Chapter 10
Decentralized Performance Evaluation
True / False Questions
1.
In a decentralized organization, lower-level managers are given a great deal of autonomy in
decision-making.
True
2.
One disadvantage of decentralization is that it fosters competition among divisions.
True
3.
False
False
The controllability principle holds that managers should not be held responsible only for what they
can control but are also responsible for allocated costs.
True
4.
The part of the organization for which managers are responsible is called a related-party center.
True
5.
False
False
A legal services department would be an example of a cost center.
True
False
10-1
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
6.
A revenue center manager is responsible for more functions than is a profit center manager.
True
7.
A profit center manager often also supervises revenue and cost center managers.
True
8.
False
False
The most common method of evaluating a profit center manager is the segmented income
statement.
True
9.
False
Investment center managers have control over the investment of assets.
True
False
10. Segment margin and profit margin are identical terms.
True
False
11. The balanced scorecard attempts to focus managers' attention on more than just financial
measures.
True
False
12. Return on investment is calculated as the return on the segment's assets divided by the value of
those assets.
True
False
10-2
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
13. The DuPont method breaks residual income into profit margin and investment turnover.
True
False
14. Investment turnover is defined as the ratio of sales revenue to average invested assets.
True
False
15. Profit margin is defined as the ratio of sales revenue to operating income.
True
False
16. Residual income is the difference between operating profit and the minimum profit the
organization must earn to cover the ROI.
True
False
17. The hurdle rate is also called economic value added.
True
False
18. Residual income can avoid the problems of goal incongruence.
True
False
19. Residual income is a leading indicator of financial performance.
True
False
10-3
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
20. In transfer pricing, the manager of the buying division is motivated to pay the highest price
possible.
True
False
Multiple Choice Questions
21. In what type of organization is decision-making authority spread throughout the organization?
A. Centralized organization
B. Decentralized organization
C. Participative organization
D. Top-down organization
22. Which of the following is not an advantage of decentralization?
A. Allows top managers to focus on strategic issues
B. Potential duplication of resources
C. Allows for development of managerial expertise
D. Managers can react quickly to local information
10-4
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
23. Which of the following is a disadvantage of decentralization?
A. Fosters competition among divisions
B. Managers have specialized knowledge
C. Potential duplication of resources
D. Allows top managers to focus on strategic issues
24. One of the most important concepts in responsibility accounting is the
A. balanced scorecard.
B. controllability principle.
C. related-party transactions.
D. transfer price.
25. Which of the following is the primary tool used by cost centers to manage costs?
A. Return on investment
B. Budgetary control system
C. Balanced scorecard
D. Transfer pricing
26. The responsibility center in which the manager does not have responsibility and authority over
revenues is
A. a cost center.
B. an investment center.
C. a profit center.
D. a revenue center.
10-5
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
27. The responsibility center in which the manager has responsibility and authority over revenues,
costs and assets is
A. a cost center.
B. an investment center.
C. a profit center.
D. a revenue center.
28. The responsibility center in which the manager does not have responsibility and authority over
costs is
A. a cost center.
B. an investment center.
C. a profit center.
D. a revenue center.
29. The responsibility center in which the manager has responsibility and authority over only revenues
and costs is
A. a cost center.
B. an investment center.
C. a profit center.
D. a revenue center.
10-6
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
30. Which of the following responsibility centers will use a segmented income statement as an
evaluation tool?
A. cost center
B. revenue center
C. profit center
D. balanced center
31. Which of the following statements follows from the controllability principle?
A. A profit center manager should be evaluated based on residual income, not return on
investment.
B. An investment center manager should be evaluated based on return on investment, not residual
income.
C. A profit center manager should be evaluated based on segment margin, not profit margin.
D. A cost center manager should be evaluated on costs and revenues, not just costs.
32. Which of the following is not a perspective used by the balanced scorecard?
A. Financial
B. Short-term
C. Customer
D. Learning and growth
10-7
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
33. Which of the following balanced scorecard perspectives measures an organization's ability to
change?
A. Customer
B. Internal business processes
C. Learning and growth
D. Financial
34. Which of the following balanced scorecard perspectives measures how an organization satisfies its
stakeholders?
