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Question: Pro is a division of Mo and is an investment center. The head office controls finance,HR and IT expenditure but all other decisions are devolved to the local centers.
The statement of financial position for Pro shows net value of all assets and liabilities to be $4,500m at the start of the year and $4,890m at the end. It carries no debt itself although the group has debt liabilities.
The management accounts for income read as follows:Revenue 3,500m
COS 1,800m
Local administration 250m
IT cost 50m
Distribution 80m
Central administration 30m
Interest charges 90m
Net Profit 1200mIgnore taxation.
If the cost of capital is 12%, what is the division’s residual income?A. $660.
B.$830
C.$1,10
D.$1,280Answer is B.
Dear Teacher Moffat,
Kindly explain about net value taken there are given opening and closing amount.
How to get this answer as well.
Thank you so much.
May.The controllable profit is 1,200 + 50 + 30 + 90 = 1,370
The opening net assets are 4,500.
Therefore the RI = 1,370 – (12% x 4,500) = 830.
(Use the opening net assets in the exam, unless told otherwise)
Thank you Teacher Moffat. But What is the reason for using opening net assets instead of closing?
Because it is the assets at the start of the year that are most likely to have been earning the profits for the year.
Hi sir,
could you please explain why IT costs and interest charges are excluded from calculation of controllable profit?
i somehow agree on excluding central administration costs because there may be out of control of the division but about the costs mentioned, i doubt it
Thank you in advance for considering my questionIT costs and interest charges are excluded from the calculation of controllable profit because they are costs that are controlled by the head office and not by the divisional manager.
Controllable profit is a measure of the profit that is under the control of the divisional manager, and it is used to assess the performance of the division and to reward staff.
By excluding IT costs and interest charges, which are determined by the head office, the controllable profit focuses solely on the costs that the divisional manager can control. This allows for a more accurate evaluation of the division’s performance and the manager’s effectiveness in managing those controllable costs.
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