Question 1

Decentralized firms can delegate authority and yet retain control and monitor managers' performances by structuring the organization into so-called "responsibility centers." Which one of the following business segments/responsibility centers is most like an independent business?

Accepted Answer

Investment center is the responsibility center that is most like an independent business as it has the autonomy to make capital expenditure decisions and generate returns on those investments. It is responsible for both revenues and costs and is evaluated on its overall profitability.

Question 2

James Webb is the general manager of the Industrial Product Division, and his performance is measured using the residual income (RI) method. Webb is reviewing the followed forecasted information for his division for the coming year:  If the imputed interest charge is 15% and Webb wants to achieve an RI target of $2 million, what will costs have to be in order to achieve the target?

Accepted Answer

The formula for residual income is as follows:

Residual Income = Operating Income - (Imputed Interest Rate x Total Assets)

To achieve a target residual income of $2 million, we need to set up the equation as follows:

$2,000,000 = Operating Income - (0.15 x Total Assets)

Solving for Operating Income, we get:

Operating Income = $2,000,000 + (0.15 x Total Assets)

From the forecasted information given, we know that Operating Income for the coming year is expected to be $3,620,000. Substituting this value into the equation, we get:

$3,620,000 = $2,000,000 + (0.15 x Total Assets)

Solving for Total Assets, we get:

Total Assets = ($3,620,000 - $2,000,000) / 0.15

Total Assets = $10,800,000

Therefore, costs will have to be equal to Total Assets in order to achieve the target RI.

Costs = Total Assets = $10,800,000

The correct answer is D ($25,150,000)

Question 3

Which of the following items would most likely not be incorporated into the calculation of a division's investment base when using the residual income (RI) approach for performance measurement and evaluation?

Accepted Answer

Land being held for future use is not generating any current income, and therefore would not be incorporated into the calculation of a division's investment base when using the residual income (RI) approach for performance measurement and evaluation. The other options (fixed assets, inventories, accounts payable, and accounts receivable) are all parts of the division's ongoing operations and would contribute to the division's investment base.

Question 4

The basic objective of the residual income (RI) approach to divisional performance measurement and evaluation is to have a division maximize its

Accepted Answer

The residual income (RI) approach focuses on ensuring a division generates operating income that exceeds a charge for the capital invested in the division. This approach encourages divisions to make investments that yield returns above the minimum required rate of return, thus maximizing wealth for the entire company.

Question 5

Return on investment (ROI), residual income (RI), and Economic Value Added (EVA) all have in common which one of the following characteristics?

Accepted Answer

ROI, RI, and EVA all involve measuring the performance of an investment or subunit in relation to the amount of investment made. Therefore, they all incorporate some measure of investment into the performance metric.

Question 6

An appropriate transfer price between two divisions of The Stark Company can be determined from the following data:  What is the natural bargaining range for the two divisions?

Accepted Answer

The answer of An appropriate transfer price between two divisions...

Question 7

Which of the following is not a criticism of using return on investment (ROI) for divisional performance evaluation?

Accepted Answer

This statement is actually a criticism of using ROI, as it suggests that ROI is not an accurate measure of performance because it does not take into consideration the amount of capital invested. The other options are criticisms of using ROI for divisional performance evaluation.

Question 8

Managerial performance can be measured in various ways, including return on investment (ROI) and residual income (RI). A good reason for using RI rather than ROI is:

Accepted Answer

Using RI promotes goal congruence, which means that it aligns the manager's goals with the company's goals as they are both focused on generating higher residual income. ROI, on the other hand, may encourage managers to make investments that are not profitable enough to meet the company's minimum rate of return requirement, which is not in the company's best interest. Therefore, using RI is a better measure of managerial performance.

Question 9

Consider the following data for three divisions of a company, X, Y, and Z:
  Required:
Calculate return on investment (ROI), return on sales (ROS), and asset turnover (AT) for each division. Round your answers to two decimal places where appropriate.

Accepted Answer

The answer of Consider the following data for three divisions...

Question 10

Assume that the Entertainment Division is able to purchase a large quantity of video cards from an outside source at $8.70/unit. The Video Cards Division, having excess capacity, agrees to lower its transfer price to $8.70/unit. This action would likely:

Accepted Answer

The answer of Assume that the Entertainment Division is able...

Question 11

The Plastics Division sells its commercial products at full cost plus a 25% markup and believes the proprietary plastic component made for the Entertainment Division would sell for $6.25/unit on the open market. The market price of the video card used by the Entertainment Division is $10.98/unit. A per-unit transfer price from the Video Cards Division to the Entertainment Division at full cost, $9.15, would:

Accepted Answer

The answer of The Plastics Division sells its commercial products...

Question 12

Listed below is selected financial information for the Western Division of the Henzel Company for last year:  If Henzel treats the Western Division as an investment center for performance evaluation purposes, what is the before-tax return on investment (ROI) for last year? (Round your answer to two decimal places.)

Accepted Answer

The answer of Listed below is selected financial information for...