A. Customer
B. Internal business processes
C. Learning and growth
D. Financial
35. Which of the following is not something that should be compiled for each dimension of the
balanced scorecard?
A. Performance measures
B. Targets
C. Strategic vision
D. Specific objectives
10-8
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
36. Almond, Inc. uses a balanced scorecard. One of the measures on the scorecard is the percentage
of revenue from repeat sales. Which balanced scorecard perspective would this measure most
likely fit into?
A. Customer perspective
B. Learning and growth perspective
C. Internal business perspective
D. Financial perspective
37. Almond, Inc. uses a balanced scorecard. One of the measures on the scorecard is the average
education level of the firm's managers. Which balanced scorecard perspective would this measure
most likely fit into?
A. Customer perspective
B. Learning and growth perspective
C. Internal business perspective
D. Financial perspective
38. Almond, Inc. uses a balanced scorecard. One of the measures on the scorecard is the average age
of raw materials inventory. Which balanced scorecard perspective would this measure most likely
fit into?
A. Customer perspective
B. Learning and growth perspective
C. Internal business perspective
D. Financial perspective
10-9
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
39. Almond, Inc. uses a balanced scorecard. One of the measures on the scorecard is the change in
stock price. Which balanced scorecard perspective would this measure most likely fit into?
A. Customer perspective
B. Learning and growth perspective
C. Internal business perspective
D. Financial perspective
40. Return on investment can be calculated as
A. ROI = sales revenue/average invested assets
B. ROI = operating income/sales revenue
C. ROI = operating income/average invested assets
D. ROI = average invested assets/sales revenue
41. Profit margin can be calculated as
A. Sales revenue/average invested assets
B. Operating income/sales revenue
C. Operating income/average invested assets
D. Average invested assets/sales revenue
42. Investment turnover can be calculated as
A. Sales revenue/average invested assets
B. Operating income/sales revenue
C. Operating income/average invested assets
D. Average invested assets/sales revenue
10-10
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
43. Avocado Company has an operating income of $80,000 on revenues of $1,000,000. Average
invested assets are $500,000, and Avocado Company has an 8% cost of capital. What is the return
on investment?
A. 8%
B. 10%
C. 16%
D. 20%
44. Avocado Company has an operating income of $80,000 on revenues of $1,000,000. Average
invested assets are $500,000 and Avocado Company has an 8% cost of capital. What is the profit
margin?
A. 8%
B. 10%
C. 16%
D. 20%
45. Avocado Company has an operating income of $80,000 on revenues of $1,000,000. Average
invested assets are $500,000 and Avocado Company has an 8% cost of capital. What is the
investment turnover?
A. 10
B. 5
C. 2
D. 16%
10-11
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
46. Florida Inc. has revenues of $1,500,000 resulting in an operating income of $105,000. Average
invested assets total $750,000; the cost of capital is 10%. Return on investment is
A. 7%
B. 14%
C. $75,000
D. $30,000
47. Florida Inc. has revenues of $1,500,000 resulting in an operating income of $105,000. Average
invested assets total $750,000; the cost of capital is 10%. The profit margin is
A. 7%
B. 14%
C. 2.00
D. 0.50
48. Florida Inc. has revenues of $1,500,000 resulting in an operating income of $105,000. Average
invested assets total $750,000; the cost of capital is 10%. The investment turnover is
A. 7%
B. 14%
C. 2.00
D. 0.50
10-12
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
49. Crawford Corp. has an ROI of 15% and a residual income of $10,000. If operating income equals
$30,000, what is the amount of average invested assets?
A. $200,000
B. $66,667
C. $450,000
D. $150,000
50. Devon Inc. has a profit margin of 12% and an investment turnover of 2.5. Sales revenue is
$600,000. What is the operating income?
A. $180,000
B. $28,800
C. $72,000
D. $240,000
51. Devon Inc. has a profit margin of 12% and an investment turnover of 2.5. Sales revenue is
$600,000. What is the amount of average invested assets?
A. $240,000
B. $1,500,000
C. $50,000
D. $72,000
10-13
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
52. Palm Inc. has a profit margin of 15% and an investment turnover of 2. Sales revenue is $800,000.
What is the operating income?
A. $240,000
B. $60,000
C. $120,000
D. $400,000
53. Palm Inc. has a profit margin of 15% and an investment turnover of 2. Sales revenue is $800,000.
What is the amount of average invested assets?
