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ACCA APM > Chapter 9 - Divisional performance appraisal and transfer pricing > Flashcards

Chapter 9 - Divisional performance appraisal and transfer pricing Flashcards

1
Q

Describe the problem with divisional structures below.

Co-ordination

A

Difficult to co-ordinate all the functions to achieve overall goal.

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2
Q

Describe the problem with divisional structures below.

Goal congruence

A

There is a potential loss of control as managers will be motivated to improve their division potentially at the expense of the larger organisation

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3
Q

Describe the problem with divisional structures below.

Controllability

A

Divisional managers should only be held accountable for the factors that they can control. Its difficult to determine what is controllable.

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4
Q

Describe the problem with divisional structures below.

Inter-dependence of divisions

A

Performance of one division may depend on another making it difficult to measure performance levels.

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5
Q

Describe the problem with divisional structures below.

Head office costs

A

Whether or how the head office costs should be reapportioned.

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6
Q

Describe the problem with divisional structures below.

Transfer prices

A

How these prices should be set as they move profit from one division to another.

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7
Q

Describe a cost centre

A

Incurs costs but has no revenue stream.

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8
Q

Describe a Profit centre

A
  • Division has both costs and revenue.
  • Manager does not have the authority to make investment decisions.
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9
Q

Describe an investment centre

A
  • Division has both costs and revenue.
  • Manager does have the authority to invest in new assets or dispose of existing ones.
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10
Q

What are some performance measures we can use for cost centres?

A
  • costs, e.g. cost ratios and variances
  • relevant non-financial measures, for example based on productivity or efficiency
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11
Q

What are some performance measures we can use for profit centres?

A
  • costs, revenues and profit, e.g. profitability ratios and cost/sales variances
  • relevant non-financial measures, for example based on customer satisfaction
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12
Q

What are some performance measures we can use for investment centres?

A
  • return on investment (ROI)
  • residual income (RI)
  • economic value added (EVA)
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13
Q

What does ROI show?

A

The operating profit that is generated for every $1 of assets employed.

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14
Q

What is the formula for ROI?

A

Operating profit ÷ Capital employed x 100

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15
Q

What profit and capital employed figures should be used in ROI?

A

The controllable ones

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16
Q

What are three advantages of ROI?

A
  • Widely accepted
  • Enables comparison with companies of different sizes
  • Can be broken down into secondary ratios for more detailed analysis
17
Q

What are five disadvantages of ROI?

A
  • Dysfunctional decision making
  • Increases with age of asset (NBV)
  • Not aligned to maximising shareholder wealth
  • Differences between divisions make comparison less meaningful
  • Encourages manipulation of profit
18
Q

What can be done to address the behaviour of holding onto assets to increase ROI?

A

Use RI

19
Q

How do you calculate RI?

A

Operating profit
Less: Imputed interest (Capital employed x cost of capital)

20
Q

What are four advantages of RI?

A
  • Reduces problems of ROI
  • Interpreting results is easy
  • Cost is clearer to divisional managers
  • Cost of capital can be adjusted
21
Q

What are four disadvantages of RI?

A
  • Decision may not always be in best interest of company
  • Comparison not easy
  • Decision on cost of capital
  • Manipulation of profit
22
Q

What does economic value add represent?

A

The economic value generated by the company for its shareholders

23
Q

What is the calculation for EVA

A

Net operating profit after tax (NOPAT)
Less:
Adjusted value of capital employed at beginning of the year × WACC

EVA

24
Q

Where do you start for the NOPAT calc?

A

Controllable operating profit

25
Q

What do you add for the NOPAT calculation?

A
  • Accounting depreciation
  • Increase in provisions
  • Non-cash expenses
  • Advertising, R&D and employee training costs
26
Q

What do you deduct for the NOPAT calculation?

A
  • Economic depreciation
  • Decrease in provisions
  • Ammortisation of Advertising, R&D and employee training
  • Tax paid plus tax relief on interest
27
Q

What are six advantages of EVA?

A
  • Aims to maximise shareholder wealth
  • Avoid accounting policy distortion
  • No appeal to hold onto old assets
  • Cost of financing is made clear to managers
  • Can capitalise long term investments redcuing short-terminism
  • Easy to intrepret results
28
Q

What do you deduct for the NOPAT calculation?

A
  • Economic depreciation
  • Decrease in provisions
  • Amortisation of Advertising, R&D and employee training
  • Tax paid plus tax relief on interest

ACCA APM (14 decks)

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