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Chapter 10

Performance Management

10.1 Introduction: The Crisis in Management Accounting 137 10.2 The Development of Strategic Management Systems 138 10.3 The Balanced Scorecard 138 10.4 Stern Stewart’s Economic Value Added (EVA)TM 142 10.5 Summary 147

You will notice that we refer to much literature in this unit and it is to be hoped that you will read up on some of the sources that have been cited. It is not expected that you will read all of these sources − that would be asking a bit too much. More important to your success in this unit, however, is that you try to find independent sources for yourself. You need to be able to offer your own evaluation of the literature after all and seeking out your own sources is a significant part of developing that skill. There is a list of the sources referred to in the reference section at the back of this unit but bear in mind that it is not exhaustive. It will help you initially, however, if you have an interest in a particular area.

Learning Objectives

After completing the study of this unit you should be able to:

• broadly provide analysis of the environment, in a management accounting and control sense, which gave rise to developments such as economic value added (EVA) and the Balanced Scorecard (BSC)

• appraise the contribution of the BSC to the area of performance management

• appraise the contribution of EVA to the area of performance measurement

• provide critical analysis of both these techniques, based on academic reading

• analyse the feasibility of the BSC and EVA being used together.

10.1 Introduction: The Crisis in Management Accounting

In the early 1980s, US and UK companies began to lose contracts to Japanese organisations which, previously, they would have succeeded in attaining. There appear to have been two main reasons for this: the Total Quality Management revolution had benefited Japanese entities to the extent that they could simultaneously decrease cost and increase quality but, additionally, Western companies came to the conclusion that they were not measuring and managing the correct metrics in their companies.

For example, management accounting had always been (and remains today) very effective at splitting costs into their fixed and variable elements and ensuring that costs are accurately allocated to product to enable stock to be valued in line with the existing accounting regulations (International Accounting Standard 2 and 11). This meant that a great deal of attention was paid to determining which costs were direct and which were indirect. However, the nature of the composition of costs had changed and companies were increasingly finding that the majority of their costs were indirect whilst their measurement and management systems were constructed to analyse, in detail, the costs which were direct in nature. This meant that there was a fundamental and potentially dangerous mismatch between cost behaviour and cost analysis. In practice, management accounting was measuring and managing aspects of the business which suited the purposes of financial reporting (e.g. valuation of stock) but which did not help the business to plan, control or make decisions for the future.

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Resultantly, management accounting was seen as being in crisis and the publication of a book called Relevance Lost: The Rise and Fall of Management Accounting in 1987 by Johnson and Kaplan made public what many companies believed, privately, to be the case. Indeed, one sentence in that book was seen as providing the rationale for much of the research in this area for the next 20 years:

‘management accounting information is too late, too aggregated and too distorted to be relevant for managers’ planning and control decisions’ (p1).

It is really the task of each individual observer to assess whether relevance has been regained or not. Certainly, there have been many developments in the field of management accounting since then, most of which we do not have time to focus on in this unit. If you are interested, however, you might consult any management accounting textbook to find out about things such as activity based costing, activity based management, target costing, customer profitability analysis, value chain costing, benchmarking and strategic management accounting. In this unit, we will focus on two particular developments − the Balanced Scorecard (BSC) and economic value added (EVA) − as strategic management and measurement tools. Firstly, we need to explain what we mean by a strategic management system and to trace its development.

10.2 The Development of Strategic Management Systems When we talk of a strategic management system we mean one which, even if only in broad terms, considers the external environment within which the entity operates. From this, the entity decides upon its strategy and from this comes the annual/six-monthly/monthly budget. If the system is truly interactive, it will assess the continued viability of the entity’s strategy and make adjustments to the internal measurement and management system accordingly.

Anthony (1965) is generally credited as being the first commentator to consider that meas- urement and management should, perhaps, have a strategic perspective when he points out that the aspects of control and planning should be treated as two distinct functions of manage- ment. This conclusion had been given supporting evidence by previous commentators such as Chandler (1962), who highlighted that expanding industries were creating problems in terms of control for traditionally run family entities. It had become almost impossible to find one person to control the vast number of developing divisions, emphasising how the function of control was inadequately developed to deal with the changing environment.

