garch12 decentralization

8/18/2019 Garch12 Decentralization

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Segment Reportingand Decentralization5/03/04

Chapter 12


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© The McGraw-Hill Companies, IncMcGraw-Hill/Irwin

Decentralization inOrganizations

Benefits of

DecentralizationTop management

freed to concentrateon strategy.

Top managementfreed to concentrate

on strategy.

Lower-level managersgain experience indecision-making.

Lower-level managersgain experience indecision-making.

Decision-makingauthority leads to job satisfaction.

Decision-makingauthority leads to job satisfaction.

Lower-level decisionoften based on

better information.

Lower-level decisionoften based onbetter information.

Improves ability toevaluate managers.

Improves ability toevaluate managers.


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Decentralization inOrganizations

Disadvantages of

Decentralization

Lower-level managers

may make decisionswithout seeing thebig picture.!

Lower-level managersmay make decisionswithout seeing the

big picture.!

"ay be a lack of coordination among

autonomousmanagers.

"ay be a lack of coordination among

autonomousmanagers.

Lower-level manager#s

objectives may notbe those of theorgani$ation.

Lower-level manager#s

objectives may notbe those of theorgani$ation.

"ay be difficult tospread innovative ideas

in the organi$ation.

"ay be difficult tospread innovative ideas

in the organi$ation.


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Decentralization and SegmentReporting

A segmentsegment is any part oractivity of an

organization about

!ic! a manager see"scost# revenue# or profitdata$ A segment can

also be divisions#manufacturing plants#customers# product

lines# departments# etc$

%uick "art

&n Individual 'tore

& 'ales Territory

& 'ervice (enter


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%ost# &rofit# and 'nvestments%enters

(ost (enter A segment !ose

manager !as controlover costs#

but not over revenuesor investment funds$

Accounting# personnel#R ( D#legal# admin$#

)anufacturing# etc$


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)rofit (enter A business segment

!ose manager !ascontrol over both

costs and revenues#but no control overinvestment funds$

ie$# operations# productlines

*evenues'ales

Interest+ther

(osts"fg. costs

(ommissions

'alaries

+ther


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Investment (enter

A segment !osemanager !as control

over costs#revenues# andinvestments in

operating assets$

Divisions# Subsidiaries

(orporate ,eaduarters



Segmenting %osts

*ariable costs are easily traceable tot!eir respective segments

+i,ed costs must be divided up intot!ose costs t!at are traceable tosegments and t!ose t!at are not

Only t!ose costs t!at are traceable to asegment ill be assigned to a segment



-raceable and %ommon %osts

ixed(osts

TraceableTraceable

(osts arise because(osts arise because

of the existence of of the existence of

a particular segmenta particular segment

(ommon(ommon

& cost that supports more than one& cost that supports more than one

segment but that would not gosegment but that would not go

away if any particular segmentaway if any particular segment

were eliminated.were eliminated.

Don#t allocateDon#t allocate

common costs.common costs.



'dentifying -raceable +i,ed%osts

Traceable costs ould disappear over timeif t!e segment itself disappeared$

/o computer/o computer

division means . . .division means . . ./o computer /o computer

division manager.division manager.



'dentifying %ommon +i,ed%osts

(ommon costs arise because of overalloperation of t!e company and are not due to

t!e e,istence of a particular segment$

/o computer/o computer

division but . . .division but . . .0e still have a0e still have a

company president.company president.



.evels of SegmentedStatements

Let#s look more closely at the TelevisionDivision#s income statement.

Let#s look more closely at the TelevisionDivision#s income statement.

Webber, Inc. has two divisions.

( o m p u t e r D i v i s i o n T e l e v i s i o n D i v i s i o n

0 e b b e r 1 I n c .




Our approac! to segment reporting uses t!econtribution format$

Income 'tatement

(ontribution "argin .ormat

Television Division

'ales 23313334

5ariable (+6' 7831333

+ther variable costs 231333

Total variable costs 7931333 (ontribution margin 7931333

Traceable fixed costs :31333

Division margin ;313334

(ost of goodssold consists of

variablemanufacturing

costs only.

(ost of goodssold consists of

variablemanufacturing

costs only.

ixed andvariable costsare listed in

separatesections.

ixed andvariable costsare listed in

separatesections.




'egment marginis Television#s

contribution

to profits.

'egment marginis Television#s

contribution

to profits.

