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Q2) Briefly define Discretionary Expense center, Engineered Expense Center, Profit
Centre and Investment Center? How budget prepared in Discretionary Expense
Center? How is performance of the manager evaluation in Discretionary Expense
Center?
1. The Profit Center.Many operating unit managers have responsibility and authority
for both production and sales. They make decisions about what products and services to
produce, how to produce them, their quality level, price, sales and distribution systems. But
these managers may not have the authority to determine the level of capital investment in
their facilities. In these cases, operating profit may be the single best (short- term)
performance measure for how well the managers are creating value from the resources the
company has put at their disposal. Such a unit, in which the manager has almost complete
operational decision-making responsibility and is evaluated by a straightforward profit
measure, is called a profit center.
2. The Investment Center. When a local manager has all the responsibilities
described above as well as the responsibility and authority for his or her center’s working
capital and physical assets, the manager is running an investment center. The performance of
such a unit is best measured with a metric that relates profits earned to the level of physical
and financial assets employed in the center. Investment center managers are with metrics as
return on investment (ROI) and economic value-added.
3. Engineered Expense Center. Engineered cost are those for which the right or
proper amount can be estimated with reasonable reliability, for example material and direct
labour. It have the following characteristic
3. The optimum dollar a,,ount of input required to produce one unit of output can be
determined.
For engineered expense center, it decides whether the proposed operating budget
represent s the unit cost of performing its task efficiently. In discretionary expense center,
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budgeting is determined by the magnitude of the job that needs to be done, it usualy carried
out in one of two ways:
Zero Base Budgeting; In this aproach, budgeting made thorough analysis of each
discretionary expense center on a rolling schedule, all are reviewed in every period (at least
five year).
Management makes budgetary decisions for discretionary expense center that differ
from those foe engineered expense center.Management formulates the budget for
discretionary expense center by determining the magnitude of the job that needs to be done.
The primary job of the discretionary expense center’s manager is to obtain the desired
output.Spending an amount that is “on budget” to do this is considered satisfactory;spending
more than that is cause for concern;and spending less may indicate that the planned work is
not being done.In discretionary center as opposed to engineered centers,the financial
performance report is not a means of evaluating the efficiency of the manager.
Q.3 Every SBU is a profit center but every profit center is not a SBU? What are the
conditions that should be fulfilled for an organization unit to be converted into a profit
center? What are the different ways to measure the performance of profit centers?
Discuss their relative merit & demerits.
delivery cost of energy to the customer, can also be monitored more closely as a profit center
concept and measures may be initiated for reduction of the same.
Most business units are created as profit centers since managers in charge of such
units typically control product development, manufacturing & marketing resources. these
managers are in a position to influence revenues and costs and as such can be held
accountable for the “bottom line.” However, a business unit manager’s authority may be
constrained in various ways, which ought to be reflected in a profit center’s design and
operation.
Functional units
Multibusiness companies are typically divided into business units, each of which is
treated as independent profit-generating units. The subunits with in these business units
however, may be functionally organized. it is sometimes desirable to constitute one or more
of the functional units –e.g., marketing ,manufacturing & service operations –as profit
centers. There is no guiding principle declaring that certain types of units are inherently profit
centers and others are not. Management’s decision as to whether a given unit should be a
profit center is based on the amount of influence the units managers exercises over the
activities that affect the bottom line.
Many management decisions involve proposals to increase expenses with the expectation
of am even greater increase in sales revenue. such decisions are said to involve
expense/revenue trade offs .additional advertising expense is an example, before it is safe to
delegate such a trade-off decision to a lower-level manager, two conditions should exist.
1. The manager should have access to the relevant information needed for making such a
decision.
2. There should be some way to measure the effectiveness of the trade-offs the managers
has made.
A major step in creating profit centers is to determine the lowest point in an organization
where these two conditions prevail.
All responsibility centers fit into a continuum ranging from those that clearly should
be profit centers to those that clearly should not ,management must decide whether the
advantages of giving profit responsibility offset the disadvantages, which are discussed
below .As with all management control system design choices, there is no clear line of
demarcation.
Because the responsibility and authority of each center are different, the measurement
approaches of performance of each center are different. In the following section, we discuss
performance measures in responsibility centers.