A. $240,000
B. $400,000
C. $120,000
D. $60,000
54. Grove Corp. has revenues of $1,500,000 resulting in an operating income of $105,000. Average
invested assets total $750,000. Calculate the ROI if sales increase by 10% and the profit margin and
investment level remain constant.
A. 7.7%
B. 14%
C. 15.4%
D. 7.0%
10-14
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
55. Grove Corp. has revenues of $1,500,000 resulting in an operating income of $105,000. Average
invested assets total $750,000. If sales increase by 10% and the investment level remains constant,
what is the investment turnover?
A. 2.00
B. 2.20
C. 7.0%
D. 7.7%
56. Tropic Corp. has sales revenue of $500,000 resulting in operating income of $54,000. Average
invested assets total $600,000, and the cost of capital is 6%. Calculate the return on investment if
sales increase by 10% and the profit margin and invested assets remain the same.
A. 9.0%
B. 9.9%
C. 10.8%
D. 6.0%
57. Residual income can be calculated as
A. Operating income - (hurdle rate × average invested assets)
B. Segment margin - (hurdle rate × average invested assets)
C. Operating income - (ROI × average invested assets)
D. Operating income - investment turnover
10-15
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
58. If the ROI of a project is greater than the hurdle rate, the residual income will be
A. equal to operating income.
B. greater than zero.
C. greater than operating income.
D. greater than average invested assets.
59. Avocado Company has an operating income of $80,000 on revenues of $1,000,000. Average
invested assets are $500,000 and Avocado Company has an 8% cost of capital. What is the
residual income?
A. $100,000
B. $20,000
C. $120,000
D. $40,000
60. Miami Corp. has an operating income of $120,000, average invested assets of $600,000, and a cost
of capital of 7%. What is the residual income?
A. $100,000
B. $166,667
C. $78,000
D. $42,000
10-16
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
61. Dade Corp. has residual income of $10,000. If operating income equals $30,000 and the minimum
required rate of return is 8%, what are average invested assets?
A. $125,000
B. $375,000
C. $250,000
D. $500,000
62. Killian Corp. has a residual income of $30,000 on invested assets of $450,000. If the hurdle rate is
10%, what is the operating income?
A. $30,000
B. $45,000
C. $3,000
D. $75,000
63. Pine Corp. has revenues of $500,000 resulting in an operating income of $54,000. Invested assets
total $600,000. Residual income is $18,000. Calculate the new residual income if sales increase by
10% and the profit margin and invested assets remain the same.
A. $23,400
B. $0
C. $3,240
D. $36,000
10-17
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
64. Which of the following is not a limitation of return on investment?
A. Use of ROI may lead to goal incongruence.
B. ROI is a lagging indicator of financial performance.
C. ROI evaluates the short-term.
D. ROI is a commonly used measure for financial performance.
65. Which of the following statements contrasting residual income with return on investment is
correct?
A. ROI may lead to goal incongruence while residual income does not.
B. ROI is a lagging indicator while residual income is a leading indicator.
C. Residual income is a financial measure while return on investment emphasizes the customer
perspective.
D. Residual income is a long-term measure while ROI is a short-term measure.
66. Howard has an ROI of 16% based on revenues of $400,000. The investment turnover is 2. What is
the residual income if the cost of capital is 9%?
A. $64,000
B. $36,000
C. $4,000 negative
D. $14,000
10-18
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
67. Coral has a profit margin of 16% based on revenues of $400,000 and an investment turnover is 2.
What is the residual income when the cost of capital is 10%?
A. $44,000
B. $20,000
C. $40,000
D. $64,000
68. Reef Corp. has revenues of $500,000 resulting in an operating income of $54,000. Invested assets
total $600,000, the cost of capital is 6%. Calculate the increase in residual income if sales increase
by 10% and the profit margin and invested assets remain the same.
A. $5,400
B. $24,000
C. $0
D. $7,500
69. King Corp. has revenues of $1,500,000 resulting in an operating income of $105,000. Average
invested assets total $750,000, and the hurdle rate is 6%. Calculate the residual income if sales
increase by 10% and the profit margin and invested assets remain constant.