Our approac! to segment reporting uses t!econtribution format$

Income 'tatement

(ontribution "argin .ormat

Television Division

'ales 23313334

5ariable (+6' 7831333

+ther variable costs 231333

Total variable costs 7931333 (ontribution margin 7931333

Traceable fixed costs :31333

'egment "argin ;313334




Let#s see how the TelevisionLet#s see how the Television

Division


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Income 'tatement

(ompany Television (omputer

'ales 93313334 23313334 83313334

5ariable costs 8231333 7931333 =31333

(" 8>31333 7931333 7831333 Traceable .( 7>31333 :31333 =31333

'egment "argin 7331333 ;313334 ?313334

(ommon costs

/et operating income


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Income 'tatement

(ompany Television (omputer

'ales 93313334 23313334 83313334

5ariable costs 8231333 7931333 =31333

(" 8>31333 7931333 7831333 Traceable .( 7>31333 :31333 =31333

'egment "argin 7331333 ;313334 ?313334

(ommon costs 891333

/et operating income >913334

(ommon costs should notbe allocated to the

divisions. These costswould remain even if one

of the divisions wereeliminated.

(ommon costs should not

be allocated to thedivisions. These costs

would remain even if oneof the divisions were

eliminated.


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-raceable %osts %an ecome%ommon %osts

+i,ed costs t!at are traceable on onesegmented statement can become

common if t!e company is divided into smallersmaller segments$

Let’s see how this works!


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@ . ' . ' a l e s o r e i g n ' a l e s

* e g u l a r

@ . ' . ' a l e s o r e i g n ' a l e s

A i g ' c r e e n

T e l e v i s i o n

D i v i s i o n


ProductProduct

LinesLines

SalesSales

TerritoriesTerritories

Webber’s Television Division


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We obtained the following information fromthe egular and ig Screen segments.

Income 'tatementTelevision

Division *egular Aig 'creen

'ales 83313334 73313334

5ariable costs :91333 991333

(" 7391333 ?91333 Traceable .( ?91333 291333

)roduct line margin ;313334 7313334

(ommon costs

Divisional margin


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Income 'tatementTelevision

Division *egular Aig 'creen

'ales 23313334 83313334 73313334

5ariable costs 7931333 :91333 991333

(" 7931333 7391333 ?91333 Traceable .( =31333 ?91333 291333

)roduct line margin >31333 ;313334 7313334

(ommon costs 731333

Divisional margin ;313334


The remaining 4731333 cannot be traced toeither the *egular or Aig 'creen product lines.


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Segment )argin

-!e segment margin is t!e best gaugebest gauge oft!e longrun profitability of a segment$

TimeTime

) r o

f i t s

) r o

f i t s

1i d & %


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1indrances to &roper %ost Assignment

The ProblemsThe Problems

+mission of some5alue-chain costs in the

assignment process1

@pstream downstream

&ssignment of coststo segments that are

really common costs of

the entire organi$ation.

The use of inappropriate

methods for allocating

costs among segments1

ie1 'ales1 or DL in automated plant


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Omission of %osts

%osts assigned to a segment s!ould includeall costs attributable to t!at segment from

t!e company2s entire value c!ainvalue c!ain$

&roduct %ustomerR(D Design )anufacturing )ar"eting Distribution Service

Ausiness unctionsAusiness unctions

"aking @p The"aking @p The

5alue (hain5alue (hain


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'nappropriate )et!ods of Allocating%osts Among Segments

'egment7

'egment2

'egment?

ailure to tracecosts directly

&rbitrarily dividingcommon costs

among segments

Inappropriateallocation base

'egment8


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uic" %!ec"

1o muc! of t!e common fi,ed cost of00#000 can be avoided by eliminating t!ebar6

a$ 7one of it$b$ Some of it$

c$ All of it$


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uic" %!ec"

1o muc! of t!e common fi,ed cost of00#000 can be avoided by eliminating t!ebar6

a$ 7one of it$b$ Some of it$

c$ All of it$

A common fixed cost cannot beeliminated by dropping one of

the segments


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Income 'tatement,aglundEs

Lakeshore Aar *estaurant

'ales =3313334 73313334 >3313334

5ariable costs 2731333 ;31333 8931333

(" ?:31333 ?31333 ?931333

Traceable .( 8?;1333 8;1333 8831333

'egment margin 8??1333 7?1333 8231333

(ommon costs 8331333 891333 7>91333

)rofit ??13334 F771333G4 9913334

Allocations of %ommon %osts

Allocated on t!e basis of sales$

Hurray, now everything adds up!!!