Anthony (1965), therefore, with some justification, introduced his book by saying ‘the area in which we are interested, planning and control systems, is so new as an organised field of study that textbooks providing a framework have not yet been written’ (p.4). His main contribution to the development of strategic management systems is, therefore, to attempt to provide one, which he does by initially stating that he views planning and control to be indistinguishable. He further develops his argument by drawing a distinction between strategic planning (deciding upon objectives and upon how to obtain the resources for those objectives), management control (how managers ensure that resources are obtained and used effectively to achieve the objectives) and operational control (the process of ensuring that specific takes are carried out effectively and efficiently).

Otley (1999) highlights how the literature in this area has subsequently developed, which he summarises as going ‘beyond measurement of performance to management of performance’ (p.363) and therefore from beyond planning to managing. He highlights, as many other com- mentators also do (Simons, 1995; Drury, 2008 for example) that the BSC is one of the most significant developments in terms of strategic management and one which is increasingly being adopted by companies in both the private and public sectors.

10.3 The Balanced Scorecard The BSC is the invention of Robert Kaplan, a Harvard Business School professor, and David Norton, a management consultant. They had undertaken some research work with major blue

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chip American companies towards the end of the 1980s/beginning of the 1990s and, using a research approach called grounded theory (Glaser and Strauss, 1967) to analyse their work, they developed the BSC. It is interesting to note, initially, that their model of the BSC was built from practice, not from a theoretical construct about what should be happening. As can be seen from Figure 10.1, the BSC is composed of four component parts:

Figure 10.1 The balanced scorecard

The double-headed arrows which join the aspects together are the key to the success of the BSC: if the customer component is not achieved, then the financial target will not be achieved. If the financial targets are not achieved, the internal business process targets will not be achieved, neither will those in learning and growth, nor those in customer. The essence is therefore one of cause and- effect in that something is achieved (or not) as a result of performance which then enables (or not) something else to be achieved. The other principle idea within the BSC is that it is derived from the organisation’s vision and strategy and that it becomes, in essence, a strategic implementation tool.

10.3.1 How Might It Look in Practice?

The idea behind the BSC is that corporate goals should be devolved throughout the organ- isation by means of each department/unit having their own BSC. The first thing that must be decided upon, therefore, is the company’s strategy. As Kaplan and Norton (1996) make clear in their book, it is counter-productive for any company to try and ‘borrow’ a BSC from any other company as they operate in different environments, have different strategies and will, therefore, want to measure different things. The strategy having been established, the company can then decide upon the aspects that they feel it necessary to measure to ensure strategic goals are achieved.

In a company such as amazon.com, the BSC may look something like this.

Financial perspective

Objective: Profitability

Measures: Average gross margin per sale/per customer, average customer acquisition cost

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Objective: Growth

Measure: Quarterly revenue

Objective: Survival

Measure: Cash flow

Customer perspective

Objective: Brand strength

Measures: Brand awareness, brand meaning, customer life cycle

Objective: Customer satisfaction

Measures: Customer satisfaction index, ‘traffic’ conversion rate, knowledge-base, cus- tomer share, defection rate

Objective: Market share growth

Measure: Market share

Internal business process perspective

Objective: Quality and reliability

Measures: On-time delivery, service error rate

Objective: Efficiency

Measures: Level of disintermediation, revenue per dollar of web development

Innovation and learning perspective

Objective: Innovation

Measures: Distribution of management attention in meetings between time spent dis- cussing past, present, future issues

Objective: Resources maximisation

Measures: Employee retention, revenue per employee, staff attitude survey

Objective: Diversification

Measures: Pareto analysis, % sales from proprietary products, % of quarterly sales from new segments

If we assume that amazon.com’s strategy is to develop themselves as a ‘branded’ low cost producer, these measures would, hypothetically, appear to be an appropriate balance between

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financial and non-financial. I would stress these measures are hypothetical but also that they probably provide a realistic indication of the kind of things that the company might view as critical success factors at a corporate level.

Kaplan and Norton have written a further two books following their original one in 1996. In 2001, they highlighted the BSC’s essence as an overall strategic management system in The Strategy Focused Organisation and in 2004, they provided further detail and analysis on how to map strategic direction into specific measures in Strategy Maps. To be knowledgeable about what is happening in terms of the development of the BSC from the point of view of those who initiated it, you should be aware of developments in each of their three books. If you find them to be of great interest, then of course you should read them cover to cover. However, to gain an overall feeling about what’s said, it’s necessary to read the introductory chapters of each and then to dip in to whichever chapters you feel to be appropriate.

