Chapter 7 Performance Evaluation for Decentralized Operations Managerial Accounting 8th Edition Warren Reeve Fess PowerPoint Presentation by Douglas Cloud Professor Emeritus of Accounting Pepperdine University © Copyright 2004 South-Western,
Download ReportTranscript Chapter 7 Performance Evaluation for Decentralized Operations Managerial Accounting 8th Edition Warren Reeve Fess PowerPoint Presentation by Douglas Cloud Professor Emeritus of Accounting Pepperdine University © Copyright 2004 South-Western,
Chapter 7
Performance Evaluation for Decentralized Operations
Managerial Accounting 8th Edition Warren Reeve Fess PowerPoint Presentation by Douglas Cloud Professor Emeritus of Accounting Pepperdine University © Copyright 2004 South-Western, a division of Thomson Learning. All rights reserved. Task Force Image Gallery clip art included in this electronic presentation is used with the permission of NVTech Inc.
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Objectives
1.
List and explain the advantages and 2.
3.
report for a cost center.
Prepare responsibility accounting reports for a profit center.
4.
Compute and interpret the rate of return on investment, the residual income, and the balanced scorecard for an investment center.
Objectives
5.
Explain how the market price, negotiated price, and cost price approaches to transfer pricing may be used by decentralized segments of a business.
Centralized and Decentralized Operations
Advantages of Decentralization
It allows managers to
focus on acquiring expertise in their areas of responsibility
. Decentralizing decision making provides
excellent training
for managers.
Delegation improves Decentralization helps managers create
customer relations
customers’ needs.
employee morale
.
good
by responding quickly to Managers become
more creative
in suggesting operating and product improvement.
Disadvantages of Decentralized Operations
Decisions made by one manager may
negatively affect
the profitability of the entire organization.
Assets and operating
duplicated costs are
(e.g., each division has its own administrative office staff).
Responsibility Centers
Cost Centers
Managers are held accountable for controlling
costs
.
Profit Centers
Managers are held accountable for
costs
and making decisions that impact
revenues
favorably.
Responsibility Centers
Investment Centers
Managers are held accountable for
costs
and
revenues
and are also held accountable for the efficient use of
assets
.
Responsibility Accounting for Cost Centers
COST CENTERS IN A UNIVERSITY UNIVERSITY COLLEGE
Dept. of Marketing College of Engineering College of Business College of Arts and Sciences Dept. of Accounting Dept. of Management
Responsibility Accounting for Cost Centers
COST CENTERS IN A UNIVERSITY DEPARTMENT Department of Accounting
Cost Centers Budget Performance Report Supervisor, Department 1—Plant A For the Month Ended October 31, 2006 Over Budget
Factory wages Materials Supervisory salaries Power and light Depreciation Maintenance Insurance, taxes
Budget
$ 58,100 32,500 6,400 5,750 4,000 2,000 975
Actual
$ 58,000 34,225 6,400 5,690 4,000 1,990 975 $111,280 $1,725
Under Budget
$100 60 10 These totals are shown on the Manager, Plant A’s budget performance report (Slide 13).
Cost Centers Budget Performance Report Manager, Plant A For the Month Ended October 31, 2006 Budget Actual Over Budget Under Budget
Administration Department 2 Department 3 $ 17,500 109,725 190,500 149,750 $467,475 $ 17,350 111,280 192,600 149,100 $470,330 $1,555 2,100 $3,655 From the Supervisor—Department 1, Plant A budget performance report (Slide 12).
$150 650 $800
Cost Centers
Administration Department 1 Department 2 Department 3
Budget Performance Report Manager, Plant A For the Month Ended October 31, 2006 Budget Actual Over Budget
$ 17,500 109,725 190,500 149,750 $ 17,350 111,280 192,600 149,100 $470,330 $1,555 2,100 $3,655
Under Budget
$150 650 $800 This is shown on the Vice-President’s budget production report (Slide 15).