A. $115,500
B. $45,000
C. $0
D. $70,500
10-19
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
70. Colonial has an ROI of 18% based on revenues of $300,000. The investment turnover is 1.5 and
residual income is $20,000. What is the hurdle rate?
A. 18%
B. 12%
C. 8%
D. 15%
71. Estate has an ROI of 16% based on revenues of $400,000. The residual income is $14,000 and the
investment turnover is 2. What is the hurdle rate?
A. 16%
B. 8%
C. 9%
D. 18%
72. Indigo Corp. has an ROI of 15% and a residual income of $10,000. If operating income equals
$30,000, what is the hurdle rate?
A. 15%
B. 10%
C. 33.3%
D. 18.3%
10-20
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
73. A ________________ is the amount that one division charges when it sells goods or services to
another division in the same company
A. residual income
B. negotiated price
C. related price
D. transfer price
74. Which of the following is not a method used to determine transfer prices?
A. market price method
B. cost-based method
C. negotiation
D. balanced scorecard method
75. The transfer pricing method that uses the price the company would charge external customers is
the
A. market price method.
B. cost-based method.
C. negotiation.
D. balanced scorecard method.
10-21
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
76. The transfer pricing method that uses either the variable cost or the full cost as the basis for
setting the transfer price is the
A. market price method.
B. cost-based method.
C. negotiation.
D. balanced scorecard method.
77. When negotiating a transfer price, the highest price the buyer will be willing to pay is the
_____________, while the lowest price the seller will be willing to accept is the _______________.
A. market price…full cost
B. full cost…variable cost
C. market price…variable cost
D. variable cost…market price
78. Evergreen Corp. has two divisions, Fern and Bark. Fern produces a widget that Bark could use in
the production of units that cost $175 in variable costs, plus the cost of the widget, to manufacture.
Fern's variable costs are $60 per widget, and fixed manufacturing costs are applied at a rate of $36
per widget. Widgets sell on the open market for $105 each. Evergreen's policy is that internal
transfers will be made at variable cost. If Bark purchases the widgets from Fern, what will be the
transfer price?
A. $60
B. $96
C. $100
D. $175
10-22
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
79. Evergreen Corp. has two divisions, Fern and Bark. Fern produces a widget that Bark could use in
the production of units that cost $175 in variable costs, plus the cost of the widget, to manufacture.
Fern's variable costs are $60 per widget, and fixed manufacturing costs are applied at a rate of $36
per widget. Widgets sell on the open market for $105 each. Evergreen's policy is that internal
transfers will be made at full cost. If Bark purchases the widgets from Fern, what will be the transfer
price?
A. $60
B. $96
C. $105
D. $175
80. Evergreen Corp. has two divisions, Fern and Bark. Fern produces a widget that Bark could use in
the production of units that cost $175 in variable costs, plus the cost of the widget, to manufacture.
Fern's variable costs are $60 per widget, and fixed manufacturing costs are applied at a rate of $36
per widget. Widgets sell on the open market for $105 each. Evergreen's policy is that internal
transfers will be made at variable cost plus 20%. If Bark purchases the widgets from Fern, what will
be the transfer price?
A. $72.00
B. $115.20
C. $126.00
D. $210.00
10-23
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
81. Evergreen Corp. has two divisions, Fern and Bark. Fern produces a widget that Bark could use in
the production of units that cost $175 in variable costs, plus the cost of the widget, to manufacture.
Fern's variable costs are $60 per widget, and fixed manufacturing costs are applied at a rate of $36
per widget. Widgets sell on the open market for $105 each. Evergreen's policy is that internal
transfers will be made at full cost plus 20%. If Bark purchases the widgets from Fern, what will be
the transfer price?
A. $72.00
B. $115.20
C. $126.00
D. $210.00
82. Holiday Corp. has two divisions, Quail and Marlin. Quail produces a widget that Marlin could use in
its production. Quail's variable costs are $4 per widget while the full cost is $7. Widgets sell on the
open market for $12 each. If Quail has excess capacity, what would be the minimum transfer price
if Marlin currently is purchasing 100,000 units on the open market?