10.3.2 What Does the Research Say?

Much research has been carried out into the BSC and probably the main reason for this is that many companies are using it. Unlike other theoretical developments in management accounting (e.g. backflush accounting, modified internal rate of return), the BSC was derived from practice which makes it clear that it is at core a practical, rather than a theoretical, development. That is not to say there is no theory underlying its usefulness, as clearly its main purpose is to help companies organise themselves in such a way that they can maximise their financial return. In that sense, it is a shareholder value model.

Given its wide usage, we have a reasonably extensive variety of case study research on the development of knowledge of the BSC in practice. The research that is cited here, and that which refers to EVA also, is quite selective and is in no way meant to be extensive but instead to encourage you to seek out these and other sources and to undertake your own investigations into the area of the BSC.

Firstly, we have the work which has been undertaken by Kaplan and Norton − 1992, 1996a, 1996b, 1998, 2001, 2004. However, it would be fair to say that this work might not represent the most balanced view as Kaplan and Norton have their own management consulting organ- isation which specialises in BSC implementation and it is unlikely that their own publications will offer anything in the way of critical or derogatory commentary on it.

The area of implementation is one that a few commentators have chosen to focus their research upon. McCunn (1998) suggests that companies should implement a pilot project before proper implementation, as the BSC involves a cultural change that staff need to take time to adjust to. This is something which Ahn (2001) implicitly agrees with, as he highlights that the implementation of the BSC into one business unit took four months. He indicated that the planning and initial conception of how implementation would be undertaken should have been better conceived. McAdam and Walker (2003) also provide evidence that failure to implement a pilot project can have catastrophic consequences as their research details the five-year journey to implementation of the BSC in a UK local council. Above all, McAdam and Walker believe their study highlights the importance of having a ‘champion’ of the BSC within the company − that is, someone in he company who is enthusiastic about the advantages the BSc can bring to the company and who will resultantly ‘sell’ it to their colleagues. They argue that this is a necessity, as most implementation is originally undertaken by management consultants who must eventually rescind control to the company itself.

Many commentators would come to the broad agreement that companies believe the BSC to be beneficial. Malmi (2001) reports that, of the 17 Finnish companies he studied, all of them were finding the BSC to be of great benefit as a strategic implementation system. Jazayeri and Scapens (2001) report the same in their one company case study and Campbell et al. (2002) report on the benefits the company achieved to their measurement and management systems as a result of adopting the BSC. Unfortunately, there are not, as yet, any studies that link

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adoption and development of the BSC to increased profitability. This is not too surprising, as such things are difficult to show (we cannot know how the company would have performed had it not adopted the BSC, for example), and also present a problem with regard to when we measure success/failure. Should we, for example, wait until the company has adopted the BSC for two years/three years/ten years? Therefore, the lack of published study in this area does not mean that the BSC is unsuccessful; indeed, as previously indicated, research appears to be telling us that companies are using it increasingly as a performance management system.

10.3.3 Criticisms of the BSC

Several commentators have been critical of the BSC, both in its theoretical and practical application. Olson and Slater (2002) for example, indicate that the four component parts of the BSC cannot work for all companies as companies differ in strategy, environment, size, degree of technology, etc. In so doing, they are highlighting that contingency theory holds to be true.

Contingency theory is one of the main theories that permeates management accounting research and its basic premise is that an entity’s management accounting and control system will be determined by a number of variables (those mentioned above and others). If you want to read further on this, have a look at Chenhall’s 2003 paper, which gives a concise review of the literature in the area of contingency theory. Olson and Slater’s point is that, given the existence of contingency theory, we would not expect every company to have these four component parts weighted to the same extent. It is illogical to conceive that this would be the case.

