1. The business unit information prepared for public reporting purposes may not be appropriate for the evaluation of business unit management performance because:
• an allocation of common costs incurred for the benefit of more than one business unit must be included for public reporting purposes,
• in companies financial reports, common costs are often allocated on an arbitrary (non-causal) basis,
• the business units identified for public reporting purposes may not coincide with actual managerial responsibilities. A business unit may have different operating responsibilities in practice than that described in the financial report. For example, for simplicity the annual report may group operations into geographical-based categories (foreign verus domestic; western states versus Midwest, etc), when instead unit mangers are given responsibility for product lines including all areas the product is sold.
• If business unit leaders’ performance is evaluated on the basis of the information in the annual financial report, unit managers may become frustrated and dissatisfied because they would be held responsible for an earnings figure that includes the arbitrary allocation of common costs and costs traceable to but not controllable by them. This type of performance evaluation is unfair to managers and does little to motivate them. As a result of this dissatisfaction, the best managers may seek employment elsewhere.
2. The company should consider establishing profit centers for its business units. The contribution income statement should be used to evaluate Samentech Inc.’s business unit managers. The contribution income statement is the best measure of performance because it distinguishes both:
a) traceable and untraceable costs, and
b) controllable and uncontrollable costs (some costs might be traceable to a unit, but not controllable in the short term, as for example facilities costs).
Many times it can be advantageous to compare the managers’ performance to a budget, where the budget is determined with an explicit consideration of conditions in the industry for that unit. This way managers are not rewarded or penalized for favorable or unfavorable conditions within the market place that are beyond their control.
Also, the company should consider using the balanced scorecard, in order to include in the performance measurement all of the critical success factors that managers should attend to in order to align their performance with the company’s strategic goals.
3. Using the BSC and the contribution income statement should help Samentech Inc. bring its managers’ decision- making more in line with overall corporate strategy. It will specifically help control the lack of motivation and cooperation that is commonplace in Samentech Inc.’s current operations.