REFERENCE QUESTION 3 : https://www.acowtancy.com/exams/acca-pm/paper-question/dec-2017-sample-q32ab

Question 1

Berjaya Berhad is a decentralized wholesaler with two autonomous divisions that operate in similar markets that are the Properties and Food Services division. Each division has a required rate of return of 15% and is being monitored based on its return on investment (ROI), with investment defined as total net operating assets employed. The planned operating results for the year 2019 are as follows:

Division Invested Capital Operating income

Properties RM6,000,000 RM900,000

Food Services RM1,000,000 RM200,000

Required:

a.Elaborate on how the manager of Properties division could improve its division's ROI.

(3 marks)

b.Based on the ROI and residual income (RI), advice Berjaya Berhad on which division that shows a better performance for the year 2019.

(10 marks)

c.The company is planning to have an expansion in the year 2020, which will require each division to increase its investments by RM2,500,000, resulting an increase of its income by RM450,000. Advise Berjaya Berhad on which division that shows a better performance for the year 2020 by looking at the new ROI and RI.

QUESTION 2 (20 MARKS)

Megah Berhad is a decentralized wholesaler with autonomous divisions. Eachdivisions is being monitored based on its return on investment (ROI), with investment defined as average operating assets employed. The rewards and bonuses are given to the divisional mangers based on ROI. The average overall ROI of the company for 2014 is 15 percent of operating investment. The operating results for Office Products Division for the year 2014 are given as below:

Sales RM10,000,000

Variable expenses RM6,000,000

Contribution margin RM4,000,000

Fixed expenses RM3,200,000

Net operating income RM800,000

Divisional operating assets RM4,000,000

The Office Products Division has an opportunity to add a huge investment of RM1,000,000 in a new product line. The cost and revenue characteristics of the new investment per year would be:

Sales RM2,000,000

Variable expenses 60% of sale

Fixed expenses RM640,000

Required:

a.Brieflyexplainthemeaningof financial control.Explain how does financial control relates to nonfinancial measures of performance.

(3 marks)

b.Compute the return on investment (ROI) for the Office Products Division for the year 2014.

(2 marks)

c.Assume that there is an expansion project on the new product line.

i.Calculate the new ROI for the Office Products Division if the new product line is added.

(4 marks)

ii.Would the General Manager of Office Products Division be more likely to accept the new investment project if his performance was evaluated using ROI? Briefly explain the reason for his decision.

(2 marks)

iii.Why would the Managing Director of Megah Berhad be more likely to add and accept the new product line based on ROI? Briefly explain the reason for his decision.

(2 marks)

d.Suppose that the minimum required rate of return on operating assets of Megah Berhad is 12% and the performance is now evaluated based on economic value added (EVA).

i.Compute the EVA for the Office Products Division for the year 2014.

(2 marks)

ii.Calculate the new EVA for the Office Products Division if the new product line is added.

(3 marks)

iii.Would the General Manager of Office Products Division be more likely to accept the new investment project if his performance was evaluated using EVA? Briefly explain the reason for his decision.

QUESTION 3

Gemilang Berhad is a large manufacturing company specialising in the manufacture of a wide range of sports clothing and equipment. The company has two divisions: Division Clothing and Division Equipment. Each division operates with little intervention from Head Office and divisional managers have autonomy to make decisions about long-term investments.

Gemilang Berhad measures the performance of its divisions using Return On Investment (ROI), calculated using controllable profit and average divisional net assets. The Head Office recharges all of its costs to the two divisions. These have been included in the fixed costs and amount to RM620,000 for Division Clothing and RM700,000 for Division Equipment.

The target ROI for each of the divisions is 18%. If the divisions meet or exceed this target the divisional managers receive a bonus.

Last year in 2017, an investment which was expected to meet the target ROI was rejected by one of the divisional managers because it would have reduced the division's overall ROI. Consequently, Gemilang Berhad is considering the introduction of a new performance measure, Residual Income (RI), in order to discourage this dysfunctional behaviour in the future. Like ROI, this would be calculated using controllable profit and average divisional net assets.