Another major critic of the BSC has been Hanne Norreklit. She has published two papers in this area in 2001 and 2003. Whereas the 2003 paper is very interesting, the 2001 paper is essential reading. In this paper she highlights the problems with the assumptions underlying the supposed success of the BSC and illustrates this point with the example of whether we can assume that loyal customers (and increased loyalty of customers) equates to increased profits. This is the kind of ‘cause-and-effect’ relationship which is crucial to the success of the BSC. Norreklit argues that we cannot assume this to be the case, as we are making the assumption that the customers themselves are profitable. Likewise, we cannot assume that increased efficiency will naturally equate to increased financial performance as our efficiency levels may not be near those that the market requires. She attacks the very basis of the BSC’s assumptions by arguing that Kaplan and Norton use arguments based on causality when they should be using arguments based on verifiable logic. As an example, she argues that claims such as ‘loyal customers = increased profits’ must be shown by logical deduction to be the case. They are not, and Norreklit concludes that all we can really say in this area is that disloyal customers are unlikely to lead to increased profits.

Others have been critical of the BSC on the basis of its practical application. Malina and Selto (2001) highlight how it leads to entities having too many things to measure and losing focus about the important metrics in the company. Van Veen-Dirks and Wijn (2002) highlight how the BSC does not explicitly track changes in the external environment and indicate that, by the time the company has implemented the BSC, they are probably measuring and managing the wrong things as they will have lost focus on the overall strategic environment.

10.4 Stern Stewart’s Economic Value Added (EVA)TM

The area of shareholder value has been an increasingly written-about, talked-about and researched area over the last decade or so. At core, this idea (some might say philosophy) involves measuring a company’s profitability based on economic profit rather than account- ing profit. Several different management consulting companies offer their own variations on the basic economic profit measurement (e.g. Boston Consulting Group’s Cash Value Added, Marakon’s Equity Spread, Holt Value’s Cash Flow Return on Investment) but the most widely

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discussed is probably Stern Stewart’s Economic Value Added (EVA)TM, a performance man- agement philosophy that the New York consulting agency has trademarked. Their client list is distinguished and is headed by many blue chip companies and several global leaders in their field, including Coca-Cola, CSFB, Morgan Stanley, Diageo, US Postal Service, Equifax, JC Penney and Quaker Oats. Their calculation of EVA is straightforward (Stewart, 1999):

EVA = Net Operating Profit After Tax (NOPAT) − Weighted Average Cost of Capital [WACC] × ({adjusted}capital base)

Stewart (1999) believes that the calculation of EVA puts the idea of NPV at the forefront of a company’s financial management system. The principal benefit of this is that the company’s performance is judged against whether it returns in excess of its cost of capital.

It is easy to see how this might work on a calculation basis though less straightforward to imagine this as an overall guiding company philosophy. However, Stewart offers some practical examples about successful EVA practices within companies, including charging the cost of capital against every sale that the company makes, charging the cost of capital to excess stock (which may have been bought on a false economy bulk-purchase, reduced price) and ensuring that managers realise that the purchase of things such as new delivery vehicles must make a positive economic return against the amount they add to the balance sheet.

10.4.1 Adjustments

Significantly, Stewart suggests that changes should be made to the way the income statement and balance sheet are constructed. Ehrbar (1998) indicates that over 160 potential adjustments could be made to US Generally Accepted Accounting Principles (GAAP) to produce accounts that give a more accurate reflection of the capital used by the entity. Stewart (1999) recom- mends, for example, that all research and development be capitalised rather than expensed since it is to be expected by the shareholder that the company earn a return on it. He also suggests that all goodwill be capitalised. Ehrbar develops this further in that he suggests that aspects such as reorganisation costs be capitalised, asking what the point of reorganisation is if not to increase shareholder value. Clearly, the capital used in the company would be considerably higher after Stern Stewart’s adjustments than it was beforehand. This ensures that the EVA figure is achieved against a higher hurdle that would otherwise be the case.

Stern Stewart believe this to be one of the strengths of EVA as it starts to address the accounting conservatism at the basis of GAAP which they believe to be ‘particularly ill-suited to the business environment that is likely to prevail in the coming decades’ (Ehrbar, 1998, p.163). Most companies require no more than 15 adjustments in practice, according to Ehrbar (1998), which keeps the formula for calculation simple and once established it should be ‘virtually immutable, serving as a sort of constitutional definition of performance’ (p. 166). Other research, as we will discover later, indicates that many companies make no adjustments at all.