A. $4.00
B. $5.00
C. $7.00
D. $12.00
10-24
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
83. Holiday Corp. has two divisions, Quail and Marlin. Quail produces a widget that Marlin could use in
its production. Quail's variable costs are $4 per widget while the full cost is $7. Widgets sell on the
open market for $12 each. If Quail has excess capacity, what would be the maximum transfer price
if Marlin currently is purchasing 100,000 units on the open market?
A. $4.00
B. $5.00
C. $7.00
D. $12.00
84. Holiday Corp. has two divisions, Quail and Marlin. Quail produces a widget that Marlin could use in
its production. Quail's variable costs are $4 per widget while the full cost is $7. Widgets sell on the
open market for $12 each. If Quail has excess capacity, what would be the cost savings if the
transfer was made and Marlin currently is purchasing 100,000 units on the open market?
A. $0
B. $700,000
C. $800,000
D. $1,200,000
85. Holiday Corp. has two divisions, Quail and Marlin. Quail produces a widget that Marlin could use in
its production. Quail's variable costs are $4 per widget while the full cost is $7. Widgets sell on the
open market for $12 each. If Quail is operating at capacity, what would be the minimum transfer
price if Marlin currently is purchasing 100,000 units on the open market?
A. $4.00
B. $5.00
C. $7.00
D. $12.00
10-25
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
86. Holiday Corp. has two divisions, Quail and Marlin. Quail produces a widget that Marlin could use in
its production. Quail's variable costs are $4 per widget while the full cost is $7. Widgets sell on the
open market for $12 each. If Quail is operating at capacity, what would be the maximum transfer
price if Marlin currently is purchasing 100,000 units on the open market?
A. $4.00
B. $5.00
C. $7.00
D. $12.00
87. Holiday Corp. has two divisions, Quail and Marlin. Quail produces a widget that Marlin could use in
its production. Quail's variable costs are $4 per widget while the full cost is $7. Widgets sell on the
open market for $12 each. If Quail is operating at capacity, what would be the cost savings if the
transfer was made and Marlin currently is purchasing 100,000 units on the open market?
A. $0
B. $700,000
C. $800,000
D. $1,200,000
10-26
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
88. Spring Corp. has two divisions, Daffodil and Tulip. Daffodil produces a gadget that Tulip could use
in its production. Tulip currently purchases 100,000 gadgets for $12.50 on the open market.
Daffodil's variable costs are $6 per widget while the full cost is $9.35. Daffodil sells gadgets for $13
each. If Daffodil is operating at capacity, what would be the maximum transfer price Tulip would
pay internally?
A. $6.00
B. $9.35
C. $12.50
D. $13.00
89. Spring Corp. has two divisions, Daffodil and Tulip. Daffodil produces a gadget that Tulip could use
in its production. Tulip currently purchases 100,000 gadgets for $12.50 on the open market.
Daffodil's variable costs are $6 per widget while the full cost is $9.35. Daffodil sells gadgets for $13
each. If Daffodil is operating at less than full capacity, what would be the maximum transfer price
Tulip would pay internally?
A. $6.00
B. $9.35
C. $12.50
D. $13.00
10-27
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
90. Spring Corp. has two divisions, Daffodil and Tulip. Daffodil produces a gadget that Tulip could use
in its production. Tulip currently purchases 100,000 gadgets for $12.50 on the open market.
Daffodil's variable costs are $6 per widget while the full cost is $9.35. Daffodil sells gadgets for $13
each. If Daffodil is operating at capacity, what would be the minimum transfer price Daffodil would
accept for an internal transfer?
A. $6.00
B. $9.35
C. $12.50
D. $13.00
91. Spring Corp. has two divisions, Daffodil and Tulip. Daffodil produces a gadget that Tulip could use
in its production. Tulip currently purchases 100,000 gadgets for $12.50 on the open market.
Daffodil's variable costs are $6 per widget while the full cost is $9.35. Daffodil sells gadgets for $13
each. If Daffodil is operating at less than full capacity, what would be the minimum transfer price
Daffodil would accept for an internal transfer?
A. $6.00
B. $9.35
C. $12.50
D. $13.00
10-28
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
92. Spice Company has two divisions, Parsley and Sage. Parsley produces a unit that Sage could use in
its production. Sage currently is purchasing 50,000 units from an outside supplier for $50. Parsley
is operating at less than its full capacity of 550,000 and has variable costs of $27 per unit. The full
cost to manufacture the unit is $38. Parsley currently sells 450,000 units at a selling price of $54. If
an internal transfer is made, variable shipping and administrative costs of $2 per unit could be
avoided. What would be the impact on Spice Company's overall profits if the internal transfer were
made?
