Control ratios are ratios used by management to compare actual performance with expected performance. These ratios help the management in identifying any drop in productivity and allow them to take timely corrective measures.
These ratios can be favorable indicating better performance than expectations. Similarly, these ratios can be adverse indicating that actual performance was below the expectations. Adverse ratios will demand the managers to dig down and find the root cause of adverse performance and take remedial actions on timely basis.
Types of control ratios
- Activity ratio (also known as “Production/Volume ratio”)
- Efficiency ratio
- Capacity ratio
Before going into the detail of control ratios, you should be aware of the following terms, as these terms are used in the formulas of control ratios.
Total budgeted time refers to the total expected time required to make total expected output.
Budgeted time = Budgeted time or standard time per unit x Budgeted output.
Total standard time refers to the total expected time required to make total actual output.
Standard time = Budgeted time or standard time per unit x Actual output.
Note: There is often a confusion that budgeted time and standard time are two names for the same thing. But that’s not exactly the case! Standard time refers to expected time required to make a particular product. This is used in making budgets and therefore:
- In per unit terms, standard time per unit and budgeted time per unit are same. HOWEVER
- In total terms, standard time and budgeted time are not the same thing. Total budgeted time is the expected time required to make budget output. Whereas, total standard time is the expected time required to make actual output.
Total actual time refers to the total time taken to make total actual output.
Now, let’s look at the types of control ratios in detail.
Activity ratio can be viewed an executive’s ratio, as it provides an overall view of the productivity level of the staff. It compares actual output with the budgeted output, but in terms of time.
If this ratio is more than 100%, it is considered favorable, as actual output is more than the expectation. However, an activity ratio of less than 100% is considered adverse, as actual output is less than the expectation. Productivity level of staff can be looked at in further detail with the help of efficiency and capacity ratios to find out areas that need improvement.
Efficiency ratio measures the efficiency of labour. It compares the standard time expected to do the work with actual time taken to do that work.
Labour is efficient if it is doing the job in less than the expected time. For example, if you are expected to make 2 sculptures in 8 hours, and you make 2 sculptures in 7 hours, it means you are efficient as you did the job in less than the anticipated time. Similarly, labour is inefficient if it is doing the job in more than the anticipated time.
If this ratio is more than 100%, it is considered favorable, as the labour is efficient i.e., actual time spent to do the job is less than the expected time. Similarly, the efficiency ratio of less than 100% is considered adverse as the labour is inefficient, i.e., actual time spent to do the job is more than the expected time.
Capacity ratio measures the utilization of labour. It compares the actual time worked by the labour and budgeted (expected) labour hours.
The capacity ratio of more than 100% is considered favorable as the labour has worked more than its capacity. Similarly, if this ratio is less than 100%, it is considered adverse, as the labour capacity is not fully utilized.
Here is a simple example that will hopefully cement the concepts of control ratios in your mind.
Umer is a student of mathematics. His teacher has given him 10 questions for home work. Teacher believes that a student should take 1 hour to solve each question i.e., standard/budgeted time per question.
Umer managed to do only 9 questions and each question took 1.5 hours. From this data, we can say that:
- Total budgeted time = 1 hour x 10 questions = 10 hours
- Standard time for actual output = 1 hour x 9 questions = 9 hours
- Total actual time worked = 1.5 hours x 9 questions = 13.5 hours
Required: Calculate the control ratios to evaluate the performance of Umer.