December 2008 Accounting 35 / 45

14 - Accounting for Divisions

14.1 Introduction 14/1

External versus internal sourcing of products

14.2 Why Divisionalise? 14/2

Organic versus inorganic growth
Organic
- Slower, less risk
Inorganic (acquisition)
- Quick growth, enables launch into new areas
- Financed with cash, loans or stock issue

Not mutually exclusive.

Advantages
- Specialisation
- Size
o Magnitude of problems confronting central management
o Detailed knowledge of local problem
- Motivation
o Remote management in headquarters reduces ownership and commitment
- Sharper decisions
o See problems and detect potential trouble quicker
- Career mobility
o Divisions provide testing ground for managerial talent
o Success at one level basis for more challenging appointments
o Multi-level managerial talent
Disadvantages
- Lack of control
o Need to maintain control over major decisions
o Encourage local management to run routine operations
- Cost
o Support services duplicate central services
- Internal rivalries
o Transfer pricing
o Relative performance ratings
Discourage sharing market intelligence

14.3 Types of Divisions 14/4

Size, nature and level of managerial autonomy will vary
Four groupings
- Cost centre
o No generation of revenues
o University department, research lab,
- Revenue centre
o Generate funds without reference to underlying costs
o Airline seat reservations, sales division
- Profit centre
o Costs and revenues are matched
- Investment centre
o Profit is measured taking into account net assets
o Corporate must typically approve proposals over threshold
o Note: term Net assets rather than balance sheet because division does not issue equity

14.4 Defining Profits and Investments 14/6

Distinction between owned/controllable costs/profit and non-controllable costs which are unilaterally imposed by corporate
without direct benefit on division

Typically assets physically within division are considered to be controlled by division but:
- Productive or research capacity may be loaned to another division
o E.g. assembly plant may dedicate machine to another product division
- Divisions may retain surplus for future use of another division
o E.g. real estate