10.4.2 Bonus Bank

One of the other main features of Stern Stewart’s system is their adherence to what they term ‘the bonus bank’. Ehrbar (1998, p.105) believes that it ‘solidly aligns management goals with the creation of shareholder wealth . . . the use of a bonus bank, with a proportion of exceptional bonuses held hostage and subject to loss if performance subsequently falls, causes managers to focus on projects that create enduring value’. Stewart (1999) also believes that the addition of a bonus bank will ensure that managers and directors do not take decisions that reward single-period success but are detrimental to the long-term success of the company. He argues that it is relatively easy to improve single period performance at the expense of the longer term by not investing in new capital projects or cutting labour. It is, therefore, necessary for the owners of the firm to ensure that any success that is achieved is sustainable and Stewart’s

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proposal to prevent sub-optimal decisions is to pay out 50% of the bonus bank on a yearly basis.

This is Stern Stewart’s attempt to solve what has been termed ‘the agency problem’ (Jensen and Meckling, 1976). The gist of this problem is how we can try to ensure that those who run and administer the business (the management) act in the best interests of the owners (the shareholders) and not in their own self-interest. Whether Stern Stewart begin to solve this through the introduction of the bonus bank is a matter for personal conjecture. Most independent research highlights that companies do not often use this ‘bank’ system even though most are content to bonus their staff on the achievement (or otherwise) of an EVA figure. The system is something that sounds like an excellent theoretical development but which we would perhaps be less likely to embrace on a personal level − would you willingly accept that you were going to receive only 50% of the bonus you had worked for in a given period?

10.4.3 What Does the Research Say?

EVA is beneficial

There has been quite a bit of support for Stern Stewart’s views in basic texts, and such texts tend to make claims about the success of the movement which are, if not biased, certainly unsupported. Black et al. (1998), for example, explain that economists have discovered no relation, over time, between earnings and stock market performance. This claim is not supported by any citation, nor is supporting evidence supplied for a positive relationship between shareholder value metrics and stock market performance. Morin and Jarrell (2001) state that EVA companies consistently earn above average returns on the cost of capital. Somehow, EVA is the crucial factor here which can lift companies to such a level of achievement. Although this is never made explicit, the insinuation is clear − and much like Norreklit’s (2003) criticism of the BSC literature, the reader is left to make connections that are causal, and require evidence, rather than logical.

Black et al. (1998) also make the same unquestioning case for EVA as a panacea. They suggest that it is a philosophy which should permeate every level in the company and which will align strategies, policies, performance measures, rewards, organisational structure, processes and systems. Stern and Shiely (2001), a Stern Stewart publication, provide similar unsubstantiated claims for EVA being unquestionably the best management system available. However, perhaps in recognition of previous criticism, they recognise that EVA adoption in itself will not tell a company what its strategy should be and advise that it may be of more benefit to companies that have undergone a major crisis than to others.

EVA as a management control system

EVA is a relatively recent concept and it should be no surprise that literature on its use as a control system is limited. As with the BSC, there is a time consideration initially − how long does a researcher wait after the implementation of a control system before it can be investigated?

Published studies thus far have tended to focus on either an analysis of the prescriptive parts of the EVA theory and consider them in the light of other theories, or on company case study analysis, which tends to give conflicting results.

O’Hanlon and Peasnell (1998) are very much of the former aspect and propose the view that EVA is a management accounting control system. They argue that the adjustments made to GAAP are on a company specific rather than on a specified-standard basis and are hence enterprise-contingent by design. This view is developed by placing the system which EVA, through its adjustments, becomes somewhere in the middle of cash accounting and economic value accounting. It is not the intention of Stern Stewart, they argue, to place their system within the framework of either of these extremes of theory and hence EVA permits the

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company to make the decision that is most relevant to its needs. Their overall attitude to EVA is positive, and they believe that it ‘combines ideas from finance and accounting to provide a framework within which managers will run the business as though they owned it’ (p.441). Theoretically, it is an amalgam of ideas which, significantly, may aid businesses in solving the problems inherent within the agency relationship.