A profit center may determine which of products and how many products should be
produced and sold. But it only controls costs and revenues related to the profit center other
than those of the entire organization. Thus, the performance of profit center that is gained by
means of its profit that is gained by means of controlling its operational activity, actually
cannot be real profit of the organization, but only be contribution to profit of the organization
or its higher level responsibility center. Often, profit centers are evaluated by means of
contribution margin income statements, in terms of meeting revenues and costs objectives.
This mainly takes form of controllable income to measure.
Controllable income is the excess of contribution margin over fixed costs controlled by the
profit center. Contribution margin is the excess of revenue of the profit center over all
variable costs of those sales. We may measure the performance of the profit center or its
manager by means of the controllable income variance that is the difference between the
actual and planned number of the controllable income.
However, in profit centers, we encounter the usual problems related to measuring profit for
the organization as a whole: how are the organization’s revenues and costs allocated to each
profit center? If a profit center is totally separate from all other
parts of the organization, its profits can be uniquely identified with it. However, most profit
centers have costs (and perhaps revenues) in common with other units. The organization
faces a cost allocation problem.
A related problem involves the transfer of goods between a profit center and other parts of the
organization. Such goods must be priced so that the profit center manager has incentives to
trade with other unite when it is in the organization's best interests. The organization faces
this transfer-pricing problem.
It is not easy to determine how to measure performance in a profit center exist. No matter
what process is chosen, its objectives should be straightforward: Measure employees'
performance in ways that motivate them to work in the best interest of their employers and
compare their performance to standards or budget plans.
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Advantages
A profit centre is that segment of activity of a business which is responsible for both
revenues and expenses and discloses the profit of a particular segment of activity. It
is created as a result of decentralization of operations to measure the performance of
divisional executives. Each profit centre has a profit target and also enjoys authority
to adopt such policies as are necessary to achieve its targets.
1. The chief merit of profit centre is that it makes its managers responsible for the profit
performance – achieving the budgeted amount of profit during a period.
2. Under profit centre concept the whole organization is dividend into a number of
divisions, the performance of each division is measured in terms of both the income
that is earned and the costs that are incurred.
3. Head quarters management, relieved of day to day decision making, can concentrate
on broader issues.
4. Managers in each division have freedom in making decisions. They need not obtain
approval from corporate headquarters for every expenditure.
5. the quality of decisions may improve because they are being made by managers closet
to the point of decision.
6. the speed of operating decisions may be increased since they do not have to be
referred to corporate headquarters.
1. Division may compete with each other and may take decisions to increase profits at
the expenses of other divisions thereby overemphasizing short term results.
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2. It may adversely affect co-operation between the divisions and lead to lack of
harmony in achieving organizational goals of the company. Thus it is hard to achieve
the objective of goal congruence.
4. The cost of activities which are common to all divisions may be greater for
decentralized structure than for centralized structure. It may thus result in duplication
of staff activities.
6. Series of control reports prepared for several departments may not be effective form
the point of view of top management.
Q.4 What is the objective of the transfer pricing? What is the idea transfer price in the
situation of?
A-limited market
B-shortage of capacity of industry
What do you use cost based transfer price ?
Answer:
Objective of transfer pricing
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If two are more profit centre are jointly for product development ,manufacturing and
marketing, each should share in the revenue generated when the product is finally sold ,the
transfer price is a mechanism for distributing this revenue, the transfer price should be
designed so that it accomplishes the following objective
- Should each business unit with the relevant information it needed to determine the
optimum trade off between company costs and revenue.
- It should induce goal congruent decisions –that is the system should be designed so
that decision that improve business unit profit will also improve company profile.
- It should help measure the economic performance of the individuals business units
Designing transfer pricing system is a key management control topic for most corporations as
shown in exhibits 6.1,79, percent, 1000 companies transferred product between profit centres
The ideal situation
A market price –based transfer price will induce goal congruence if all the following
condition exits
Rarely ,if ever will these condition exists in practice, the list there fore dose not exits set
forth’s criteria that must be met to have a transfer price, rather it suggest a way of looking at
situations to see what to see changes should be made to improve the operations of the transfer
price mechanics
-component people
Ideally managers should e interested in the long run as well as short run performance
Goal atmospheres
Managers has regards profitability, as measured in their income statements as an importance
goal and a significant consideration in the judgement of their performance, they should
perceive that the transfer price are just.
