Question 1

Division A of a firm produces a single product, which is sold only to Division B. Division A has a total investment of $1,000,000, while Division B has a total investment of $2,000,000. Division A annually sells 100,000 units of its product to Division B for $5 per unit and earns $150,000 in operating income. Division B currently earns $250,000. If Division A raises its selling price to $6 per unit and nothing else changes:

Accepted Answer

D

Question 2

Residual income measures a company's profits given a required rate of return.

Accepted Answer

Residual income is calculated by subtracting the required rate of return from a company's net income. It measures the company's profitability after taking into account the cost of capital necessary to generate that profit.

Question 3

Return on investment can be decomposed into two ratios: investment turnover and return on sales.

Accepted Answer

Return on investment (ROI) is calculated by dividing the net profit by the total investment. This can be further decomposed into investment turnover ratio (sales/investment) and return on sales ratio (net profit/sales). Therefore, the statement is true.

Question 4

Technical details about complex manufacturing processes are examples of specific
knowledge.

Accepted Answer

Technical details about complex manufacturing processes require specialized knowledge and expertise, therefore qualify as specific knowledge.

Question 5

In a profit centre, managers' primary goal is to maximize revenues.

Accepted Answer

In a profit center, managers aim to maximize profits, which involves both increasing revenues and controlling costs.

Question 6

If manufacturing departments are only responsible for production decisions, they are considered cost centres.

Accepted Answer

Cost centres are responsible for controlling costs and expenses. Since manufacturing departments are only responsible for production decisions, they fall under the category of cost centres.

Question 7

KNY Corporation reported operating income of $80,000 and average operating assets of $120,000 in a recent accounting period. Which of the following transactions would definitely increase KNY's return on investment?

Accepted Answer

The answer of KNY Corporation reported operating income of $80,000...

Question 8

Responsibility accounting is the process of using financial information to justify pay increases and promotions for managers.

Accepted Answer

Responsibility accounting is the process of assigning responsibility for specific areas of a company's operations to individual managers or departments, and holding them accountable for the performance of those areas. It is not directly related to pay increases and promotions, although may be considered as a factor in evaluating a manager's overall performance.

Question 9

Which of the following responsibility centres can be evaluated using residual income?

Accepted Answer

Residual income is a performance measure used to evaluate investment centres, which are responsible for managing assets and making investment decisions. It takes into account the cost of capital invested in the centre and compares it to the income generated by the investments. Choice A, cost centres, do not have the authority to make investment decisions, while choices B and C, profit and revenue centres, are evaluated using other performance measures such as return on investment (ROI) or profit margin.

Question 10

Return on investment is typically calculated as net income divided by total sales.

Accepted Answer

Return on investment (ROI) is typically calculated as net income divided by total investment or capital employed, rather than total sales.

Question 11

Residual income is calculated as:

Accepted Answer

Residual income is calculated by subtracting the product of the required rate of return and average operating assets from the operating income.

Question 12

Compensation contracts can be based on accounting and / or non-accounting measurements.

Accepted Answer

Compensation contracts can include a mix of accounting measurements such as profits, revenues, earnings per share, and non-accounting measurements such as customer satisfaction, employee performance, and market share.

Question 13

THN Corporation reported operating income of $30,000, revenue of $50,000, and average operating assets of $40,000 for a recent year. Which of the following is true?

Accepted Answer

Return on Investment (ROI) = Operating Income / Average Operating Assets * 100%
ROI = 30,000 / 40,000 * 100% = 75%
An ROI of 75% indicates that THN Corporation is generating significant returns on its investment. Neither the return on sales nor the adequate return on investment figures can be calculated based on the given information.

Question 14

A segment with an ROI of 30% has an income of $84,000. The company's required rate of return on segment investments is 18%. The segment's residual income is:

Accepted Answer

The answer of A segment with an ROI of 30%...

Question 15

Executive compensation is typically set by the shareholders at the annual meeting.

Accepted Answer

Executive compensation is usually determined by the company's board of directors or a compensation committee, not directly by shareholders at the annual meeting.

Question 16

Economic value added can be measured so that it reduces most of the problems that arise under residual income.

Accepted Answer

Economic value added (EVA) takes into account the cost of capital and measures the value a company generates above the cost of the capital invested. This approach mitigates many of the problems that arise under residual income, such as inconsistencies in accounting measures and distortions caused by changes in accounting policies or capital structure. Therefore, the statement is true.

Question 17

Choices about decision-making authority and about organizational structure are often related.

Accepted Answer

The allocation of decision-making authority often determines the organizational structure and vice versa. For example, a centralized decision-making authority structure may result in a hierarchical organizational structure, while a decentralized decision-making authority structure may lead to a flatter organizational structure.

Question 18

A transfer price is required only when goods or services are transferred between cost centres in the same organization.

Accepted Answer

A transfer price may also be required in cases where goods or services are transferred between different divisions, subsidiaries or entities within the same organization. The transfer price serves as a mechanism for determining the cost of goods or services being transferred, and may affect the profitability and efficiency of the organization.

Question 19

Investment centre managers are held responsible only for their costs.

Accepted Answer

Investment centre managers are held responsible for both their costs and the return on investment they generate. They are expected to generate profits and create value for the company.

Question 20

Return on investment cannot be used effectively to evaluate profit centres because it motivates managers to make suboptimal decisions from the viewpoint of the organizations' owners.

Accepted Answer

Return on investment (ROI) is a financial performance metric that measures the profitability of an investment relative to its cost. However, when used as the sole measure of performance for profit centers, it can lead managers to make decisions that prioritize short-term gains at the expense of long-term sustainability and overall organizational goals. ROI also does not consider external factors such as market changes and economic conditions, which can affect the performance of profit centers. Therefore, ROI should only be used in conjunction with other measures of performance and should not be relied upon as the sole measure of profitability.

Quiz 16: Performance Evaluation and Compensation