13 - Performance Evaluation

Question 1

what does PE assess?

Answer 1

an individual/division’s value added to the first

Question 2

why do we do PE?

Answer 2

• influence their behavior
• performance accountability
• ensure company obj. are met

Question 3

how does a functional company structure?

Answer 3

groups same activities

Question 4

how does a divisionalised company structure?

Answer 4

groups the same products

Question 5

what are the adv. of a divisional structure?

Answer 5

• improves speed/quality of dec-mak
• inc efficiency
• inc motivation

Question 6

what are the disadv. of a divisional structure?

Answer 6

• lack of goal congruence
• more costly to operate
• loss of control by top mgmt

Question 7

which measures can we use for performance evaluation?

Answer 7

• net profit
• residual income
• EVA
• return on investment

Question 8

what do we do with (non-con) head office costs when evaluating a division?

Answer 8

• include if we are comparing to an outside company
• exclude if comparing to another division

Question 9

why can we not only use net profit as a performance measure?

Answer 9

does not account for risks, controllability and covering the cost of investment

Question 10

disadv. of using net profit for PE?

Answer 10

• short-term focused
• accounting-based – manipulatable

Question 11

what is the formula for ROI?

Answer 11

net op profit BIAT / net investment

Question 12

do we adjust for controllability for ROI?

Answer 12

no, mention in discussion

Question 13

what is the formula for net inv?

Answer 13

TA - CL
E + l/t L

Question 14

how do we compare ROI to company ROI?

Answer 14

choose the inv with the higher ROI

Question 15

what is the formula for residual income?

Answer 15

net op profit BIAT - (WACC x net inv)
(if positive, take inv)

Question 16

advantages of ROI?

Answer 16

• comparable
• provides info about if value was created, using WACC

Question 17

disadvantages of ROI?

Answer 17

• doesn’t acc for risk
• uses acc numbers
• does not encourage acceptance of potentially profitable projects

Question 18

advantages of RI?

Answer 18

• provides info about risks and if value was created, using WACC
• encourages goal congruence

Question 19

disadvantages of RI?

Answer 19

• encourages inappropriate asset disposal
• increases each year even without any additional value added
• uses acc numbers

Question 20

what does WACC represent?

Answer 20

the average risk for the entity

Question 21

what must we consider for company-wide WACC vs divisional WACC?

Answer 21

local and specific risks which differ

Question 22

what is the formula for EVA?

Answer 22

(NOPBIAT + acc adj) - (WACC x (net inv + acc adj))

Question 23

why do we do acc adj for EVA?

Answer 23

so that we recognize economic substance rather than accounting form

Question 24

what accounting adjustments do we make for EVA?

Answer 24

• non-recurring items
• discretionary exp (remove and amortise over period of benefit, balance added to net inv)
• non-op items (both)

Question 25

what do we do with costs which are avoidable but not controllable?

Answer 25

include for divisions in EVA