For what purpose is controllable margin most useful?
a. Preparing the master budget
b. Performance evaluation of profit centers
c. Break-even analysis
d. Evaluating cost centers
The correct answer and explanation is :
Correct Answer:
b. Performance evaluation of profit centers
Explanation:
Controllable margin is most useful for performance evaluation of profit centers because it represents the portion of profit that a manager or division has direct control over. Controllable margin is calculated as:
[
\text{Controllable Margin} = \text{Contribution Margin} – \text{Controllable Fixed Costs}
]
This metric helps in assessing how well a profit center is performing under the influence of its manager.
Why Not the Other Options?
- (a) Preparing the Master Budget:
- The master budget involves sales, production, and financial budgets, which require estimated revenues and costs but not controllable margin specifically.
- Instead, budgets focus on contribution margin, sales forecasts, and total fixed costs rather than evaluating controllable elements separately.
- (c) Break-even Analysis:
- Break-even analysis determines the point where total revenue equals total costs.
- It primarily relies on contribution margin, not controllable margin.
- Controllable margin includes fixed costs that are within a manager’s control, which are not directly needed for break-even calculations.
- (d) Evaluating Cost Centers:
- Cost centers focus on managing and minimizing costs rather than generating profit.
- Since controllable margin measures profitability, it is more relevant for profit centers, not cost centers.
- Cost centers are better evaluated using variance analysis and cost control techniques.
Conclusion:
Since controllable margin reflects profits that managers can directly influence, it is the best metric for evaluating the performance of profit centers. It helps assess how effectively managers control revenues and costs within their designated areas.