Cost Centers
Administration
Budget Performance Report Vice-President, Production For the Month Ended October 31, 2006 Over Budget Actual Budget
$ 19,500 $ 19,700 $ 200
Under Budget
Plant B 395,225 $882,200 394,300 $884,330 $3,055 $925 $925 Note that “Over Budget” is a net figure.
Cost Centers
Administration Plant A Plant B
Budget Performance Report Vice-President, Production For the Month Ended October 31, 2006 Over Budget Actual Budget
$ 19,500 467,475 395,225 $882,200 $ 19,700 470,330 394,300 $884,330 $ 200 2,855 $3,055
Under Budget
$925 $925 Each of the line items above is supported by a cost center report.
Responsibility Accounting for Profit Centers
In a profit center, the unit manager has the responsibility and the authority to make decisions that affect both costs and revenues.
Profit centers
may be divisions, departments, or products.
Profit Centers
NEG, a diversified entertainment company, has two profit centers: the Theme Park Division and the Movie Production Division.
Revenues Operating expenses
Theme Park Division
$6,000,000 2,495,000
Movie Production Division
$2,500,000 405,000
Profit Centers
Charging Service Department Costs to Production Divisions
Purchasing Department: $400,000
(Activity base: number of purchase requisitions) Theme Park Division Movie Production Division: Total $400,000 25,000 purchase requisitions 15,000 purchase requisitions 40,000 40,000 purchase requisitions =
$10 per purchase requisition
Profit Centers
Charging Service Department Costs to Production Divisions
Payroll Accounting: $255,000
(Activity base: number of payroll checks) Theme Park Division Movie Production Division: Total $255,000 15,000 payroll checks 12,000 payroll checks 3,000 payroll checks 15,000 =
$17 per payroll check
Profit Centers
Charging Service Department Costs to Production Divisions
Legal Department: $250,000
(Activity base: number of payroll checks) Theme Park Division Movie Production Division: Total 100 billed hours 900 billed hours 1,000 $250,000 =
$250 per hour
1,000 hours
Profit Centers
Nova Entertainment Group Service Department Charges to NEG Divisions For the Year Ended December 31, 2006 Service Department
Purchasing
Theme Park Division
$250,000
Movie Production Division
$150,000
per purchase per purchase requisition requisition
Profit Centers
Nova Entertainment Group Service Department Charges to NEG Divisions For the Year Ended December 31, 2006 Service Department
Purchasing Payroll accounting
Theme Park Division
$250,000 204,000
Movie Production Division
$150,000 51,000
payroll check payroll check
Profit Centers
Nova Entertainment Group Service Department Charges to NEG Divisions For the Year Ended December 31, 2006 Service Department
Purchasing Payroll accounting Legal
Theme Park Division
$250,000 204,000 25,000
Movie Production Division
$150,000 51,000 225,000
per hour per hour
Profit Centers
Nova Entertainment Group Service Department Charges to NEG Divisions For the Year Ended December 31, 2006 Service Department
Purchasing Payroll accounting Legal Total service department charges
Theme Park Division
$250,000 204,000 25,000 $479,000
Movie Production Division
$150,000 51,000 225,000 $426,000
Nova Entertainment Group Divisional Income Statements For the Year Ended December 31, 2006 Theme Park Division Movie Production Division
Revenues Operating expenses Income from operations $6,000,000 2,495,000 $3,505,000 $2,500,000 405,000 $2,095,000 Income from operations
before service department charges.
Nova Entertainment Group Divisional Income Statements For the Year Ended December 31, 2006 Theme Park Division Movie Production Division
Revenues Operating expenses Income from operations Less service dept. charges: Purchasing Payroll accounting Legal Total service department charges $ 479,000 Income from operations $6,000,000 2,495,000 $3,505,000 $ 250,000 204,000 25,000 $3,026,000 $2,500,000 405,000 $2,095,000 $ 150,000 51,000 225,000 $ 426,000 $1,669,000
Responsibility Accounting for Investment Centers
In an investment center, the unit manager has the responsibility and the authority to make decisions that affect not only costs and revenues but also the assets invested in the center.
