Mikkeli Oy has three operating divisions. The managers of these divisions are evaluated on their divisional operating profit, a figure that includes an allocation of corporate overhead proportional to the revenues of each division. The operating profit statement (in thousands) for the first quarter of 2019 is as follows: 

The manager of the Tampere Division is unhappy that his profitability is about the same as the Oulu Division’s and is much less than the Kotka Division’s, even though his revenues are much higher than either of these other two divisions’. The manager knows that he is carrying one line of products with very low profitability. He was going to replace this line of business as soon as more profitable product opportunities became available, but he has kept it because the line is marginally profitable and uses facilities that would otherwise be idle. That manager now realises, however, that the sales from this product line are attracting a fair amount of corporate overhead because of the allocation procedure and maybe the line is already unprofitable for him. This low- margin line of products had the following characteristics for the most recent quarter (in thousands): 

Revenues .................................................... €800 

Cost of goods sold ....................................... 600 

Avoidable division overhead ..................... 100 

Required 

1. Prepare the operating profit statement for Mikkeli Oy for the second quarter of 2019. Assume that revenues and operating results are identical to the first quarter except that the manager of the Tampere Division has dropped the low-margin product line from his product group. 

2. Is Mikkeli Oy better off from this action? 

3. Is the Tampere Division manager better off from this action? 

4. Suggest changes for Mikkeli’s system of division reporting and evaluation that will motivate division managers to make decisions that are in the best interest of Mikkeli Oy as a whole. Discuss any potential disadvantages of your proposal.

Transcribed Image Text:

Tampere Division Oulu Division Kotka Division Total Revenues €2000 €1200 €1600 €4800 Cost of goods sold Gross profit Division overhead Corporate overhead Divisional operating profit 1050 540 640 2230 660 125 950 960 2570 250 160 535 400 240 320 €480 960 €300 €295 €1075