CHAPTER 14 MANAGEMENT CONTROL AND STRATEGIC PERFORMANCE MEASUREMENT;

STRATEGIC INVESTMENT UNITS AND TRANSFER PRICING

Exercise 5 (Evaluation of a Cost SBU)

The supervisor of Department 10 purchases supplies, authorizes repairs and maintenance
service, and hires labor for the department. Various costs for the month of July, 20X3, are given
below:

Sales salaries and commission ₱ 9,850.00

Salary, supervisor of Department 10 1,800.00
Factory heat and light 650.00
General office salaries 14,200.00
Depreciation, factory 750.00
Supplies, Department 10 1,430.00
Repairs and maintenance 820.00
Factory insurance 460.00
Labor cost, Department 10 17,220.00
Salary of factory superintendent 2,400.00
Total ₱ 49,850.00

Required 1. List the costs that can be controlled by the supervisor of Dept. 10.
a. Supplies, Department 10 ₱ 9,850.00
b. Repairs and Maintenance 820.00
c. Labor Cost, Department 10 17,220.00

Required 2. List the costs that can be directly identified with Department 10.
a. Salary, supervisor of Department 10 ₱1,800.00
b. Supplies, Department 10 1,430.00
c. Repairs and Maintenance 820.00
d. Labor Cost, Department 10 17,220.00

Required 3. List the costs that will have to be allocated to the factory departments.
a. Factory heat and light ₱ 650.00
b. Deprecation, factory 750.00
c. Factory Insurance 460.00
d. Salary of Factory Superintendent 2,400.00

Required 4. List the costs that do not pertain to factory operations.

a. Sales Salaries and Commission ₱ 9,850.00
b. General Office Salaries 14,200.00
Exercise 6 (Evaluating New Investments Using Return on Investmetnt (ROI) and Residual Income)

Selected sales and operating data for three divisions of three different companies are given below:

Division A Division B Division C

Sales ₱ 6,000,000.00 ₱ 10,000,000.00 ₱ 8,000,000.00
Average Operating Assets 1,500,000.00 5,000,000.00 2,000,000.00
Net Operating Income 300,000.00 900,000.00 180,000.00
Minimum Required Rate of Return 15% 18% 12%

Required 1. Compute the return on investment (ROI) for each division, using the formula stated in terms of margin and turnover.

ROI = Operating Profit Margin x Asset Turnover (Return on Sales)

Operating Profit Margin = Net Operating Income/Sales x 100

Asset Turnover (Return on Sales) = Sales/Average Operating Asset

Division A:
₱ 300,000.00 ₱ 6,000,000.00
ROI = X
₱ 6,000,000.00 ₱ 1,500,000.00

ROI = 5% x 4
ROI = 20%

Division B:
₱ 900,000.00 ₱ 10,000,000.00
ROI = X
₱ 10,000,000.00 ₱ 5,000,000.00

ROI = 9% x 2
ROI = 18%

Division C:
₱ 180,000.00 ₱ 8,000,000.00
ROI = X
₱ 8,000,000.00 ₱ 2,000,000.00

ROI = 2.25% x 4
ROI = 9%

Required 2. Compute the residual income for each division.

Division A Division B Division C

Operating Income ₱ 300,000.00 ₱ 900,000.00 ₱ 180,000.00
Less: Minimum required return
Division A (15% x ₱1,500,000) 225,000.00
Division B (18% x ₱5,000,000) 900,000.00
Division C (12% x ₱2,000,000) 240,000.00
Residual Income (Loss) ₱ 75,000.00 ₱ - ₱ (60,000.00)

Required 3. Assume that each division is presented with an investment opportunity that would yield a rate of return of 17%.

a. If performance is being measured by ROI, which division or divisions will probably accept the opportunity? Reject? Why?
If performance is being measured by ROI, only Division C would probably accept the 17% investment opportunity because it would
increase the overall rate of return of Division C. On the other hand, both Division A and Division B would probably reject the investment
opportunity, since they are earning a return greater than 17%.

Division A Division B Division C

ROI 20% 18% 9%
Reject Reject Accept

b. If performance is being measured by residual income, which division or divisions will probably accept the opportunity? Reject? Why?
If performance is being measured by residual income, both Division A and Division C would probably accept the investment opportunity
because the rate of return of 17% is greater than their required rates of return of 15% and 12%, respectively. However, Division B would
probably reject the investment opportunity because the rate of return of 17% on the new investment is less than the required rate of return
of Division B, which is 18%.

Division A Division B Division C

Minimum Required Rate of Return for 15% 18% 12%
Computing Residual Income
Accept Reject Accept