A market price
The ideals transfer price is based one well established ,normal market price for the identical
produce being transfer ,that is market price reflecting the same conditions
Freedom to source
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Altertanatives for sourcing should exits, and managers should be permitted to choose the
alternatives that in their on best interstate buying managers should be free to bye from the
outside, and the selling managers should be free to sell outside.
Full information
Managers must know about the available alternatives and the relevant costs and revenues of
each.
Negotiations
There must be a smothery working mechanics for negotiating “contracts “between business
units.
If all these conditions are present, a transfer price system based on market prices would be in
duke goal congruent in which not all of these all hence conditions are presents.
Constraints on sourcing
Ideally the buying managers should be free to make sourcing occasioning, similar the selling
managers should be free top products in the advantages market,
Limited market
In many companies markets for the buying or selling profits centres may be limited .there are
several reasons for this
First the existence of internal capacity might limit the development of external sales most of
large companies in an industry are highly integrated, as in pulp and paper industry, there
tends to e little independence productions capacity for the interdependent product.
Second if company is the sole producers of differentiated products, no outside source exists
Thirds if a company has invested significantly in facilities .it is unlikely it is to use outside
sources unless the outside selling’s prices approaches the company, variable cost which is not
usual for practice purpose, the products are capative, integeted oil companies are good
example of this
Even in the case of limited market ,the transfer price competitive prices measure the
contribution of a profit centre system to a competitive price ,competitive price measure the
contributions of each profit centre to a total company profits ,in the case of integrated oil
company, use of crude oil market prices is the most effective way to evaluate the extracting
and refining unit as if they were stand alone businesses ,if internal capacity is not available
,the company will ye outside at the competitive price ,the difference between the competitive
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price and inside cost is the money saved y producing rather that buying moreover ,a
competitive price measure how a well a profits centre may e performing against competitive.
How Does Company finds out what the competitive prices is it does not buy or sell the
products in an outside market? Here are some ways
1-if published market price is available
2-market price may be set by bids
3-if the production profits centre sells similar products in the outside markets .
4-if the productions profits centre sell similar products in outside market.
5-if the buying profit centre purchases similar products from the outside markets.
6- Shortage of industry capacity
Suppose the selling profits centre cannot sell to the outside market all it can products if
require from the outside vendors while capacity is available on the inside
Conversely suppose the buying profits centre obtain the products it require from the outside
while the selling profit centre is selling to the outside ,this situations occurs when there is a
shortage of a capacity in the industry in this case ,the output of the buying profits centre is
constrained and again company profits not be optimum.
A word cautions is in other is in order at the this point,
Given the option buying profits centres in some companies prefers to deal with an point given
the option buying profits centres in some companies prefer to deal with outside sources ,one
reasons .is perceptions that outside sources provides better service ,another reasons is internal
revelry that sometimes exists in divisionalised companies, for whatever reasons
management should be awards of the strong policies overtones the some times occurs in
transfer price negotiations ,there is no guarantee that a profits centre will voluntary buy from
the inside sources when exits capacity exists.
In arriving at the transfer price .companies typically eliminated advertising financing or other
expenses that the seller does not incur in internal transaction, this is similar to the practice
when two outside companies arrives at a price either buyer ordinarily will pay for cost
components that do not apply to the contracts.
When use the cost based transfer prices]
If companies prices are not available, transfer prices may be set on the basic of cost plus a
profits.enen though such transfer price may be complex to calculate and the result less
satisfactory than a market based price there are tow based decisions must b in a cost transfer
price system.
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1) To provide information that is useful in making sound decision about assets employed
and to motivate managers to make these decision that are in the best interested of the
organizations
Focusing on profits, without considering the assets employed to gendered those profit is an
adequate basic for control, except in certain types of organizations in which the amount of
capitals is significant.
Unless the amount of assets employed is taken into account, it is difficult for senior
management to compare the profit performance of a business units with that of the
other units or to similar outside companies
In general business unit managers have two performance objectives, first they should
generate adequate profits from the resources at their disposal, second they should
invest in additional resources only when the investment would product return,
conversely, they should disinvest if existing assist do not earn adequate return.
The performance of different units may be directly to one another, also ROI date ate
available for competitors and be used as a basic for comparison.
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1- With EVA all business units have the same profit adjective for the comparable
investment.
2- Decisions that increase a centre ROI may decrease its overall profits.
