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1 First Edition : May 2018 Published By : Directorate of Studies The Institute of Cost Accountants of India CMA Bhawan, 12, Sudder Street, Kolkata 700 016 Copyright of these study notes is reserved by the Institute of Cost Accountants of India and prior permission from the Institute is necessary for reproduction of the whole or any part thereof. Work Book Directorate of Studies, The Institute of Cost Accountants of India (Statutory Body under an Act of Parliament) STRATEGIC PERFORMANCE MANAGEMENT AND BUSINESS VALUATION FINAL GROUP IV PAPER 20 INDEX Sl. No. Section A : Strategic Performance Management Page No. 1 Conceptual Framework of Performance Management 1 14 2 Performance Evaluation & Improvement Tools 15 35 3 Economic Efficiency of the Firm Performance Analysis 36 45 4 Enterprise Risk Management 46 - 57 Section B : Business Valuation 5 Business Valuation Basics 58 77 6 Valuation Models 78 106 7 Valuation of Assets and Liabilities 107 - 150 8 Valuation in Mergers and Acquisitions 151 175 Work Book : Strategic Performance Management & Business Valuation Directorate of Studies, The Institute of Cost Accountants of India (Statutory Body under an Act of Parliament) Page 1 Study Note 1 Conceptual Framework of Performance Management Section A 1.

2 Explain the concept of Performance Management . Answer: Performance management is a continuous process of identifying, measuring and developing the performance of the human resources in organisations by linking each individual s performance and objectives to the organization s overall mission and goals. The definition has two key elements: (a) Continuous process: Performance management is ongoing. It involves a never-ending process of setting goals and objectives, observing performance, and giving and receiving ongoing coaching and feedback. (b) Link to mission and goals: Performance management requires managers to ensure that employees activities and outputs are congruent with the organisation s goals and, consequently, help the organisation gain a competitive business advantage. It is the process of identifying, measuring, managing and developing the performance of the human resources in an organisation.

3 Performance management focuses mainly on the achievement of results. It differentiates the aspects, such as being engaged and producing results- which means, being busy should not necessarily be indicating that the results are being produced. 2. Distinguish between Performance Management and Performance Appraisal . Answer: The points of differences between Performance Management and Performance Appraisal are listed below: Performance Management Performance Appraisal 1 It is a comprehensive approach. It is a narrow and limited approach. 2 It is a flexible process. It is a monolithic system. 3 It is usually not directly linked to pay. It is often linked to pay. 4 Here, documentation is kept to a minimum. It involves complex paperwork. 5 It is owned by line managers. It is owned by the HR department. 6. It focuses on values, behaviours and objectives. It focuses on quantified objectives. 7. Here, the use of rating is less common. Here, rating is frequently used.

4 8. It focuses on the present and on the future. Its focus is on the past. 9. It is a strategic tool. It is an operational tool. 10. The approach is holistic. The approach is individualistic. 11. It is a process. It is a system. Work Book : Strategic Performance Management & Business Valuation Directorate of Studies, The Institute of Cost Accountants of India (Statutory Body under an Act of Parliament) Page 2 3. List the components of Performance Management. Answer: The key components of Performance Management are stated below: (i) Performance Planning: Performance planning is the first crucial component of any performance management process. It forms the basis of performance appraisals. Performance planning is jointly done by the appraiser and the reviewer at the beginning of a performance session. During this period, the employees decide upon the targets and the key performance areas which can be performed over a year within the performance budget, which is finalized after a mutual agreement between the reporting officer and the employee.

5 Organizations using Balance Score Card (BSC), drill Key Performance Indicators (KPIs) down the hierarchy so that each employee is responsible for definite results (called Key Result Areas or KRAs). (ii) Performance Appraisal and Reviewing: The appraisals are normally performed twice in a year in an organization in the form of mid reviews and annual reviews which is held at the end of the financial year. In this process, the appraise first offers the self-filled up ratings in the self-appraisal form and also describes his/her achievements over a period of time in quantifiable terms. After the self-appraisal, the final ratings are provided by the appraiser for the quantifiable and measurable achievements of the employee being appraised. The entire process of review seeks an active participation of both the employee and the appraiser for analyzing the causes of loopholes in the performance and how it can be overcome. (iii) Feedback on the Performance followed by personal counselling and performance facilitation: Feedback and counselling are given a lot of importance in the performance management process.

