PERFORMANCE EVALUATION OF BUSINESS UNITS 205
Recurring, complex and uncertain exchanges that involve substantial invest-
ment may be more efficiently undertaken when internal organization replaces
market transactions. The efficiency of a transaction that takes place within the
organization depends on how the behaviour of managers is governed or con-
strained, how economic activities are subdivided and how the management
accounting system is structured.
However, decision-makers may themselves indulge in opportunistic behaviour
that causes the benefits of internal transactions to be reduced. Therefore, the man-
agement accounting system can be used to ensure that these internal transactions
are conducted efficiently.
Rather than reflecting a concern with utility maximization (the assumption of
agency theory), the transaction cost framework is more concerned with bounded
rationality. While an agency perspective ignores the power of owners and also
that of employees, who can withdraw their labour, transaction cost theory gives
recognition to power in the hierarchy that is used to co-ordinate production.
Conclusion: a critical perspective............................
In this chapter we have described the divisionalized organization and how
divisional performance can be evaluated. We have discussed the controllability
principle and the transfer pricing problem.
The divisional form is a preferred organizational structure because it allows
devolved responsibility while linking performance to organizational goals through
measures such as ROI and RI that are meaningful at different organizational
levels, particularly when these support shareholder value methods such as the
link between RI and EVA.
However, research by Merchant (1987) concluded that the controllability prin-
ciple was not found in practice and that managers should be evaluated ‘using all
information that gives insight into their action choices’.
Managers are often critical that the corporate head office fails to distinguish
adequately between controllable and non-controllable overhead. The point has
already been made in Chapter 2 that determining a risk-adjusted cost of capital
can be a subjective exercise.
Relationships between business units frequently cause friction, particularly
in some organizations where the number of business units has been increased
to a level that is difficult to manage. Transaction cost economics, a rational
markets/hierarchies approach like agency theory described in Chapter 6, provides
a useful though limited perspective. For example, Child (1972) concluded:
When incorporating strategic choice in a theory of organization, one is rec-
ognizing the operation of an essentially political process in which constraints
and opportunities are functions of the power exercised by decision-makers
in the light of ideological values. (p. 16)The political process inherent in transfer pricing between divisions is also
evidenced in many multinational corporations, where transfer pricing is more