Adoption and Implementation

Malmi and Ikaheimo (2003) consider the practical use of EVA to adopters, and focus on six Finnish companies in their study. Their results are inconclusive − indeed, the main conclusion is that ‘adoption of EVA does not seem to be manifested similarly in all organisations’ (p.248). Some companies that claimed to adopt EVA did not use it for target setting, some did; some used it as part of the bonus structure and some did not; some had integrated it fully within the company and some had not. This is consistent with other studies conducted on a case study basis. Brown et al. (2001) find that one company used the bonus bank as suggested by Stern Stewart, whereas another used EVA as a bonus measure for directors only and then as only one small component. The extent of integration within this study is similarly inconsistent. One company claimed that even the receptionist would understand what EVA was, whereas another introduced EVA as a measure at a regional level without telling managers what it was or how it was calculated.

Nor do we find similar reasons for the adoption of EVA. Brown (2006) reports that adoption is due to external pressure from market analysts and a decision tends to be taken by the CEO alone. Claes (2000) reports that the three firms studied each had a different reason for adoption − one to orient itself more closely with an internal measure for share price, one to gain a better understanding of the true costs of the products they sold and one on the advice of management consultants. McLaren (2000) reported that the main reason for implementation in New Zealand was down to the internally driven decision to align managerial and shareholder interests.

The aspect of integration within the entity, and the extent of it, has been a consideration of most, if not all, the case study research. Brown et al. (2001), Brown (2006) and Malmi and Ikaheimo (2003) all find that levels of integration differ. Claes (2000) and McLaren (2000) find similar results in their studies. Of the three Dutch companies consulted, Claes finds different levels of integration of EVA in all three and McLaren reports on different levels of integration from New Zealand companies, based on responses from questionnaires. Brown et al. (2001) find that one company that dropped EVA did so because, in the opinion of one of the interviewees, it was not sufficiently integrated to allow employees to both understand and ‘buy-in’ to it.

If there is one constant in the case study research, it emerges in the shape of the consideration given to the cost of capital. Brown et al. (2001) report on one company taking nine months and several board meetings to decide upon their exact cost of capital until the realisation dawned that it is the discipline of a cost of capital itself that is more important. Brown (2006) and McLaren (2000) report similar findings, in that the actual accuracy of the cost of capital is less significant than the new discipline in business practice that has been introduced through its consideration. All commentators report that the focus within companies on determining their cost of capital has increased dramatically, as has the assigning of specific costs of capital to specific countries, business units and projects. Young and O’Byrne (2001) report a similar finding in their one company case study in that the cost of capital was at the core of everyday thinking for each business unit. Christensen et al. (2000) predicted that this should be the case − managers can diversify risk considerably in certain operations and to such an extent have control over their cost of capital. A business unit specific cost of capital is therefore an appropriate way to run a company that has adopted an EVA perspective as it is likely to help align managerial and shareholder interests by focusing upon earnings above the cost of capital at the lowest organisational level.

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Other Measures Remain

The case study research in the area has also found that companies do not dispose of standard accounting measures of performance on the adoption of EVA, as Stewart (1999) suggests. Brown et al. (2001) find evidence of one company which has adopted EVA as its principal measurement yet still retains the others it previously had. Other commentators (McLaren, 2000; Claes, 2000; Malmi and Ikaheimo, 2003; Brown, 2006) find that EVA is adopted but in addition to, and usually of less significance than, standard accounting measures such as profit and return on investment.

Perhaps such conflicting results from field study research should come as no surprise. Firstly, the topic under discussion is new in its application and it is to be expected that pioneers find differing experiences. Perhaps more significantly, however, such divergence lends further credence to O’Hanlon and Peasnell’s (1998) view that the adoption and design of EVA is a contingent matter, based on company culture, structure, market position and strategic direction.

Lovata and Costigan (2002) adopt a contingency approach to their study in that they are trying to ascertain which type of company is most likely to use EVA and they hypothesise that defenders (according to the Miles and Snow typology) are more likely to use EVA than prospectors, and that firms with higher agency problems are more likely to use EVA due to its ability to help with the agency theory issue. Their results reflect their expectations. However, their information was taken from publicly available sources (Lexis/Nexis) and they defined an ‘EVA company’ as one which had the reward system detailed as being based on EVA, at least in part. It requires a leap of faith to make the assumption that EVA is, therefore, being used as part of, or as a complete, management control system.