Question 13

Residual income (RI) may be a better measure for performance evaluation of an investment center manager than return on investment (ROI) because:

Accepted Answer

Residual income encourages managers to make profitable investments that may have a lower return on investment (ROI) but still add to the overall profitability of the company. This avoids the issue where managers of high-return divisions might reject projects that, while profitable, could lower their division's overall ROI.

Question 14

Which one of the following statements pertaining to the return on investment (ROI) as a divisional performance measure is incorrect?

Accepted Answer

ROI relies on financial measures that are subject to manipulation just like any other form of performance measure. While ROI may be more easily calculated and compared across divisions, it is important to recognize that any metric can be manipulated or misinterpreted.

Question 15

Ellie Jackson is upset by the new transfer pricing system recently implemented at Monson Company. As manager of the first of three sequential production departments, she can't see the value of a transfer pricing system for her department. "We can't sell what we produce to any outside buyer. And we're never pushed for capacity, so I don't think transfer pricing will do anything but make my life more complicated." You are Ellie's boss.
Required:
Explain how transfer pricing can help Ellie evaluate her department's operations and allow you to more effectively evaluate her management abilities.

Accepted Answer

The answer of Ellie Jackson is upset by the new...

Question 16

Economic value added (EVA) for a division:

Accepted Answer

Economic value added (EVA) measures the difference between the division's actual earnings (adjusted for bias effects of accounting conservatism) and the cost of capital. It is a useful tool for evaluating the financial performance of investment centers as it provides a measure of the profitability of a division's operations after considering the cost of the capital it uses to generate those profits. It encourages divisional managers to accept only new capital projects with a return on investment (ROI) that exceeds the current ROI but it is not usable for income tax determination purposes. The dollar amount of EVA does not indicate how much the division earned for the company, it indicates how much the division exceeded or fell short of the cost of capital.

Question 17

Alice and Jon Harrison operate two full-service dry cleaning outlets in the St. Louis metropolitan area. One of the outlets generates over $800,000 revenue per year and has more than a million dollar investment in state-of-the-art equipment. The other outlet is older, generates $20,000 revenue per month, and has 20-25 year-old equipment currently worth approximately $85,000. Both outlets are profitable with growing market bases. (The ratio between operating income and sales for each unit, based on historical-cost accounting numbers, is roughly the same.) Managers at each location are currently paid a base salary, and receive a year-end bonus which is five percent of total operating profit produced by both outlets combined. Alice has just finished a workshop on investment center performance evaluation, and wants to change the evaluation and reward structure, hoping to motivate the two managers to produce greater revenue and profit.
Required:
What type of evaluation mechanisms should she propose for the two managers?

Accepted Answer

The answer of Alice and Jon Harrison operate two full-service...

Question 18

Selected data from an investment center's accounting records reveal the following:
  Required:
1. Calculate return on investment (ROI) for this investment center (show separately the two major components of the ROI calculation)
2. Calculate residual income (RI) for this investment center.
Round all computations to two decimal places.

Accepted Answer

The answer of Selected data from an investment center's accounting...

Question 19

Which of the following is a true about return on investment (ROI)?

Accepted Answer

B) Its use can motivate suboptimal decision making on the part of subunit managers. This is because managers might focus on decisions that improve ROI in the short term at the expense of the company's long-term health.

Question 20

Assume that the Plastics Division has excess capacity and it has negotiated a transfer price of $5.60 per plastic component with the Entertainment Division. This price will likely:

Accepted Answer

The answer of Assume that the Plastics Division has excess...

Quiz 19: Strategic Performance Measurement: Investment Centers and Transfer Pricing

Decentralized firms can delegate authority and yet retain control and monitor managers' performances by structuring the organization into so-called "responsibility centers." Which one of the following business segments/responsibility centers is most like an independent business?

Which of the following items would most likely not be incorporated into the calculation of a division's investment base when using the residual income (RI) approach for performance measurement and evaluation?

The basic objective of the residual income (RI) approach to divisional performance measurement and evaluation is to have a division maximize its

Return on investment (ROI) , residual income (RI) , and Economic Value Added (EVA) all have in common which one of the following characteristics?

An appropriate transfer price between two divisions of The Stark Company can be determined from the following data: What is the natural bargaining range for the two divisions?

Which of the following is not a criticism of using return on investment (ROI) for divisional performance evaluation?

Managerial performance can be measured in various ways, including return on investment (ROI) and residual income (RI) . A good reason for using RI rather than ROI is:

Consider the following data for three divisions of a company, X, Y, and Z: Required: Calculate return on investment (ROI), return on sales (ROS), and asset turnover (AT) for each division. Round your answers to two decimal places where appropriate.

Assume that the Entertainment Division is able to purchase a large quantity of video cards from an outside source at $8.70/unit. The Video Cards Division, having excess capacity, agrees to lower its transfer price to $8.70/unit. This action would likely:

Residual income (RI) may be a better measure for performance evaluation of an investment center manager than return on investment (ROI) because:

Which one of the following statements pertaining to the return on investment (ROI) as a divisional performance measure is incorrect?

Economic value added (EVA) for a division:

Which of the following is a true about return on investment (ROI) ?

Assume that the Plastics Division has excess capacity and it has negotiated a transfer price of $5.60 per plastic component with the Entertainment Division. This price will likely: