The relationship between management control systems and sustainable development: a literature review

Abstract

In recent years, researchers’ interest in sustainability has expanded to explore management control systems for sustainable development. This paper contributes to the emerging area of interest on understanding the roles management control systems play by presenting a review of the literature that specifically focuses on the relationship between management control systems and sustainable development. The purpose of this paper is to review research that seeks to explore our understanding of how management control systems are designed and used by companies to manage sustainable development. Even if a growing body of empirical research has emerged over the last years, our knowledge of how firms design or use management control sytems to support sustainability appears to be limited.

Keywords: controlling, management control systems, sustainability

1. Introduction

The increased importance of sustainability in society in recent years has resulted in increased pressure on companies to be responsible, transparent and accountable for their actions and activities (DiPiazza and Eccles, 2002; Kleindorfer et al. 2005). This increased pressure was formalised by the passing of new sustainability laws and legislations in the EU that force large companies operating in the EU to start reporting on their sustainability work starting with the fiscal year 2017 (European Commission, 2016).

Companies with efficient management control systems can effectively adjust themselves to current and future situations and circumstances (Lentner et. al. 2019a). Such companies can critically develop and improve their operations, practices and activities. They can fulfil customer needs and market requirements; obtain competitive competencies, capabilities and potentialities; and markedly increase their financial and non-financial performance. As a reaction to more competitive and uncertain market environments, management control systems can be a strategic valuable management accounting approach and method to enhance companies ability to renew their organisational operations, develop their management activities, increase their business excellence, and achieve long-term sustainability (Durendez et al., 2016; Lentner et al, 2019b).

The paper aims to investigate the relationship between sustainability devolopment and mangement control systems, therefore the section briefly illustrates two streams of literature, the first focused sustainability development and management control systems and then focused on the relationship between sustainable development and management control systems. This paper aimed to address the following research question:

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What role do management control systems play for sustainability development?

2. Literature Review

2.1. Sustainable Development

Sustainability is described in a number of ways in the accounting literature. Dyllick and Hockerts, who defined sustainability as “meeting the needs of a firm’s direct and indirect stakeholders without compromising its ability to meet the needs of future stakeholders as well”; to achieve this goal, companies need “to maintain their economic, social and environmental capital base” An often quoted definition of sustainability, or more precisely sustainable development (SD), is from what is commonly known as the Brundtland report as “… meeting the needs of the present without compromising the ability of future generations to meet their own needs”  (World Commission on Environment and Development, 1987, p8). It asks for a long-term and respectful handling of human and ecological resources in three respects, the environment, society and business, while simultaneously providing competitive outcomes in the short-term (Artiach et al., 2010; Quick and Knocinski, 2006, Zeman and Lentner, 2018). This definition is also supported by Porter and Kramer (2011) who emphasize the importance of sustainable development as companies are too focused on their short-term financial success and consequently ignore the effects it has on their future in regards to both financial, environmental and societal aspects. Sustainability is the act of doing well financially while still doing good for the environment and society, implying that the financial aspect should not be the only aspect considered when making business decisions. The environmental aspect mainly concerns the climate, ecosystem and biodiversity (Shaiqiri, 2020), while the societal aspect deals with corruption, human rights, justice and various health factors. The financial aspects on the other hand deals with ensuring that the financial development does not occur at the expense of any of the other two aspects (Vos, 2007).

Sustainable development has always meant a competitive advantage for business organisations; still, the first more radical change occurred only from the 1970’s (Oláh et al., 2020, Lentner, 2007, Sokil et al., 2018). The next turning point was meant by the environmental world conference of the United Nations, held in 1992 in Rio de Janeiro, where a different light was put on these issues. Consequently, sustainability as a principle has put economic growth in front of such problems to be solved which should take into account the environmental values and their protection (Vasa and Magda, 2014; Zéman et al., 2018).

2.2. Management Control Systems

Within literature, several definitions of controlling can be found. Internationaler Controller Verein and the International Group of Controlling define controlling as a decision support management activity what helps decision maker with planning-calculation and control-subsystems. (Internationaler Controller Verein -International Group of Controlling, 2012.) Controlling is a decision support activity, reporting and control tool as well. It seek the optimal resource allocation of the company. As basis philosophy of controlling is to lead the company to successful operation and only such business will be efficient, where the management proactively selects the path to follow (Szóka, K., & Kovács, B., 2019). Lachnit (1992) assigns controlling to a business service function aimed at assisting management in the goal-oriented management of a business on a conceptual, instrumental and informational basis. Already the definitions show that the role and understanding of controlling differ. Peemüller (1992) points out, that controlling is a system whose purpose is to provide management with the information necessary to plan, manage and control the business.

