Suyanto, Responsibilty Centre

8/9/2019 Suyanto, Responsibilty Centre

1/20

ORGANIZATIONAL DESIGN, RESPONSIBILITYCENTERS AND FINANCIAL CONTROL

Presentation by :

Dr. Suyanto, SE, MM, M.Ak

Akuntansi Manajemen Lanjut

Fakultas Ekonomi Jurusan Akuntansi


2/20

Readings will be discussed :

Transfer Pricing With ABC

Heres the strory of how a multinational pharmaceutical company solved

its transfer pricing problems by using activity-based costing.

(by Robert S. Kaplan, Dan Weiss, and Eyal Desheh)

What is EVA, and How Can It Help Your CompanyEconomic value added (EVA) and market value added (MVA) are not just

performance metrics used to rank companies for investors they can be used

to manage your company better. (by Paul A. Dierks, CPA; and Ajay Patel)

Greening With EVA

Now you can use Economic Value Added and other

shareholder value measures to improve your corporate

capital investment decisions. (by Marc J. Epstein and S.

David Young)


3/20

Transfer Pricing With ABC

TEVA PHARMACEUTICAL

INDUSTRIES LTD.

Decentralized cost & profit center

Cost systems : variable cost & fixed cost

strategy

Transfer Pricing System

Marginal cost = material costbased on

a strom of controversy :

1. Extremely high profit the materials costs only to be charged

2. The operation would get credit only for the expenses of purchased

materials

3. Less efficient than outside manufacturers no incentive to shift their

source of supply

4. Using only a short-run contribution margin approach would not solve the

problems caused by treating the marketing divisions as revenue centers

Marketing >< Operation


4/20

What everyone wanted ?

(The characteristics of transfer pricing systems)

Senior

Management

consistent with long-run profit

distinguish costs relevant for short-run & long-run

decisions

support marketing decisions : product mix, new product

introduction, product deletion, pricing

support operations decisions : inventory levels, batch

size, process improvements, capacity management,

outsourcing

Division

Manager

Financial performance fairly, scope of authority, decision

of marketing div. would reflect both sales revenue &associated expense in operation div.

Financial

StaffCredible & relied at all level organization; to be clear, easy

to explain & use.


5/20

TRANSFERPRICE APPROACHES

TRADITIONAL METHODS

a. Market price

b. Full cost

c. Marginal costd. Negotiated price

considered

but rejected

No feasible

No capture the actual cost

structure

inadequate for their purposes

consume excessive time on

nonproductive discussions

ACTIVITY-BASED COSTING METHODS

Calculating the activity

costs, activity cost driver

rates, & product cost for

the prior year

This information are defensiable, &

quantifiable answer to a question about

how much it cost to manufacture a

special small batch for a customer.


6/20

THE ABC TRANSFERPRICE MODEL STRUCTURE

UNIT COSTS

BATCH-LEVEL

COSTS

PRODUCT

SPECIFIC COSTS

PLANT-LEVEL

COST

The direct expenses associated with producing

individual product unit, include the cost of raw

materials, packaging materials, & direct wages

paid to production workers.

The expenses of resources used for each

production or packaging batch, mainly the costsof preparation, setup, cleaning, QC, laboratory

testing, computer & production management.

The expenses incurred in registering the

products, making changes to a products

production processes, & designing the package.

The cost of maintaining the capacity of

production lines depreciation, inspection,

insurance, security, & landscaping.


7/20

USING ABC COSTS FORTRANSFERPRICING

Price are set for coming year based on budgeted data.

Calculate standard activity cost driver rates for each activity.

These cost get charged to products based on the actual quantity

of activities demanded. Eliminates monthly or quarterly fluctuations in product cost

caused by variations in actual spending, resource usage, &activity levels.


8/20

Ongoing Benefits from ABC Transfer Pricing System

Investment in new production line can be assessed by simulating

production cost.

Transfer pricing systems motivates cost reduction & production

efficiencies in the manufacturing plants

ABC information helps managers determine which manufacturing

facility is appropriate for different types of products.

ABC information is being used to determine operating strategy.

The best news : Harmony is growing

The ability to measure profit performance

under changing organizational structures.

Led to a dramatic reduction conflict

among marketing & manufacturing

managers.

ABC Transfer

Pricing System


9/20

What is EVA, and How Can It Help Your Company

Economic Value Added

(EVA)

Combine the concept of residual incomewith principles of modern corporate

finance, that all capital has a cost and

that earning more than the cost of capital

creates value for shareholders.

NOPAT

minus (-)

Capital

charge

Profits from companys operation after tax

before financing cost & noncash-booking

Cash flow required to compensate

investors for the riskiness of the businessgiven the amount of capital invested

cost of capital x capital


10/20

What is Market Value Added (MVA) ?

MVA :

A cumulative measure of corporate performance that looks at how much a

companys stock has added to (or taken out of) investors pocketbooks over

its life & compares it with the capital those same investors put into the

firm.

MVA = [(shares outstanding x stock price)

+ market value of preferred stock + marketvalue of debt] total capital

calculated

MVA (+) :

shareholder richer

MVA (-) :

Shareholder wealth

has been destroyed


11/20

Two Methods of Calculating a Firms EVA

builds up to the rate of return on capital from standards return on equity

in three steps : eliminating financial leverage, eliminating financing

distortions, & eliminating accounting distortions.