Investment Centers
Revenues
Datalink Inc.
Divisional Income Statements For the Year Ended December 31, 2006
Operating expenses Income from operations before service dept. charges Service department charges Income from operations Invested assets Rate of return on investment
Northern Division
$560,000 336,000 $224,000 154,000 $ 70,000 $350,000
Central Division
$672,000 470,400 $201,600 117,600 $ 84,000
Southern Division
$750,000 562,500 $187,500 112,500 $ 75,000 $700,000 12% $500,000 15%
Rate of Return on Investment (ROI)
Revenues
Rate of Return on Investment (ROI)
Profit Investment Turnover Profit Margin
Rate of Return on Investment (ROI)
The
profit margin
indicates the rate of profit on each sales dollar.
The
investment turnover
indicates the rate of sales on each dollar of invested assets.
Investment Turnover Profit Margin
Rate of Return on Investment (ROI)
ROI = Income from operation Sales ROI = $ 70,000 $560,000 x $560,000 $350,000 x Sales Invested assets ROI = 12.5% x 1.6 =
20%
Rate of Return on Investment (ROI)
ROI = Income from operation Sales x Sales Invested assets Profit Margin Inventory Turnover
Profit Margin
Income from operations Revenues (Sales)
Profit margin Investment Turnover
Revenues (Sales) Invested assets
Investment turnover Return on Investment (ROI)
Income from operations Invested assets
Rate of return on investment Northern Division
$ 70,000 $560,000 12.5%
Central Division
$ 84,000 $672,000 12.5%
Southern Division
$ 75,000 $750,000 10.0% $560,000 $350,000 1.6 $ 70,000 $350,000 20% $672,000 $700,000 .96 $ 84,000 $700,000 12% $750,000 $500,000 1.5 $ 75,000 $500,000 15%
Income from Operations – Minimum Acceptable Rate of Return on Assets = Residual Income
Baldwin Company Divisional Income Statements For the Year Ended December 31, 2006 Northern Division Central Division Southern Division
$70,000 $84,000 $75,000 Income from operations Minimum acceptable income from operations as a percent of invested assets: $350,000 x 10% $700,000 x 10% $500,000 x 10% Residual income 35,000 70,000 50,000 $35,000 $14,000 $25,000
The
balance scorecard
is a set of financial and nonfinancial measures that reflect multiple performance dimensions of a business.
• • •
Customer Satisfaction
Loyalty Perception • • • •
Innovation and Learning
R&D investment R&D pipeline Skills and training Time to market • • • • •
Financial
ROI Residual income Profit Cost Sales • • •
Internal Process
Efficiency Quality Time
Transfer Pricing
Transfer Pricing
When divisions transfer products or render services to each other, a
transfer pricing
is used to charge for the products or services
Benefits of Transfer Pricing
1. Divisions can be evaluated as
investment
centers.
profit
or 2. Divisions are
forced to control costs
operate competitively.
and 3. If divisions are permitted to buy component parts wherever they can find the best price (either internally or externally), transfer pricing will allow a company to
maximize its profits
.
Commonly Used Transfer Prices
1.
2.
3.
Market price approach
sets the price at which the product transferred could be sold to outside buyers.
Negotiated price approach
allows decentralized managers to agree (negotiate) among themselves.
Cost price approach (variable or full)
uses a variety of cost concepts for setting the transfer price.
Commonly Used Transfer Prices
Variable Cost per Unit $10 Full Cost per Unit $13 Negotiated Price Market Price per Unit $20
Transfer Pricing—Negotiated Price Approach Assumptions
1.Division M produces a product with a variable cost of $10 per unit. Division M has unused capacity.
2.Division N purchases 20,000 units of the same product at $20 per unit from an outside source.
If the division managers agree on a price of $15 per unit, how much will each division’s income increase?