Chapter 7

MEASURING &CONTROLLING

ASSETS EMPLOYED

The purpose is the same with profit centers.

Profit vs Assets Employed. Business unit managers performance

objectives:1. Generate adequate profits from the

resources at their disposal.2. Invest in additional resources only when the

investment will produce adequate return.

Structure of the Analysis

Structure of the Analysis Two ways of relating profit to assets

employed:1. Return on Investment (ROI)2. Economic Value Added (EVA)

See exhibit 7.1

Measuring Assets Employed

Decide the investment base. Two questions:

1. What practices will induce business unit managers to use their assets most efficiently & to acquire the proper amount & kind of new assets?

2. What practices best measure the performance of the unit as an economic entity?

Cash Receivables Working Capital in General Property, Plant & Equipment Leased Assets Idle Assets Intangible Assets Noncurrent Liabilities The Capital Charge

Measuring Assets Employed

Benefits of ROI:1. A comprehensive measure2. ROI is simple to calculate.3. A common denominator that may be applied to

any organizational unit responsible for profitability.

EVA versus ROI

EVA benefits over ROI:1. All business units have the same profit

objective for comparable investment.2. Decisions that increase a center’s ROI may

decrease its overall profit.3. Different interest of rates may be used for

different types of assets.4. EVA has a stronger positive correlation with

changes in a company’s market value.

EVA versus ROI

Shareholders are important stakeholders in a company.

Reasons why shareholder value creation is critical to the firm:1. It reduces the risk of takeover.2. Creates currency for aggressiveness in mergers

& acquisitions.3. Reduces cost of capital, which allows faster

investment for future growth. The best proxy for shareholder value at the

business unit level is to ask business unit managers to create & grow EVA.

EVA versus ROI