A. no change in overall profits
B. $1,250,000 increase in profits
C. $200,000 decrease in profits
D. $700,000 increase in profits
93. Spice Company has two divisions, Parsley and Sage. Parsley produces a unit that Sage could use in
its production. Sage currently is purchasing 50,000 units from an outside supplier for $50. Parsley
is operating at less than full capacity and has variable costs of $27 per unit. The full cost to
manufacture the unit is $38. Parsley currently sells 450,000 units at a selling price of $54. If an
internal transfer is made, variable shipping and administrative costs of $2 per unit could be
avoided. What would be the minimum transfer price?
A. $25
B. $27
C. $36
D. $52
10-29
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
94. Spice Company has two divisions, Parsley and Sage. Parsley produces a unit that Sage could use in
its production. Sage currently is purchasing 50,000 units from an outside supplier for $50. Parsley
is operating at less than full capacity and has variable costs of $27 per unit. The full cost to
manufacture the unit is $38. Parsley currently sells 450,000 units at a selling price of $54. If an
internal transfer is made, variable shipping and administrative costs of $2 per unit could be
avoided. What would be the maximum transfer price?
A. $25
B. $27
C. $38
D. $50
95. Tiffany Company has two divisions, Gold and Silver. Gold produces a unit that Silver could use in
its production. Silver currently is purchasing 50,000 units from an outside supplier for $25. Gold is
operating at less than full capacity and has variable costs of $13.50 per unit. The full cost to
manufacture the unit is $20. Gold currently sells 450,000 units at a selling price of $27. If an
internal transfer is made, variable shipping and administrative costs of $1 per unit could be
avoided. If the internal transfer is made, what would be the impact on Tiffany Company's overall
profits?
A. $625,000 increase
B. $1,125,000 increase
C. $225,000 decrease
D. No change in profits
10-30
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
96. Tiffany Company has two divisions, Gold and Silver. Gold produces a unit that Silver could use in
its production. Silver currently is purchasing 50,000 units from an outside supplier for $25. Gold is
operating at less than full capacity and has variable costs of $13.50 per unit. The full cost to
manufacture the unit is $20. Gold currently sells 450,000 units at a selling price of $27. If an
internal transfer is made, variable shipping and administrative costs of $1 per unit could be
avoided. How much profit will Gold receive from the transfer if a transfer price of $22.50 is agreed
upon?
A. $225,000
B. $275,000
C. $500,000
D. $725,000
97. Tiffany Company has two divisions, Gold and Silver. Gold produces a unit that Silver could use in
its production. Silver currently is purchasing 50,000 units from an outside supplier for $25. Gold is
operating at less than full capacity and has variable costs of $13.50 per unit. The full cost to
manufacture the unit is $20. Gold currently sells 450,000 units at a selling price of $27. If an
internal transfer is made, variable shipping and administrative costs of $1 per unit could be
avoided. How much will Silver save by not purchasing from outside if a transfer price of $22.50 is
agreed upon?
A. $225,000
B. $250,000
C. $175,000
D. $125,000
10-31
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
98. Swan Company has two divisions, Hill and Paradise. Hill produces a unit that Paradise could use in
its production. Paradise currently is purchasing 5,000 units from an outside supplier for $56. Hill is
operating at less than full capacity and has variable costs of $30.80 per unit. The full cost to
manufacture the unit is $43.40. Hill currently sells 450,000 units at a selling price of $61.60. What
would be the impact on Swan Company's overall profits if the internal transfer is made?
A. $28,000 increase
B. $126,000 increase
C. $7,000 decrease
D. No change in profits
99. Swan Company has two divisions, Hill and Paradise. Hill produces a unit that Paradise could use in
its production. Paradise currently is purchasing 5,000 units from an outside supplier for $56. Hill is
operating at less than full capacity and has variable costs of $30.80 per unit. The full cost to
manufacture the unit is $43.40. Hill currently sells 450,000 units at a selling price of $61.60. How
much profit will Hill receive from the transfer if a transfer price of $42 is agreed upon?