4- EVA has strong positive correlation with changes in company market value, the
best proxy for shareholder value at the business unit level is to business unit
managers to create and grow EVA
The following actions EVA can increase ROI though BPR and productivity gains
without increasing the assets base
1-increase ROI through BPR and productivity going without increasing the assets
base.
2-divest assets product and or business as whose ROI is less than cost of capital.
3-aggressive new investment in assets products andor businesses who’s ROI exceeds
the cost of capital.
EVA solve a problems of differing profit objective for the same assets in different
business unit and the same profits objectives for different asset in the same unit, the methods
makes it possible to incorporated in the measurement system the same decision rules that are
applied in the planning process, the more sophisticated the planning system more complies
could be EVA calculations.
EVA does not sole all the problems of measurement profitability in an investment if
gross book value is used ,a business unit can increase its EVA by taking actions contrary to
the increase of the company .if net book value is used EVA will increase simply with the
passage of time ,EVA does not solve the problem created by differing profit poteantional ,all
business unit will be motivated to increase investment if the rate of return from the positional
investment exceeds the rate of return prescribed by the measurement system.
ANS:- The Balanced Scorecard (BSC) is a performance management tool which began as a
concept for measuring whether the smaller-scale operational activities of a company are
aligned with its larger-scale objectives in terms of vision and strategy.
By focusing not only on financial outcomes but also on the operational, marketing and
developmental inputs to these, the Balanced Scorecard helps provide a more comprehensive
view of a business, which in turn helps organizations act in their best long-term interests.
"The balanced scorecard retains traditional financial measures. But financial measures
tell the story of past events, an adequate story for industrial age companies for which
investments in long-term capabilities and customer relationships were not critical for success.
These financial measures are inadequate, however, for guiding and evaluating the journey
that information age companies must make to create future value through investment in
customers, suppliers, employees, processes, technology, and innovation."
The balanced scorecard suggests that we view the organization from four
perspectives, and develop metrics, collect data and analyze it relative to each of these
perspectives:
1. The Learning and Growth Perspective This perspective includes employee training
and corporate cultural attitudes related to both individual and corporate self-improvement. In
a knowledge economy, Human resources are the main resource. In the current climate of
rapid technological change, it is becoming necessary for knowledge workers to be in a
continuous learning mode. The Organisation has to identify the infrastructure that must be
built in order to create long term growth and improvement. The objective is to build up
mechanism to fill up the existing gaps in knowledge and processes and to be continually
innovative. Kaplan and Norton emphasize that 'learning' is more than 'training'; it also
includes things like mentors and tutors within the organization, as well as that ease of
communication among workers that allows them to readily get help on a problem when it is
needed.
2. The Business Process Perspective This perspective refers to internal business
processes. This perspective allows the managers to know how well their business is running,
and whether its products and services conform to customer requirements. It should be
carefully analyzed by those who know these processes most intimately. The main focus of
this perspective is on defining the critical business processes in which the organization seeks
to excel. The company must understand its value chain. In addition to the strategic
management process, two kinds of business processes may be identified: a) mission-oriented
processes, and b) support
3. The Customer Perspective Current business philosophy has shown an increasing
realization of the importance of customer focus and customer satisfaction in any business.
These are leading indicators: if customers are not satisfied, they will eventually find other
suppliers that will meet their needs. Poor performance from this perspective is thus a leading
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indicator of future decline, even though the current financial picture may look good. Key
parameters in this perspective to be analyzed are customer satisfaction, customer retention,
new customer acquisition and market share in targeted segments. Major Dimension's
affecting customer response and profitability are product and service attributes, customer
relations and image and reputation.
4. The Financial Perspective These measures do not disregard the traditional need for
financial data. Timely and accurate financial data will always be a priority, and managers will
do whatever necessary to provide it. In fact, often there is more than enough handling and
processing of financial data. With the implementation of a corporate database, it is hoped that
more of the processing can be centralized and automated. But the point is that the current
emphasis on financials leads to the "unbalanced" situation with regard to other perspectives.
A Balanced Scorecard must be balanced. In this context, the internal auditor may prove
helpful to create and monitor the scorecard since he has access to company wide measure of
performance.
Outcome and driver measures are inextricably linked. if outcome measures indicate
there is a problem but the driver measures indicate the strategy is being implemented well
there is a high chance that the strategy needs to be changed.