The concept of control in management literature has experienced the “serious shortcoming of having different meanings in different contexts” (Jerome, 1961: 4). Management control is the process by which managers assure that resources are obtained and used effectively and efficiently in the accomplishment of the organization’s objectives. Machin defined management control systems as management control which is the process by which managers assure that resources are obtained and used effectively and efficiently in the accomplishment of the organization’s objectives (Lowe & Machin, 1983).Controlling is a process, established pursuant to characteristics of firms  which is created with the aim to reveal the issues within the business and at the same time to find solutions together with its leaders, thereby increase the effectiveness of the company (Blumné, E., & Zéman, Z. B.,  2014). Traditionally, management control is mostly associated with formal, accounting-based controls (Anthony, 1965) which are easy to study (Langfield-Smith, 1997).

Management control has been defined as the process of steering organizations through the environments in which they operate in order to achieve both short-term and longerterm goals (Otley and Soin, 2014).While extensive academic literature has explored formal controls (such as cybernetic controls), their relationship with and the role of more informal controls such as unwritten policies, values and beliefs of the organizational culture have also gained increased attention in management control research (Chenhall & Langfield-Smith, 2003;Ferreira and Otley, 2009; Kober et al., 2007; Malmi and Brown,2008; Crutzen and Herzig, 2013; Khan et al., 2020).While the operation and performance of individual controls have been investigated by researchers in both of these areas, others have stressed the importance of broader conceptualizations of management control and the necessity to understand the integrative nature of these components (Berry et al., 2009; Malmi and Brown, 2008; Otley et al., 1995; Vasa & David, 2014). In their review of the literature on management control, Berry et al. (2009) describe an evolving and broadened agenda of management control which derives from developments in three areas, namely strategic performance measurement systems such as the balanced scorecard (Kaplan & Norton, 2001).

2.3. Management Control Systems for Sustainable Development

Sustainability is concerned with the intra- and inter-generational justice (Brundtland, 1987) and the balance of multiple that means economic, social and environmental performance and impact criteria (Elkington, 1997). In response to alternative paradigms to the financial profit maximisation and the attempt to blend the interests and needs of organisations with those of their stakeholders while protecting and enhancing the human and natural resources that will be needed in the future, we have experienced an emergence of new calculative practices. These can be viewed as either driving for example carbon trading markets (Bebbington & Larrinaga-Gonza´ lez, 2008).

The concept of sustainability is seen to have wide-ranging implications for management control and strategy. For example, previous research has elucidated its relationship with management control and the integration of multidisciplinary issues within decision-making (e.g. social cost-benefit analysis and non-market valuation techniques) and within education of accountants (Milne, 1996). Much attention has also been paid to the development of environmental/sustainability management accounting and control mechanisms including environmental budgeting, environmental/sustainability performance evaluation systems, eco-control or sustainability balanced scorecard. The roles and uses of control systems in the integration of sustainability within organisational strategy have also been accounted for in the framework developed by Gond et al. (2012). What this burgeoning body of literature management control has in common is that management control is expected to play a key role in shaping processes of sustainability strategy formulation and implementation, often attributed with a high capability to support decision-making. Overall, sustainability management control is viewed to provide support to organisations in consideringthe wider environmental and social impacts of their activities and in measuring and managing the interaction between business, society and environment (Bennett & James, 1998; Milne, 1996).

Sustainable development have been viewed to include extensive organisational learning and change (Maon, Lindgreen, & Swaen, 2009), and to require the support of appropriate mechanisms such as management accounting and control (Milne, 1996) Leug and Radlach (2016) argue that sustainable development cannot be enforced without both formal and informal controls. The management control systems framework of Malmi and Brown (2008) consists of five main parts, which include both formal and informal controls. These are cultural controls, planning, cybernetic controls, reward and compensation as well as administrative controls. Figure 1 below shows the complete management control systems framework of Malmi and Brown (2008).