Gemilang Berhad has a cost of capital of 12%. The draft operating statement for the year 2018, prepared by the company's trainee accountant, is shown as below:

RM'000 RM'000

Division

Clothing Division

Equipment

Sales revenue3,849.58,538

Less variable costs(1,400)(3,030)

------------

Contribution2,449.56,208

Less fixed costs(945)(1,420)

------------

Net profit 1,504.54,088

------------

Opening divisional controllable net assets13,00024,000

Closing divisional controllable net assets9,00030,000

Required:

A. Calculate the Return On Investment (ROI) for each of the two divisions of Gemilang Berhad

B. Discuss the performance of the two divisions for the year, including the main reasons why their ROI results differ from each other. Explain the impact of the difference in ROI could have on the behaviour of the manager of the worst performing division.

C.Calculate the Residual Income (RI) for each of the two divisions of Gemilang Berhad. Briefly comment on the results of this performance measure.

D.Explain the advantages and disadvantages of using RI to measure divisional performance.

QUESTION 4

Gempak Division manufactures electronic component that can be sold either to Division BP of the same company or to outside customers. During the year 2016, 20,000 units of electronic component were produced, which 16,000 units were sold to outside customers and another 4,000 units were transferred and sold to Division BP.

The electronic component was used in an electric instrument manufactured by Division BP, where one instrument requires one electronic component. The electronic component of this type is not available from any other sources.

Both the selling price and the transfer price per electronic component is RM125 and its variable cost per electronic component is RM90. Division BP incurred additional RM100 variable cost per instrument and then sold the instruments for the price of RM300 each.

Required:

a.Briefly explain the meaning of the term decentralization.

(3 marks)

b.Briefly explain the FIVE (5) benefits from implementing the decentralization system.

(5 marks)

c.Prepare the income statements for Gempak Division, Division BP and the company as a whole.

(7 marks)

d.Assumed that the full capacity of Gempak Division is 20,000 electronic component per annum. In the next year 2017, Division BP wants to increase its order to 5,000 units of electronic component.

Evaluate the decision of Gempak Division to sell the extra 1,000 units electronic component to Division BP from the standpoint of the company as a whole.

(5 marks)

QUESTION 5

Megah Berhad is a decentralized wholesaler with two autonomous divisions that operate in similar markets that are Division Utara and Division Selatan. Each divisions is being monitored based on its Return on Investment (ROI), with investment defined as total net operating assets employed. The rewards and bonuses are given to the divisional managers based on ROI.

At the end of the month, both divisions are required to prepare the operating statement to be submitted to Megah Berhad. The operating statements for these two divisions for the month of December 2018 are as shown below:

Operating Statements for December 2018

Division Utara Division Selatan

Sales RM900,000 RM555,000

Variable expense RM345,000 RM312,000

Contribution margin RM555,000 RM243,000

Less: Controllable fixed expenses

(including depreciation on assets RM95,000 RM42,000

Operating income RM460,00 RM201,000

Less: apportioned Central costs RM338,000 RM180,000

Net income before RM122,000 RM21,000

Total Divisional Net assets RM9,760,000 RM1,260,000

The targeted return on capital for Megah Berhad for 2018 is 12 percent per annum. However, the company believe that its cost of capital is likely to rise and is considering an increasing target return on capital in the next future years.

Required:

a.Calculate the annual Return on Investment (ROI) for both Division Utara and Division Selatan for the year 2018.

b.Evaluate the relative performance of both Division Utara and Division Selatan for the year 2018 using the ROI and other relevant information given above.

c.Suppose that the minimum required rate of return on operating assets of Megah Berhad is 12 percent and the performance is now evaluated based on Residual Income (RI).

i.Calculate the annual RI for both Division Utara and Division Selatan for the year 2018

ii.Evaluate the relative performance of both Division Utara and Division Selatan for the year 2018 using the RI and other relevant information given above.

d. Briefly discuss the strengths and weaknesses of ROI and RI as methods of assessing the performance of divisions