Essay About Disadvantages Of Using Roi And Sales Revenue

Please List the Advantages and Disadvantages of Using Roi to Asses to Divisions Performance
KOZMINSKI UNIVERSITY[Advanced Performance Management][Purity Steel Corporation]Adham 34094Alfredo Chirag Sheth 34114Xiaoming Zhang 34122[Submission Date – 16-11-2017]Academic Year 2017/2018Semester: 1I hereby certify that this paper is the result of my own work and that all sources I used have been reported.[pic 2]————————————————–Signature© Kozminski University 20161.1 Please list the advantages and disadvantages of using ROI to asses to divisions performance? Measuring return-on-investment is one of the widely used performance measures in an investment center. The ROI calculation illustrates the relationships between the profits and the capital used to create that amount of profit in a division. The formula of ROI is: ROI= Income / Invested CapitalIt can also be rewritten as ROI= (income/ invested capital) = (income/ sales revenue) x (sales revenue/ Invested capital), which is sales margin multiplied by capital turnover.Advantages:Good Economic measure, easily compared between various sized divisions Performance and standards easily understood for non-financial managersMake managers pay more attention on assets used to make profit Highly motivationalHigh levels of controllabilityDisadvantages:Disfunctional for decision making if used for investment decisions, short-term Focus, Creates incentive for inaccurate financial statementsSelf interest of managers dominates decisionsEasy to manipulate1.2 Please refer to the compensation plan used in purity steel corporationA successful incentive compensation plan should recognize the desired behavior that the company wants to stimulate within the managers. The current compensation plan communicates the objectives that WSD management hopes to achieve. It consists of a combination of a basic salary and extrinsic rewards. Return-on-investment is the primary source of measure for the plan.ROI was capped at 20% and 5% was established at the floor. As a performance measure, ROI was introduced because it takes account both branch income and the capital invested in the particular branch.ComponentsBase salary:Determined mostly on dollar sales volume of the district in the prior year.Increase in sales or profitability consideredEstablished by General Manager, WSD and ranges will be reviewed periodically to keep the Division competitive with similar companies.Growth Incentive:Is calculated as $1750 for every $500,000 of increased sales during the year.An advantage of a formula-based plan is that managers know exactly what the will receive.Return-on-Investment Incentive:Measures how effectively each branch used its invested capital to earn a profit.Managers paid in direct proportion to their effective use of assets placed at their disposalEmphasis: to increase the return at any level of investment, high or lowLimitations on ROINo incentive paid to managers below 5% before federal taxesNo additional incentive will be paid above 20%No payments will be made in excess of $50,000Calculation on ROI incentiveExact incentive amounts cannot be determined if illustrated using a graph. However rough estimates can be determined (Exhibit 2)Exact amounts can be determined by following the steps showed in the case study Problems with current compensation plan:Capping the ROI amounts at $50,000 could result in branch managers not performing at their optimal levels, they will not pursue higher growth after reach the limitation ROI is a short-term measure and is significantly influences managers to make decisions only considering short- term advantages or disadvantages, especially when making investment decisions, ROI is not a good choice.