Resolute Manufacturing Holding Limited is the parent company of a number of separate subsidiary companies and each of these subsidiary companies come under the control of the Holding Company. Some of the subsidiary companies manufacture various types of components while other subsidiary companies manufacture finished products. In accordance with what she believes to be best practice, the Managing Director of the Group has decided that the transfer price which applies when components are sold by one subsidiary company to another subsidiary company for the purposes of manufacturing finished goods, should be set at marginal cost of the component (up to the point of transfer) plus the opportunity cost of making the transfer. However, the Managing Director has received complaints from the managers of the finishing companies that the managers of components subsidiaries have frequently refused to make any components available for transfer, even though spare production capacity exists in the components subsidiaries

Requirement

The Manging Director has been accused of engaging in behaviour which might not be considered goal congruent, and that the performance evaluation system in use may be to blame. As an example, the Managing Director sold trade receivables with a book value of 500,000 to a factoring agency at a discount of 20,000 and immediately remitted the cash proceeds to affect Group plcs cash receipts for the year. There was no likelihood of any of these debts turning bad and that (had the factoring not taken place) the 500,000 could have been collected in full in the normal course of business one month later. The Managing Director receives a fixed annual bonus in a year when the Group reaches or exceeds a target level of cash receipts. Critique the likely reasons why the Managing Director has engaged in this behaviour, and recommend and justify changes which the Company should consider making in terms of the Managing Directors performance is measured and rewarded.