6 This is the stage in which the employee acquires awareness from the appraiser about the areas of improvements and also information on whether the employee is contributing the expected levels of performance or not. The employee receives an open and a very transparent feedback and along with this the training and development needs of the employee is also identified. The appraiser adopts all the possible steps to ensure that the employee meets the expected outcomes for an organization through effective personal counselling and guidance, mentoring and representing the employee in training programs which develop the competencies and improve the overall productivity. (iv) Rewarding good performance: This is a very vital component as it will determine the work motivation of an employee. During this stage, an employee is publicly recognized for good performance and is rewarded. This stage is very sensitive for an employee as this may have a direct influence on the self-esteem and achievement orientation.

7 Any contributions duly recognized by an organization helps an employee in coping up with the failures successfully and satisfies the need for affection. (v) Performance Improvement Plans: In this stage, a fresh set of goals are established for an employee and new deadline is provided for accomplishing those objectives. The employee is clearly communicated about the areas in which the employee is expected to improve and a stipulated deadline is also assigned within which the employee must show this improvement. This plan is jointly developed by the appraisee and the appraiser and is mutually approved. (vi) Potential Appraisal: Potential appraisal forms a basis for both lateral and vertical movement of employees. By implementing competency mapping and various assessment techniques, potential appraisal is performed. The potential appraisal provides crucial inputs for succession planning and job rotation.

8 Work Book : Strategic Performance Management & Business Valuation Directorate of Studies, The Institute of Cost Accountants of India (Statutory Body under an Act of Parliament) Page 3 4. Explain the concept of Productivity . Answer: At a basic level, productivity examines the relationship between input and output in a given production process. Thus, productivity is expressed in an output versus input formula for measuring production activities. It does not merely define the volume of output, but output obtained in relation to the resources employed. In this context, the productivity of the firm can be defined as a ratio as shown in the following equation: Productivity = Output(s) / Input(s) Productivity can be increased/improved in the following ways: (i) By producing more outputs with the same amount of inputs (increasing numerator of the equation keeping the denominator constant) (ii) By using fewer inputs for the same amount of outputs (decreasing denominator of the equation keeping the numerator constant) The highest productivity (efficient point) is achieved when maximum output is obtained for a particular input level.

9 Increasing efficiency definitely raises productivity. Consequently, if the productivity growth of an organization is higher than that of its competitors, or other firms, that firm performs better and is considered to be more efficient. 5. Explain the concept of Efficiency . Answer: Efficiency reflects the ability of a firm to obtain maximum output from a given set of inputs. If a firm is obtaining maximum output from a set of inputs, it is said to be an efficient firm. It is a measurable concept. It minimises the waste of resources like physical materials, energy and time while accomplishing the required output. Efficiency consists of two main components; technical efficiency and allocative efficiency. Generally, the term efficiency refers to technical efficiency. Technical efficiency occurs if a firm obtains maximum output from a set of inputs. Allocative efficiency occurs when a firm chooses the optimal combination of inputs, given the level of prices and the production technology.

10 When a firm fails to choose the optimal combination of inputs at a given level of prices, it is said to be allocatively inefficient, though, it may be technically efficient. Technical efficiency and allocative efficiency combine to provide overall efficiency. When a firm achieves maximum output from a particular input level, with utilization of inputs at least cost, it is considered to be an overall efficient firm. When considering efficiency analysis in financial institutions, Berger and Humphrey stress that it is important to determine their efficiency because they are in a competitive environment and their strength is vital for solvency. Further, efficiency analysis not only has important ramifications for institutions themselves, as evident in their competitiveness and solvency, it is also important for other interested parties, such as regulatory authorities and the general public. Work Book : Strategic Performance Management & Business Valuation Directorate of Studies, The Institute of Cost Accountants of India (Statutory Body under an Act of Parliament) Page 4 6.