A. $7,000 loss
B. $98,000 loss
C. $35,000 profit
D. $56,000 profit
10-32
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
100. Swan Company has two divisions, Hill and Paradise. Hill produces a unit that Paradise could use in
its production. Paradise currently is purchasing 5,000 units from an outside supplier for $56. Hill is
operating at less than full capacity and has variable costs of $30.80 per unit. The full cost to
manufacture the unit is $43.40. Hill currently sells 450,000 units at a selling price of $61.60. How
much will Paradise save by not purchasing from outside if a transfer price of $42 is agreed upon?
A. $70,000
B. $56,000
C. $7,000 more cost
D. $28,000
Essay Questions
101. Calculate the missing values:
10-33
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
102. Calculate the missing values:
103. Eureka Corp has a hurdle rate of 8%. Calculate the missing values:
10-34
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
104. The Marine Division of Pacific Corp has average invested assets of $110,000,000. Sales revenue of
$50,250,000 results in an operating income of $9,967,000. The hurdle rate is 7%.
a. Calculate the return on investment.
b. Calculate the profit margin.
c. Calculate the investment turnover.
d. Calculate the residual income.
10-35
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
105. Hubbard Division of the Market Company has an opportunity to invest in a new project. The
project will yield an incremental operating income of $36,750 on average invested assets of
$460,000. Hubbard currently has operating income of $210,000 on average invested assets of
$2,050,000. Market Company requires a 6% rate of return on new projects.
a. What is Hubbard's ROI before making an investment in the project?
b. What is Hubbard's residual income before making an investment in the project?
c. What is Hubbard's ROI after making the investment in the project?
d. What is Hubbard's residual income after making the investment in the project?
10-36
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
106. Ontario Company has two divisions with the following results:
Ontario Company has a hurdle rate of 10%.
a. Calculate the return on investment for each division.
b. Break each division's return on investment down into its component parts using the DuPont
method.
c. Calculate the residual income for each division
10-37
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
107. Madison Corp has a hurdle rate of 9%. Calculate the missing values:
108. The Walnut Division of Benton Corp has average invested assets of $22,500,000. Sales revenue of
$27,000,000 results in an operating income of $2,379,500. The hurdle rate is 8%.
a. Calculate the return on investment.
b. Calculate the profit margin.
c. Calculate the investment turnover.
d. Calculate the residual income.
10-38
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
109. Superior Division of the Monroe Company has an opportunity to invest in a new project. The
project will yield an incremental operating income of $73,350 on average invested assets of
$900,000. Superior Division currently has operating income of $425,000 on average invested assets
of $4,325,000. Monroe Company has a 7% hurdle rate for new projects.
a. What is Superior Division's ROI before making an investment in the project?
b. What is Superior Division's residual income before making an investment in the project?
c. What is Superior Division's ROI after making the investment in the project?
d. What is Superior Division's residual income after making the investment in the project?
10-39
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
110. Warren Company has two divisions with the following results:
Warren Company has a hurdle rate of 12%.
a. Calculate the return on investment for each division.
b. Break each division's return on investment down into its component parts using the DuPont
method.
c. Calculate the residual income for each division
10-40
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
111. The following information is available about the status and operations of the Manufacturing
Division of Taylor Company, which has a hurdle rate of 6%.
a. Compute the ROI for the Manufacturing Division.
b. Break the Manufacturing Division ROI down using the DuPont formula.
c. Compute the residual income for the Manufacturing Division.
10-41
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
112. Avery Company has two divisions, Polk and Bishop. Polk produces an item that Bishop could use in
its production. Bishop currently is purchasing 25,000 units from an outside supplier for $24 per
unit. Polk is currently operating at less than its full capacity of 600,000 units and has variable costs
of $12 per unit. The full cost to manufacture the unit is $18. Polk currently sells 450,000 units at a
selling price of $25.50 per unit.
a. What will be the effect on Avery Company's operating profit if the transfer is made internally?
b. What is the minimum transfer price from Polk's perspective?
c. What is the maximum transfer price from Bishop's perspective?
