In 2014, LifeLong Group was formed. The company is made up of two strategic business units (SBUs); LL Limited and FG Limited both of which are deemed to be investment centres.
LL Limited, which is the bigger of the two units, has two trading divisions:
Homewares division, which provides household cleaning products to the general public and the Manufacturing division, which manufactures machinery, which it sells mainly to the agriculture and construction industries. Most of the parts used in the manufacturing of the same machines are bought from FG Limited.
FG Limited makes components for the manufacturing industry from raw material imported from Africa and Asia. These components have a very strong market and are sold globally. Some of the components bought by FG Limited are sold to LL Limited.
Financial results of the two units for the year ended 30 June 2016 are as follows:
a) Evaluate the performance of each division of LL Limited and of FG Limited using both return on investment (ROI) and residual income (RI) and critically evaluate both methods as measures of divisional performance.
Assume a notional cost of capital of 12%.
(Use no more than 600 words – you may use fewer) (12marks)
Managers of each SBU have to follow group policy, which requires that where there are sales made between the SBU’s, they should meet to discuss and negotiate an appropriate transfer price.
For months FG Limited has continued to charge the same price for all its customers including the Manufacturing Division of LL Limited. Its position is that this is the fairest price to charge all customers including the Manufacturing Division. Market demand analysis shows that FG Limited satisfies only 85% of the external demand for its components.
The manager of the Manufacturing Division of LL Limited believes FG Limited has been taking advantage and charging a very high price for the component. He goes further to state that due to the high price being charged the Manufacturing Division has not been able to reduce prices and compete within the industry making the Manufacturing Division and thus LL Limited uncompetitive. An example is cited where recently the Manufacturing Division lost out on an order to a competitor who was able to charge a price 12% lower. The Manufacturing Division failed to win this potentially profitable order which it priced using its normal gross profit mark-up.
b) Discuss how the current transfer pricing policy is affecting the performance of LifeLong Group. (Use no more than 600 words – you may use fewer) (8 marks)
c) Assess the different methods, which can be used to set transfer prices for the Lifelong Group and explain, with calculations, the transfer price or prices at which the components could be supplied by FG Limited to LL Limited.
(Use no more than 600 words – you may use fewer) (20 marks)
PART B) 10 Marks
“What is the point of using non-financial measures of performance? Without a sound financial base there is no organisation”.
a) Critically discuss the rationale behind the Balanced Scorecard approach to performance measurement. Your discussion should pay particular attention as to why the emphasis on non-financial performance indicators is growing. (Use no more than 600 words – you may use fewer) (5 marks)
b) Using a not-for-profit organisation of your own choice and examples of your own invention, develop a Balanced Scorecard showing for each perspective two (2) reasoned key performance indicators (KPI’s), appropriate metrics to measure performance of your KPI’s, specific targets for each metric and, for each, a brief action plan to achieve your stated performance targets. (Use no more than 600 words – you may use fewer) (5 marks)