NOPAT is a sum of returns attributable to all providers

of funds to the company,

NOPAT return is completely unaffected by the financial

composition of capital.

FINANCING APPROACH :

result :


12/20

Two Methods of Calculating a Firms EVA

OPERATING APPROACH :

starts by deducing operating expenses including depreciation

from sales, but other noncash-bookkeeping entries are ignored.

Equity equivalent (EE) reserve adjustments are made,

Interest expense is ignored, because it is a financing

charge, but other (operating) income is added to get

pretax economic profits (NOPBT).

Equity equivalents :

Adjustments that turn a firms accounting book value into economic book value,

which is a truer measure of the cash that investors have at risk in the firm & upon

which they expect to accrue some returns


13/20

CRITICISMS OF EVA & MVA

EVA does not account for real options (growth opportunities) inherent in

investment decisions.

Market value of securities reflect markets perception of the value of

those growth opportunities, but EVA does not reflect this information.

Firms with fewer assets in place & substantial growth opportunities, year-to-year changes in EVA are less likely to explain changes in firm value.

To capture the growth opportunities,

managers also should focus on MVA,

because MVA is constructed off themarket value of firms securities, it

reflects the markets expectations of

future opportunities.

Using both EVA &

MVA allows to accountfor both year-to-year &

long-term changes in

value.


14/20

USING EVA & MVA WITHIN A COMPANY

EVA is adapted to this kind of situation that focuses of creatingshareholder value how capital is used & cash flow generated.

Focusing on EVA growth provides two benefits :

1. Managements attention is focused to increasing investor wealth.

2. Distortion caused by using historical cost accounting data are

reduced or eliminated. EVA can be used to hold management accountable for all economic

outlays that appear in the income statement.

EVA creates a common language for making decisions (especiallylong-term), resolving budgeting issues, evaluating performance units &managers, & measuring the value-creating potential of its strategic

options. EVA is linked strongly to share price performance & in conjunction

with MVA, provides a meaningful target to pursue for internally &externally decisions.


15/20

USING EVA TO FACILITATE THE MANAGEMENT OF COMPANY

Raise profit levels without raising the

amount of capital spent.

Use less capital.

Invest capital in high-return projects.

Basic means of raising

companys EVA

BENEFITS OF EVA INCENTIVE PLANS

EVA-based

incentive plan be

implemented

Employees to be

entrepreneurial, to

think & act owners.

Focus on

creating value

of the firm.

Revise the

compensation

systems

Bonuses &

pay schemes

Improve a

firms MVA


16/20

GREENING WITH EVA

EVA different with

conventional measures

EVA considers the cost of

all capital (debt & equity).

EVA is not constrained by

GAAP.

EVA = Net sales operating exp. taxes capital charges

calculating :

MVA = Market value Invested capital EVArelated

MVA is the present value of the firms expected future EVA.

EVA generates more attention than MVA, because its more

amenable to periodic performance measurement.


17/20

IMPLEMENTING EVA

Establish buy-in at the board & top

management levels

STEP 1 :

STEP 2 :

STEP 3 :

Set up a steering committee that

will make the major strate decisionson the EVA program (subject to

board approval)

The steering committee formulates a strategy.

What functions will be tied to EVA ?

Compensation

Strategic planning

Operating budgets

Capital budgets

Investor relations

How far down the hierarchy will EVA be

calculated ?

How will EVA be calculated ?

Management Compensation

Who will be covered ?

How will the bonus plan work ?Relation to nonfinancial measures

STEP 4 :

The steering committee appoints a

working committee to implementthe strategy.

STEP 5 : Set up a training program.


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EVA AND FINANCIAL MANAGEMENT

Its users are willing to make whatever adjustment are needed to

produce more economically valid numbers, because EVA no GAAP.

Proponents have been pushing companies to bring EVA into lower

levels of the organization on the assumption that all employees must

undertake their tasks with the overriding goal of creating shareholder

value.

EVA offers a means of measuring & communicating performance that

can be used in capital markets, for capital investment appraisal, & in

the evaluation & compensation of managerial performance.

EVA is innovative in three important ways :


19/20

EVA, CAPITAL INVESTMENT DECISIONS, AND

ENVIRONMENTAL IMPACTS

COMPANY

The quality of capital

investment decisions

Products, services,

& activities

The board lifecycleimpact in long-term

corporate profitability

(life of investment)

considering

General

capital

investment

Environmental

issues

Health & safety

EVAresolved

The potential contribution of

project with consistent language

communicated


20/20

BARRIERS AND CHALLENGES TO EVA IMPLEMENTATION

A full commitment from top management (CEO), not only must the

value creation philosophy be integrated with all companys key

systems, but it must constantly be reinforced in management meeting,

training, seminar, newsletter, performance review, & communication

with external. A decision on which, if any, adjustments are to be made the GAAP-

based accounting numbers.

A careful consideration of transfer pricing & overhead allocation

policies & their impact on EVA calculations.

Intensive training for any manager or employee whose bonuses will

be linked to EVA.

Suyanto, Responsibilty Centre

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