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- Exercises on Performance Evaluation
- EDUCATION CODE CHAPTER PROVISIONS GENERALLY APPLICABLE TO HIGHER EDUCATION
Otherwise, the rankings under both the measures are similar.
Test your understanding 3 - RI calculation.
Thisis the company's target return. Base your calculations on opening book values. Would the investment centre manager wish to undertake the investment ifperformance is judged on ROI? Base your calculations on opening bookvalues.
Would the investment centre manager wish to undertake theinvestment if performance is judged on RI? Likewise Division Y will accept its project, which should be rejected as it fails to hit the company target.
Divisional performance can be compared in many ways. ROI and RI are common methods but other methods could be used. Test your understanding 5. A transfer price is the price at which goods or services aretransferred from one division to another within the same organisation.
Exercises on Performance Evaluation
The decisions made by each profit centre manager should beconsistent with the objectives of the organisation as a whole, i. Acommon feature of exam questions is that a transfer price is set thatresults in sub-optimal behaviour. The buying and selling divisions will be treated as profit centres. The transfer price should allow the performance of each division to beassessed fairly. Divisional managers will be demotivated if this is notachieved. The system used to set transfer prices should seek to maintain theautonomy of profit centre managers.
If autonomy is maintained, managerstend to be more highly motivated but sub-optimal decisions may be made. In practice, an extremely important function of the transferpricing system is simply to assist in recording the movement of goodsand services. If an external market exists for the transferred goods then the transfer price could be set at the external market price. Test your understanding 6 - Full cost and marginal cost. A company has two profit centres, Centre A and Centre B.
Centre Asupplies Centre B with a part-finished product. There is no external market for Centre A's part-finished product.
EDUCATION CODE CHAPTER PROVISIONS GENERALLY APPLICABLE TO HIGHER EDUCATION
Calculated the budgeted annual profit for each division and for thecompany as a whole of the transfer price for the components supplied bydivision A to division B is:. Test your understanding 7 - Opportunity cost approach. A company operates two divisions, Able and Baker. Able manufacturestwo products, X and Y. The only outlet for product Y is Baker.
Baker supplies an external market and can obtain its semi-finishedsupplies product Y from either Able or an external source.
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The capacity of division Able is measured inunits of output, irrespective of whether product X, Y or a combinationof both are being manufactured. Using the above information, advise on the determination of anappropriate transfer price for the sale of product Y from division Ableto division Baker under the following conditions:. Additional example on transfer pricing. DivisionX manufactures a component X8 which is transferred to Division Y. There is no external market for component X8.
The budgeted output and sales for Product Y14 is 20, units. Oneunit of component X8 goes into the manufacture of one unit of Y The profit of the company as a whole will be maximised if DivisionsX and Y produce up to their capacity, or to the maximum volume of salesdemand. Since there is no external market for component X8, the transferprice will be cost-based.
The transfer price might also include a mark-up on cost to allow aprofit to Division X. It could be argued, however, that Division Y would not want to sellProduct Y14 at all if it made a loss.