An Overview of Overall Direct Control Techniques

AN OVERVIEW OF OVERALL DIRECT CONTROL TECHNIQUES

Some popular techniques of overall direct control are described below: 

a. Budget Summaries and Reports

A budget summary is a resume (short account) of all individual budgets and reflects company’s plans in terms of – sales volume, costs, profits, utilization of capital etc. It shows to the top management as to how well the company, as a whole, is successful in achieving its objectives.

Budget summaries provide an effective means for overall control, in situations of decentralized authority. Top management has a convenient means of finding out where the deviations are occurring and can take appropriate corrective action.

Budget summaries and reports are a useful means of overall control, subject to the following considerations:

  1. Total budgets must be an accurate and reasonably complete portrayal of the company’s plans.
  2. Managers must ensure that comparisons of budgeted performance and actual performance show the real nature of deviations. For example, an increase in some expenditure head above the budget figure, may be due to some external factor, beyond the control of the manager.
  3. While comparing budgeted performance and actual performance, attention must be paid to important variations. Minor discrepancies should receive little attention.
  4. Many-a-times, managers must forget the budget and take special action to meet unexpected events; because budgets are servants of managers and not their masters. 

b. Profit and Loss Control

Profit and Loss or the Income Statement for an enterprise as a whole serves important control purposes; because it is useful in determining revenues and related expired costs during a given period; which account for success or failure of a business.

Many companies use profit and loss technique for division I departmental control. In fact, when the purpose of the entire business is to make a profit; each department must contribute to this purpose.

How is Profit and Loss Control Exercised?

In profit and loss control, each major department details its revenues and expenses; including a proportionate share of the company overheads and calculates its profit /loss periodically. However, profit and loss control is not practicable for small departments; as the paper – work involved in building up profit and loss statements for smaller departments tends to be too heavy. Further, profit and loss control is not applied to control staff and service departments.

Limitations of Profit and Loss Control

Some of the limitations of profit and loss control may be stated to be as following: 

(i) The is a lot of paper work involved for recording intra-company transfer of costs and revenues. Whether intra-company transfers to be made at costs or at a figure above costs; require careful decision and appropriate and accurate recording. 

(ii) Profit and loss control is inadequate for overall control purposes, till it is coupled with a good budgetary control system.

(iii) When profit and loss control is carried very far in the organization; departments may come to compete with each other; which phenomenon may be dangerous for enterprise co-ordination. 

(c) Return On Investment (ROI)

ROI is one of the most successfully used overall control techniques; which measure the success of a company by the ratio of earnings to investment of capital. This approach has been an important part of the control system of the Du-Pont Company, USA, since 1919.

ROI is computed according to the following formula:

Profits before interest, tax and dividends

                                                                       ROI =               ————————————————-           * 100

Capital employed

Where, capital employed refers to the total long-term investment in a company. (We may also take average capital employed i.e, capital employed in the beginning + capital employed at the end + 2)

Capital employed is calculated as the summation of fixed assets ÷ net working capital (i.e. current assets -current liabilities).

Point of Comment

With the help of ROI, a company can compare its present performance with its past performances; and can also compare itself with other companies having similar investment and being similarly situated.

Evaluation of ROI 

Merits:

  1. ROI gives an overall assessment of business functioning.It guides management in increasing profits through a better utilization of capital invested. It, in fact, focuses managerial attention on the central objective of the business i.e. making best profits possible on capital available.
  2. ROI is effective; where authority is decentralized. When departmental managers are furnished with a guide to efficiency that applies to the company as a whole; they develop a keener sense of responsibility for their departments and top management can easily hold subordinate managers responsible.

Limitations:

Some limitations of ROI are as follows:

  1. There is a problem of valuation of assets. If assets are jointly used or costs are common, what method of allocation between departments should be used? Should a manager be charged with assets at their original costs or their replacement costs or their depreciated values? Setting up of a ROI system as control device is not an easy task.
  2. ROI preoccupies with financial factors; and overlooks environmental factors such as social and technological. Qualitative factors which are scarce (like competent managers, good employee morale, good public relations) and equally significant or rather more significant than capital employed are totally neglected in ROI calculation.
  3.  There is no standard ROI available for inter-firm and intra-firm comparison purposes.