FINANCIAL PERFORMANCE MEASURES – WEEK 8

The Chilled Leisure Company (CLC) has decentralised the operation decision-making of its divisional units. The Chief Operating Manager for each of these business units is given a great deal of freedom in their decision making however, the company offers bonuses of up to 100% of their annual fixed salary for achieving high profit returns and at the same time, carefully managing the amount of capital they use in their divisions.

CLC uses traditional performance measures such as Return on Investment (ROI) or simple Profit measures. CLC’s Chief Executive and Chairman believe profit-based measures are still the most important measure because that is what shareholders want.

The results for 2016 for CLC’s Hotels and Casino Resort Division (CRD) are as follows

Required:

a) Calculate what the Return on Investment (ROI) for the Casino Resort Division was for 2016?

The manager of the Casino Resort Division wants to improve his ROI for 2017 by either cutting costs or decreasing the amount of capital used in the HLR Division. He wants to achieve ROI 4% higher than the 2017 result.

b) Calculate by how much the manager would have to cut costs to achieve this new level of ROI (If the capital invested remained unchanged).

c) Calculate by how much the manager would have to reduce capital IF the profit remained the same (without any cost cutting)?

d) If the success of the Casino Resort Division was related to staff training and marketing and the manager decided to cut both the training and marketing spending to achieve his goal and earn a larger bonus, what type of problem would occur which often is related to only using ROI as a measure of performance?

e) If CLC also used Economic Value Add (EVA) to measure performance and the capital employed (after adjustment) in the Casino Resort Division was $11,000,000, the after-tax profit was $1,680,000 and the Weighted Average Cost of Capital (WACC) was 12%, would the Casino Resort Division be making an acceptable return? (Show calculations and give reasons for your answer.)

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