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ENAGERINDUSTRIES,INC.

Each division is an independent company.


Prior to 1992 : Profit center
Post 1992 : Investment center
Corporate income = summation ( each division's income)
Corporate assets = summation ( each division's assets)
Divisions performance measured using:
ROA
Gross ROA
ROS
Investment proposals with return > 15% were only approved.
Q1.WHYWASMCNEIL'SNEWPRODUCT
REJECTED?SHOULDITHAVEBEEN?
EXPLAIN.
The proposal was rejected because it did not satisfy the required criteria
Of having a return of atleast 15%

Calculations:

PARTICULARS PRODUCT A PRODUCT B PRODUCT C

No. of units sold 1,00,000 75,000 60,000

S.P. per unit $18 $21 $24

Total sales($) 18,00,000 15,75,000 14,40,000

Variable cost per unit $9 $9 $9

Total variable cost 9,00,000 6,75,000 5,40,000

Total fixed cost 5,10,000 5,10,000 5,10,000

Cost of goods sold($) 14,10,000 11,85,000 10,50,000

Net income 3,90,000 3,90,000 3,90,000

Total asset base($) 30,00,000 30,00,000 30,00,000

Return from proposal* 13% 13% 13%


* return = net income / total asset base
Q2.WHATINFERENCESDOYOUDRAW
FROMTHECASHFLOWSTATEMENTSOF
1993?WASITUSEFUL?
DIVISION SALES EBIT W/C FIXED ALLOC TOTAL GROSS
ROA

Consumer 74.3 10.8 60.8 34.6 4.6 100.0 10.8

Industrial 74.2 7.2 44.4 54.6 4.6 103.6 6.9

Professional 74.2 3.3 18 0.0 4.6 22.6 14.6


service
Total 21.3 123.2 89.2 13.8 226.2 9.4

INFERENCES:
1. The professional services division exceeded the 12% gross return target but
the other two divisions failed to do so.
2. Consumer division could have underemployed the assets in order to boost
the gross ROA.
3.Cost of goods sold and the other expenses of industrial division in
comparison to consumers division could be high due to which its EBIT has
fallen down.
These inferences help us in performing a root cause analysis of the
performance of each division.
Q3.WHATINFERENCESAREDRAWN
FROMTHECOMPARATIVEBALANCE
SHEETSANDINCOMESTATEMENTS
FOR199293?
1992 1993 Inference

ROA 5.67% 5.37% More assets employed in 93 to boost sales

Gross 9.49% 9.43% More assets employed in 93 to boost sales


ROA
ROS 5.13% 5.45% More income earned in 93 due to boost in sales

ROE 4.69% 4.74% ROE has improved which is of great importance for the
stakeholders.

Formulae:

ROA : (Net income) / (Total asset base)


Gross ROA: (EBIT) / (Total asset base)
ROS: (Net income) / (Total sales)
ROE: (Net income) / (Total Equity)
Q4.EVALUATETHEMANNERINWHICH
RANDALLANDHUBBARDHAVE
IMPLEMENTEDTHEIRINVESTMENT
CENTRECONCEPT.

WHATPITFALLSDIDTHEYAPPARENTLY
NOTANTICIPATE?
PROFIT CENTRE INVESTMENT CENTRE

INPUT OUTPUT OUTPUT


INPUT

WORK CAPITAL
COST($) PROFIT($) COST($) EMPLOYED PROFIT($)

INPUTS ARE RELATED TO OUTPUTS PROFITS ARE RELATED TO CAPITAL


EMPLOYED

A shift from profit centre concept to investment centre concept


because:
Comparing absolute differences in profit is not meaningful.
Difficult to compare profit performance unless assets employed is taken into
account.
Business unit managers have 2 performance objectives:
1. To generate profits from resources used.
2. To invest in additional resources only if it produces an adequate return.
Hubbard and Randall used ROI to measure the assets
employed.

The Pitfalls

ROI provides different incentives for investments across


business units.
Decisions that increase a centres ROI may decrease its
overall profits.
Q5.WHATSHOULDRANDALLDOABOUT
HISINVESTMENTCENTRECONCEPT?

Q6.WHATADVICEDOYOUHAVEFOR
RANDALLANDHUBBARD?
RandallandHubbardmustuseEVAformeasuring
andcontrollingtheassetsemployed.

EVA=Capitalemployed*(ROICostofCapital)

AdvantagesofEVA:
Allbusinessunitshavesameprofitobjectivefor
comparableinvestments.
Differentinterestratesmaybeusedfordifferent
typesofassets.
Ithasastrongerpositivecorrelationwithchangesin
companysmarketvalue.
Q7.DESIGNABALANCEDSCORECARD
FOR:
1.CONSUMERPRODUCTSDIVISION
2.INDUSTRIALPRODUCTS
DIVISION
3.PROFESSIONALSERVICE
DIVISION
WhatisabalanceScorecard?

KPIsaredefinedforeachperspective.

Actualsiscomparedwithtargets

THANKYOU

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