Chapter
12
Segment Reporting and
Decentralization
Decentralization
Autonomy
Authority
to make decisions
Responsibility
Example of Decentralization
Proctor & Gamble
Fabric and Home Care
Production
Baby Care
Food and Beverage
Advantages?
Disadvantages?
Marketing
Finance
What management
control system?
Responsibility Centers
 Cost Center
 Profit center
 Investment center
Segment Reporting
 Possible segments:
 divisions w/in a company
 product lines w/in a division
 Report by segment:
 revenues
 variable expenses
Segment margin
 traceable fixed expenses
 Do not allocate common fixed expenses to
segments.
 segment managers cannot control these
Issues in Responsibility Accounting
 Responsibility for which expenses?
 Gain or loss on sale of equipment?
 Depreciation?
 Taxes?
 Does responsibility require complete control?
 Are comparisons meaningful across operating
units?
 Should common costs ever be allocated?
Evaluating Investment Center Performance
Compagnie
du Froid
Required rate of return
18%
Weighted-average cost of capital
15%
Tax rate
30%
Revenue
Operating exp
Net income
Assets
Current assets
Plant & equip
Accum deprec.
Total assets
Current liabilities
France
Italy
Spain
Fr 75,400
71,600
Fr 3,800
Fr 42,500
40,100
Fr 2,400
Fr 59,900
56,300
Fr 3,600
Fr
2,400 Fr 1,500
22,900
18,700
(7,300)
(10,200)
Fr
1,200
20,100
(5,300)
Fr 18,000
Fr 10,000
Fr 16,000
Fr
Fr
Fr
4,200
1,100
800
=
Return on Investment (ROI)
Alternative
Investment measures
Oper. Income
Total assets
Total assets
- current liab.
Gross book value
Income
Investment
France
Italy
Spain
Fr 3,800
Fr 2,400
Fr 3,600
10,000
Fr 16,000
8,900
Fr 15,200
Fr 20,200
Fr 21,300
Fr
18,000 Fr
Fr
13,800
Fr 25,300
Fr
Residual Income
= Income - (Required rate of return x Investment)
Oper. Income
Total assets
ROI
Residual income
Fr
France
Italy
Spain
Fr 3,800
Fr 2,400
Fr 3,600
10,000
Fr 16,000
18,000 Fr
Economic Value Added (EVA)
After tax
Income
=
Total
- [ WACC x (
Assets
France
-
Current
)]
Liabilities
Italy
Spain
Oper. Income
Total assets
Fr 3,800
Fr 2,400
Fr 18,000 Fr 10,000
Fr 3,600
Fr 16,000
Total assets
- current liab.
Fr
Fr 15,200
Residual income
3 Fr 560
13,800
ROI (assts-c_liab) 1 27.5%
EVA
Fr
8,900
2 Fr 600
1
Fr 720
2 27.0%
3 23.7%
Transfer Prices
The price one division charges to another
for goods or services.
Component Division
Cellular Phone Division
Micro-transmitter
Pocket Cellular
Objectives of transfer pricing system:
 Autonomy of the division managers.
 Decisions are in the best interest of the firm.
 Transfer price fairly represents each manager’s
contribution to the firm.
 Ease of implementation.
Transfer Pricing Example
Component Division
Other
Compnts
Pocket C
$ 10.00
$ 8.00
$ 60.00
$ 50.00
2.00
1.50
22.00
26.00
Micro T
Price
DM / unit
Cell Phone Division
Other
Phones
10.00
DL / unit
CM / unit
Units
Total CM
4.00
3.00
13.00
8.00
$ 4.00
$ 3.50
$ 15.00
$ 16.00
500
4,500
500
3,000
$ 2,000
$15,750
$ 7,500
$48,000
A transfer price of $10.00.
Other phones are higher margin for Cell Phone Division.
If Cell Phone Division wants to renegotiate…
Component Division
Micro T
Price
Other
Compnts
$ 10.00
$ 8.00
DM / unit
2.00
1.50
DL / unit
4.00
3.00
$ 4.00
$ 3.50
500
4,500
$ 2,000
$15,750
CM / unit
Units
Total CM
1. Component Division
has idle capacity.
2. Component Division is
at full capacity.
a. $10 mkt for Micro T
b. No mkt for Micro T
If Component Division wants to renegotiate…
Cell Phone Division
Pocket C
Price
DM / unit
Other
Phones
$ 60.00
$ 50.00
22.00
26.00
1. Cell Phone Division has
idle capacity.
a. $10 mkt for Micro T
b. No mkt for Micro T
10.00
DL / unit
CM / unit
Units
Total CM
13.00
8.00
$ 15.00
$ 16.00
500
3,000
$ 7,500
$48,000
2. Cell Phone Division is
at full capacity.
When is a transfer
in the best interest of the firm?
 Answer: When a price can be found that will satisfy
both managers.
 If the transfer helps both divisions, it helps the
firm as a whole.
 Notice that a transfer is not always in the firm’s
best interest.
2. Component Division is
at full capacity.
b. No mkt for Micro T
Minimum price = $9.50
2. Cell Phone Division is
at full capacity.
Maximum price = $9
Possible Transfer Prices
Options
Advantages
Disadvantages
Variable cost +
opportunity cost
ensures optimal
decisions for the firm
difficult to measure
Market price
a good price if a market
exists
markets often don’t
exist or are imperfect
Cost + mark-up
easy to implement
too high if supplying
division has idle
capacity
no incentives to
control costs; OH
allocation games
Negotiated by
managers
manager autonomy
generally good
decisions
time-consuming