Finally the scorecard emphasis the idea of cause and effect relationship among
measures. By explicitly presenting the cause and effect relationships among measures. by
explicitly presenting the cause and effect relationship, an organization will understand how
nonfinanacial measures(e.g. product quality) drive financial measures (e.g. revenue) bellow
figure present an example of how the measures link to each other in a cause and effect
relationship. Better selection, training, and development of manufacturing employees
(measured in term of “manufacturing yield”) lead to better product quality(measured in term
of” first pass yield”) and better on time delivery (measured in term of “order cycle time”).
These improvements in turn lead to improved customer loyalty which leads to enhanced
sales.(measured in term of “sales growth”)
The scorecard must not simply be a laundry list of measures. Rather, the individual
measures in the scorecard must be linked together explicitly in a cause effect way, as a tool to
translate strategy into action.
Perspective Measures
Customer Customer
perspective satisfaction
survey.
Financial
Profitability •Profitability •Market •25% per year •Optimize
•Fewer planes Value •20% per year routes
Lower costs •Increased •Seat •5% per year •Standardize
revenue Revenue plans
Increase •Plane Lease
Revenue cost
Customer
•Flight is on •FAA On •First in •Quality
On-time -time Time industry management
flights •Lowest Arrival •98% •Customer
More prices Rating Satisfaction loyalty
Customers •More •Customer •% change program
Customers Ranking
•No.
Customers
Lowest
Prices
Internal
•Fast ground •On Ground •25 •Cycle time
Improve turnaround Time Minutes optimization
Turnaround •On-Time •93% program
Time Departure
Q8) what are the different types of strategies mission at SBU level? How do these
missions affect strategic planning process and budgeting at SBU level?
Ans:-
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Business unit strategies deal with how to create and maintain competitive advantage
in each of the industries in which a company has chosen to participate. The strategy of
business unit depend on two interrelated aspect: 1) its mission (what are its objective) and
2) its competitive advantage (“how should the business unit compete in its industry to
accomplish its mission”) .
Harvest
This mission has the objective of maximizing short term earning and cash flow , even at the
expense of market share.
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Divest
This mission indicates a decision to withdraw from the business either through a process of
slow liquidation or outright sale.
The mission for existing business units could be either build , hold, or harvest .These
mission constitute a constitute a continuum with “pure build” at one end and “pure harvest”
at the other end. To implement the strategy effectively there should be congruence between
the mission chosen and the type of control used. we develop the control mission “fit” using
the following line of reasoning”
• The mission of the business unit influences the uncertainty that general managers
face and the short term versus long term trade off they make.
• Management control system can be systematically varied to help motivate the
manager to cope effectively with uncertainty and make appropriate short term
versus long –term tradeoffs.
• Thus different mission often require systematically different management control
system.
Strategic planning
While designing a strategic planning process, several design issue need to be
considered. A business unit responds to these issues tend to depend upon the mission its
perusing.
When the environment is uncertain the strategic planning process is especially
important. Management need to think about how to cope with the uncertainties and this
usually requires a longer range view of planning than is possible in the annual budget. If the
environment is stable there may be no strategic planning process at all or only a broad brush
strategic plan. Thus , the strategic planning process is more critical and more important for
build as compare with harvest , business unit s. nevertheless some strategic planning of the
harvest business units may be necessary because the company overall strategic plan must
encompass all of its business to effectively balance cash flow.
In screening capital investment and allocating resources the system may be more
quantitive and financial for harvest units. A harvest business unit operates in mature industry
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and does not offer tremendous new investment possibilities. Hence the required earning rate
for such a business unit may be relatively high to motivate the manager to search for project
with truly exceptional returns. Since harvest units tends to experience stable environment
analysis often can be used more confidently. The required information used to evaluate
investment from harvest units is primarily financial.
A build unit is positioned on the growth stage of the product life cycle. Since the
corporate office wants to take advantage of the opportunities in a growing market senior
management may set a relatively low discount rate , thereby motivating build managers to
forward more investment ideas to corporate office. Given the product/market uncertainties
financial analysis of some project , no financial data are more important.
Budgeting
Implication for designing budgeting system to support, varied mission is shown in figure.
The calculation of variance analysis comparing actual result with the budget identifies
variances as either favorable or unfavorable. However a favorable variance neither imply
favorable performance nor does an unfavorable or unfavorable variance, one the one hand
and favorable or unfavorable performance, on the other hand, depend upon the strategic
context of the business unit under evaluation.
