooperate in the investigation. To make the process of variance interpretation and cause detection behaviorally effective, individual and group conferences should be held at various management levels. Corrective actions The final step in the performance evaluation process is taking corrective actions to reinforce desirable behavior and modify undesirable behavior. Behaviors are the actions people who produced results. Results are indicators of effectiveness, such as profit, quality of output, and sales levels. The performance evaluation function of the accounting system provides most of the quantitative data for determining how, to whom, and for what rewards should be distributed or withheld. It also indicates the areas in which behavior modifications have to take place to enhance future health and growth.

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Behavioral aspects of performance evaluations using accounting information Firms use accounting information alone or in conjunction with other information as the basis for evaluating segment and subordinate performance. The reason for this is that accounting data are hard or objective rather than soft or subjective. The relationship of the organizational structure to the financial reporting structure If organizational structure and reporting structure correspond, there is harmony between managers responsibilities and control over revenues and expenses. The responses may also occur if the information provided by the accounting system does not adequately reflect the complexity of the underlying organizational and environmental conditions affecting performance. All those dysfunctional conditions could be minimized through a carefully constructed responsibility accounting system. Degree or participation in standard setting People rarely object to performance evaluation per se. hostile reactions are often triggered by unsuitable criteria used in performance evaluation or if the goal-setting and report formats are considered weak. To minimize these complaints and to encourage acceptance of budget goals and cost standards as realistic and fair, segment managers should participate in setting the measures used in their performance evaluation. Level of understanding of the accounting system Since performance data supplied by accounting entail every phase of organizational activity, the people controlled by them should have a good understanding of the methods used in their accumulation budgeting, standard cost setting, and the process of setting performances goals. People feel threatened by things they do not understand and my fight back in unreasonable and destructive ways.

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