Cultural controls are informal controls that help enclose and direct the other formal control systems (Rosanas and Velilla, 2005). According to Malmi and Brown (2008), there are three different aspects of company culture which can be used as a management control system. These aspects are values, symbols and clan based controls. Values are important since they influence and direct the actions, reasoning and prioritisation of employees (Schein, 1990). Symbol-based controls have to do with visible expressions that organizations create in order to put in place a certain culture. Example of these are workspace design or dress codes and they are put in place in order to convey a certain type of culture (Malmi & Brown, 2008).

Planning functions as a management control system by giving clear goals to employees when it comes to the board’s expectations on the company, various business units and on the employees, themselves. It is important to note that the planning process needs to include a strategy regarding how to motivate employees to commit to the plans so that they do not merely end up as a list of future activities that need to be performed  (Malmi and Brown, 2008) Meyer (1994) argues that planning increases the possibility of the employees assuming accountability, which tends to lead to improved results and increased likelihood of reaching organisational goals. This implies that goals provide meaningful directions for employees and that they also tend to strive to meet these expected goals, which is why all important aspects of the business should be planned (Holton et al. 2010).

Cybernetic controls refer to the use of feedback loops in the form of performance measurements and budgets to evaluate the performance of the business, plan and make changes to correct any deviations (Green and Welsh, 1988). The purpose of these measurements is to make employees accountable for the performance of the business (Roth, 2008) and help translate organisational strategy into action (Kaplan and Norton, 1996). Cybernetic controls contain four basic systems, each one having been discussed and written about in prior literature. These are: (i) budgets, (ii) financial measures, (iii) non-financial measures and (iv) hybrids which contain both financial and non-financial measurement systems. One of the more commonly used cybernetic tools is the budget. Budgeting is a forecast process that summarises and makes sense of the activities performed by the company (Otley, 1999). It is important to continuously align the performance measurements with the company strategy to ensure that all managers and employees are working towards goals and objectives that are up to date and aligned with the overall strategy. if a company has a strategy concerning sustainable development, this should also be visible in their used performance measurements.  (Bourne et al. 2000).

Rewards and compensation controls play a vital role in increasing employees’ performance and motivation (Malmi & Brown, 2008). This through creating goal congruence between their activities and the organization’s goals (Bonner & Sprinkle, 2002). To ensure goal congruence between the employees and the company the rewards need to be easy to understand and connected to larger overall goals of the company (Dutta and Lawson, 2009). This is particularly important for sustainable development as this creates accountability for the sustainability work (Ramus, 2002) and ensures that managers decision making is influenced by the sustainable development goals and not just financial goals (Merriman and Sen, 2012).

Administrative controls consist of governance structures, organization structures, policies and procedures. The study of Kocmanov, Hrebicek, and Docekalov (2011) suggests that corporate governance can give organizations the structure necessary to reach sustainability goals and objectives. Organisational structure refers to structures that encourage or discourage certain interactions in the workplace. This means that it is important for companies to have a structure that is beneficial for reaching their objectives and thus encourages the necessary employees to interact with each other (Malmi and Brown, 2008). According to Bebbington and Gray (2001) one of the key prerequisites for companies to work successfully with sustainability is clearly defining what sustainable development means for them, so that all employees know what it entails for the company. This is crucial as it helps create goal congruence and reduces the risk of employees making their own interpretations regarding what sustainable development is (Durden, 2008).

Conclusions

The increased focus on sustainability in society has resulted in new sustainability laws and legislation being passed as well as increasingly more companies starting to implement and work with sustainability issues. Sustainability is a complex subject and the issues each company face when working with sustainability tend to be unique, not just to the industry, but to the company itself.

Management control systems as a package consists of cultural, planning, cybernetic, reward and compensation and administrative controls and together form the backbone of a company’s control capabilities. The management control systems are important tools to influence employee behaviour, since employees behave and act in accordance with the system that is used to control and influence them.

Even if a growing body of empirical research has emerged over the last years, our knowledge of how companies design or use management control systems to support sustainability appears to be limited, providing considerable scope for further research. Previous studies demonstrates that research on the relationship between management control, strategy and sustainability is multidimensional in nature and that these constructs could be studied through the lenses of various disciplines.

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DOGUS BINEK
Doctoral School of Management and Business Administration, Szent István University