The following additional differences in the budget process are likely to exist between build
and harvest units.
• In contrast to harvest units, budget revisions are likely to be more frequent for build
units because their product/market environment changes more frequently.
• Build unit managers may have greeter input and influence than harvest unit managers
in formulating the budget. This because build managers operate in rapidly changing
environment and have better knowledge than senior management of these changes.
For harvest units with stable unit with stable environment, thus manager knowledge
less important.
Q.11
Kamal Enterprises (KE) is a medium sized company with Rs.225 Crores
turnover for the year 2004- 2005, during which the corporate income tax rate was 40%.
KE is planning to install a new equipment worth Rs.4.5 Crores which is expcted to
improve quality resulting in increased turnover over current by 6% and reduce
variable expenses to turnover ration by 2%. However, 8.48% increase in fixed expenses
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would also result and networking capital would increae by Rs.1.8 crores over current
level. Currently the variable expenses are Rs.150 crores; fix expenses Rs. 49.5 crores;
interest Rs.3 crores; net working capital Rs.36 crores; fixed asssets Rs.51 crores.
Borrowing Rs.36 crores : equity Rs.51 Crores. Return is measured pre-interest and
taxes on capital employed.
a. What is the present return on equity and capital employed?
b. Compare these figures to respective figures post installation
c. Explain the process by which Gautam-Fianancial controller may determine
relative importance’s of parameters to be controlled to ensure project success.
Ans:
Particular present Future
Sales 225 225+ 6% = 238.5
(-) Variable 150 154.23
(-) Fixed Cost 49.5 53.70
(-) Interest 3 (42.3 x 8.33%)=
03.52 22.5
27.05
(-) Tax(40%) 9 10.82
13.5 16.23
= 26.47% = 31.8%
=15.52% =17.38%
Finishing
Variable 7 7
Cost/Unit
Fixed Cost/Unit 45 45
Transfer 35
Price/Unit
Processing
Variable 11 11
Cost/Unit
Fixed Cost/Unit 30 30
Total Cost 41 87 93
Case II :
Selling price = Rs.80 Expected Sales = 3000 units
DIV A DIV B COMPANY
REVENUE/Unit 35 80 80
Finishing
Variable 7 7
Cost/Unit
Fixed Cost/Unit 30 30
Transfer 35
Price/Unit
Processing
Variable 11 11
Cost/Unit
Fixed Cost/Unit 20 20
Total Cost 31 72 68
Case III:
Selling price = Rs.50 Expected Sales = 6000 units
DIV A DIV B COMPANY
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REVENUE/Unit 35 50 50
Finishing
Variable 7 7
Cost/Unit
Fixed Cost/Unit 15 15
Transfer 35
Price/Unit
Processing
Variable 11 11
Cost/Unit
Fixed Cost/Unit 10 10
Total Cost 21 57 43
B) From the above contribution calculation for different selling price with respective
volume sales,it is clear that when selling price is =Rs.80 with sales volume = 3000 units
result in positive contribution by both profit centers,which gives profit Rs 12 /unit,with Div
A’s contribution =Rs 4/Unit and Div B’s Contribution =Rs 8/Unit.There firm enjoy the profit
of Rs 12/Unit.While in other case say case I Div A incurred loss of Rs 6/unit which in turn
result in overall loss of Rs 3/unit for the firm.In case III Div A enjoys the profit of Rs
14/unit ,while Div B incurred a loss of Rs.7/Unit which results in overall loss of Rs.7/Unit for
the firm
OR
Contribution /Unit 50
Here if the division A buys the product at Rs 1000 from the outside parties instead of
division B, the company as whole will be loosing the contribution otherwise would have been
earned of Rs.50, because it can produce the said item at variable cost of 950 only. Therefore
Division A should not buy the product from outside at Rs.1000
(b)If the market price reduce by Rs 80 per unit , the new market price will be
Rs.920 per unit.
Price drops from 1000 to 920
SP per unit 920
VC per unit 950
Contribution per unit (30)
In this situation the revised prices reduces the division B’s contribution and it becomes -30
per unit, it will better if division A goes for outside purchase because to produce the
component Division B has to incur variable cost of Rs.950/ but the said component is
available at less than that so from B’s as well as from company’s point of view it is advisable
for A to go for outside purchase.