Another interesting point raised by Lovata and Costigan’s study is the contention of the prime advocates of EVA (Stewart, 1999; Morin and Jarrell, 2001; McTaggart et al., 1994; Copeland et al., 1994; Black et al., 1998) that the techniques can be implemented in any and every company. Morin and Jarrell even assert that there is a strong connection between innovative companies and the adoption of shareholder value techniques such as EVA, since such companies constantly require to discover new ways of earning above average returns. While Lovata and Costigan’s study (2002) may have significant flaws, it at least shows that there is very limited evidence of innovators adopting these measures.

Malmi and Ikaheimo (2003) ask when researchers can be sure they are working with a company that is an EVA adopter, given that companies feel they can adopt certain aspects of it and leave others aside. Stewart (1999) would argue that EVA must be implemented fully and become the sole performance measure within the business entity. Yet no company studied in independent research (Malmi and Ikaheimo, 2003; Brown, 2006; Brown et al., 2001; McLaren, 1999; Claes, 2000) has undertaken this. EVA is seen as an additional technique, of varying significance. The implications of such findings cause Malmi and Ikaheimo to question the reliability of information from studies which do not take the case study approach and are instead functionalist in nature, as the information used in these latter studies will come only from publicly available databases. The phrase ‘EVA-adopter’ may be the basis upon which research is then undertaken but it is misleading, as there is little shared understanding on what this means in practice.

Martin and Petty (2000) had highlighted this previously, by referring to the contrasting exper- iences of Herman Miller and AT&T. The former company is cited by Stern Stewart in their relevant literature (Stewart, 1999; Stern and Shiely, 2001; Ehrbar, 1998) as being an example of the success EVA adoption can bring to a company, and Martin and Petty (2000) also offer evid- ence of increasing stock returns and exceptional employee bonuses. However, AT&T within Stern Stewart’s literature is conspicuous by its absence and Martin and Petty highlight AT&T’s botched implementation, poor development of EVA reward to managerial and directorial levels, lack of training for staff in the rudiments of the calculation and year-on-year increase in EVA with no resulting shareholder value increase as evidence that the way in which the

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technique is adopted and developed within the company is crucial to the success or otherwise of the system.

10.4.4 Criticisms of EVA

Otley (1999) considers the use of EVA as a management control system from a more theor- etical perspective, in that he commences his study with a framework to analyse the operation of management control systems around five main questions. These questions are those which he has specified, resulting from research of the relevant literature, as being prescriptive with regard to defining an effective management control system. He considers EVA in the light of these five issues and finds that it has an over-arching goal in its focus on economic return but that it is inconclusive and confusing in the area of calculation (p.373). He also concludes that EVA is deficient in that it makes no contribution to strategy development and calls for further research into the use of EVA, in practice, as a management control system.

Mouritsen (1998) has a similar criticism, in that he argues that EVA is not a tool that will help an entity to devise strategy − it is a static tool which takes no account of uncertainty or environment. The process of intellectual capital, on the contrary, has a mindset of organisational learning from experience and continual adaptation to the environment. Mouritsen draws the comparison of EVA representing financial capitalism and IC representing entrepreneurial capitalism. It is an argument of theories, and of the author’s belief that EVA does not represent the advance in strategic evaluation that Stern Stewart believes it does, nor is it a system which is capable of capturing the significance of crucial intangibles such as intellectual capital. Alvarez-Dardet et al. (2000) also consider the aspect of intellectual capital in their paper but find that, though there are many commentators on the subject, they cannot agree on a common framework within which to consider it as an asset. They do, however, agree with Mouritsen in that there is no attempt within the EVA system to harness the value-creating capacity that intellectual capital has, nor is there any attempt within it to consider the measurement of any intangibles. This is primarily due, according to the authors, to the financial and ‘measurable’ bias that exists within it and the other value-based performance measures.

10.5 Summary

EVA and the BSC have been two of the main developments in performance management over the last decade of so. It is up to the individual observer to come to a conclusion on the similarities/differences between them, but it is clear that EVA is a purely financial measure whereas the BSC includes many non-financial elements and, indeed, seeks to develop non- financial measures. It is also worth asking whether the two methods can exist within the same company. In theory, this would be impossible as EVA demands that one predominant measure is considered and that any other measures introduced should be a direct compliment to EVA. The BSC, on the other hand, demands a ‘flatter’ approach to performance management in that the four components should be stressed to an equal extent. Yet companies do use them together in practice which serves as a useful reminder to us that what is conceived in theory, and the practical application of it, rarely follow a consistent path.

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