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Income 'tatement,aglundEs


'ales =3313334 73313334 >3313334

5ariable costs 2731333 ;31333 8931333

(" ?:31333 ?31333 ?931333

Traceable .( 8?;1333 8;1333 8831333

'egment margin 8??1333 7?1333 8231333

(ommon costs 8331333 891333 7>91333

)rofit ??13334 F771333G4 9913334

Allocations of %ommon %osts

Whoops, what about the bar???


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uic" %!ec"

S!ould t!e bar be eliminated6

a$ 8es

b$ 7o


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S!ould t!e bar be eliminated6

a$ 8es

b$ 7o

uic" %!ec"

Income 'tatement

,aglundEs


'ales >3313334 >3313334

5ariable costs 8931333 8931333 (" ?931333 ?931333

Traceable .( 8831333 8831333

'egment margin 8231333 8231333

(ommon costs 8331333 8331333

)rofit 2313334 2313334

The profit was 4??1333 beforeeliminating the bar. If we eliminate

the bar1 profit drops to 4231333H


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-eac!ing 7ote

&llocating common fixed costs to thesegments those fixed costs support is a

recipe for disaster

R t ' t t 9RO':


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Return on 'nvestment 9RO':+ormula

"I #"I #$et o%erating income$et o%erating income&verage o%erating assets&verage o%erating assets

(ash1 accounts receivable1 inventory1plant and euipment1 and other

productive assets.

(ash1 accounts receivable1 inventory1plant and euipment1 and other

productive assets.

Income before interestand taxes FAITG

Income before interestand taxes FAITG

R t ' t t 9RO':


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Regal %ompany reports t!eRegal %ompany reports t!efolloing;folloing;

7et operating income 30#0007et operating income 30#000 Average operating assets 00#000 Average operating assets 00#000

Sales 500#000Sales 500#000

'(),)))'*)),)))

# +-+-"I #

Ret rn on 'n estment 9RO':


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"I #"I #$et o%erating income$et o%erating income

&verage o%erating assets&verage o%erating assets

argin #argin #$et o%erating income$et o%erating incomeSalesSales

Turnover #Turnover #SalesSales

&verage o%erating asset&verage o%erating asset

"I #"I #arginargin TurnoverTurnover

Return on 'nvestment 9RO':


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'(),)))')),)))

/')),)))'*)),)))

"I #

0-0- *. # +-*. # +-"I #

"I #"I #arginargin TurnoverTurnover

$et o%erating income

Sales

Sales

&verage o%erating asset

/"I #


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%ontrolling t!e Rate of Return

-!ree ays to improve RO' $ $ $-!ree ays to improve RO' $ $ $

IncreaseIncrease

'ales'ales

*educe*educe

xpensesxpenses*educe*educe

&ssets&ssets


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%ontrolling t!e Rate of Return

Regal2s manager as able to increasesales to


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%riticisms of RO'

"anagement may not knowhow to increase *+I.

"anagers often inherit manycommitted costs over whichthey have no control.

"anagers evaluated on *+I

may reject profitableinvestment opportunitiesfor the company Fbecause

its bad for their *+IG.


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%riticisms of RO'

As division manager at =inston# 'nc$# yourcompensation pac"age includes a salary plus bonusbased on your division2s RO' t!e !ig!er your RO'#t!e bigger your bonus$

-!e company re>uires an RO' of ?5@ on all neinvestments your division !as been producing anRO' of 30@$

8ou !ave an opportunity to invest in a ne proect

t!at ill produce an RO' of 5@$

&s division manager would you&s division manager would you

invest in this projectKinvest in this projectK


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%riticisms of RO'

6ee . . .I thought we were

supposed to do whatwas best for the

companyH

&s division manager1I wouldn#t invest in

that project becauseit would lower my payH


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%riticisms of RO'

So to fi, t!is problem# c!ange t!eincentive plan to reard t!e manager

for any RO' over and above t!e firm2sRO'$

Du!B


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Revie &roblem ?

Redo report C eliminate common costallocation

Advise on !et!er to spend advertisingmoney to increase +amily .a practice$

Anser on &age 55553


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garch12 decentralization

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