Sevilla Consulting offers environmental consulting services worldwide. The manag
ID: 2442519 • Letter: S
Question
Sevilla Consulting offers environmental consulting services worldwide. The managers of branch offices are rewarded for superior performance with bonuses based on the economic value that the office adds to the company. Last year's operating results for the results for the entire company and for its three officers, expressed in millions of U.S. dollars as are follows:Worldwide Europe Americas Asia
Cost of Capital 9% 10% 8% 12%
Total Assets $210 $70 $70 $70
Current Liabilities $80 $10 $40 $30
After-tax operating income $15 $5 $5 $5
1. Compute the economic value for each office worldwide. What factors affect each office's economic value added? How can an office improve its economic value added?
2. If manager's bonuses are based on economic value added to office performance, what specific action will managers be movitated to take?
3. Is economic value added the only performance measure needed to evaluate investment centers adequately? Explain your response.
Explanation / Answer
1. Compute the economic value for each office worldwide. What factors affect each office's economic value added? How can an office improve its economic value added?
Worldwide Europe America Asia
Operating
Income $15.00 $5.00 $5.00 $5.00
Total assets $210 $70 $70 $70
Less : CL $80 $10 $40 $30
Capital Invested $130 $60 $30 $40
Cost of Capital 9% 10% 8% 12%
Capital Charge $11.70 $6.00 $2.40 $4.80
EVA $3.30 -1.00 $2.60 $0.20
2. If manager's bonuses are based on economic value added to office performance, what specific action will managers be movitated to take.
They will need to increase EVA in following ways in order to justify their bonus entitlements or
1) increase Post-tax operating profit of the office concerned over the cost of capital charge .
2) To reduce invested capital.
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