10-42
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
113. Sandy Company has two divisions, Huron and Cortez. Huron produces an item that Cortez could
use in its production. Cortez currently is purchasing 50,000 units from an outside supplier for $24
per unit. Huron is currently operating at full capacity of 600,000 units and has variable costs of
$13.50 per unit. The full cost to manufacture the unit is $19.50. Huron currently sells 600,000 units
at a selling price of $25.50 per unit.
a. What will be the effect on Sandy Company's operating profit if the transfer is made internally?
b. What is the minimum transfer price from Huron's perspective?
c. What is the maximum transfer price from Cortez' perspective?
10-43
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
114. National Company has two divisions, Walton and Iowa. Walton produces an item that Iowa could
use in its production. Iowa currently is purchasing 50,000 units from an outside supplier for $9.10
per unit. Walton has sufficient capacity and has variable costs of $5.25 per unit. The full cost to
manufacture the unit is $7.70. Walton currently sells 450,000 units at a selling price of $9.80 per
unit.
a. What will be the effect on National Company's operating profit if the transfer is made internally?
b. What will be the change in profits for Walton if the transfer price is $7 per unit?
c. What will be the change in profits for Iowa if the transfer price is $7 per unit?
10-44
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
115. Sugar Company has two divisions, Lenox and Berkshire. Lenox produces an item that Berkshire
could use in its production. Berkshire currently is purchasing 100,000 units from an outside supplier
for $43 per unit. Lenox is currently operating at full capacity of 750,000 units and has variable costs
of $28 per unit. The full cost to manufacture the unit is $35. Lenox currently sells 750,000 units at a
selling price of $44 per unit.
a. What will be the effect on Sugar Company's operating profit if the transfer is made internally?
b. What will be the change in profits for Lenox if the transfer price is $40 per unit?
c. What will be the change in profits for Berkshire if the transfer price is $40 per unit?
10-45
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
116. Concord Company has two divisions, Rice and Pine. Rice produces an item that Pine could use in
its production. Pine currently is purchasing 12,000 units from an outside supplier for $18 per unit.
Rice is currently operating at less than its full capacity of 500,000 units and has variable costs of
$10 per unit. The full cost to manufacture the unit is $14. Rice currently sells 450,000 units at a
selling price of $20 per unit.
a. What will be the effect on Concord Company's operating profit if the transfer is made internally?
b. What is the minimum transfer price from Rice's perspective?
c. What is the maximum transfer price from Pine' perspective?
10-46
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
117. Tint Company has two divisions, Blue and Green. Blue produces an item that Green could use in its
production. Green currently is purchasing 150,000 units from an outside supplier for $23 per unit.
Blue is currently operating at full capacity of 1,600,000 units and has variable costs of $14 per unit.
The full cost to manufacture the unit is $18. Blue currently sells 1,600,000 units at a selling price of
$25 per unit.
a. What will be the effect on Tint Company's operating profit if the transfer is made internally?
b. What is the minimum transfer price from Blue's perspective?
c. What is the maximum transfer price from Green's perspective?
10-47
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
118. Dickens Company has two divisions, Bloom and Heath. Bloom produces an item that Heath could
use in its production. Heath currently is purchasing 5,000 units from an outside supplier for $44
per unit. Bloom has sufficient capacity and has variable costs of $35 per unit. The full cost to
manufacture the unit is $41. Bloom currently sells 450,000 units at a selling price of $48 per unit.
a. What will be the effect on Dickens Company's operating profit if the transfer is made internally?
b. What will be the change in profits for Bloom if the transfer price is $41 per unit?
c. What will be the change in profits for Heath if the transfer price is $41 per unit?
10-48
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
119. Washington Company has two divisions, Jefferson and Adams. Jefferson produces an item that
Adams could use in its production. Adams currently is purchasing 100,000 units from an outside
supplier for $78.40 per unit. Jefferson is currently operating at full capacity of 900,000 units and
has variable costs of $46.40 per unit. The full cost to manufacture the unit is $59.20. Jefferson
currently sells 900,000 units at a selling price of $86.40 per unit.
a. What will be the effect on Washington Company's operating profit if the transfer is made
internally?
b. What will be the change in profits for Jefferson if the transfer price is $67.20 per unit?
c. What will be the change in profits for Adams if the transfer price is $67.20 per unit?
10-49
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
120. Rapid Industries has multiple divisions. One division, Iron Products, makes a component that
another division, Austin, is currently purchasing on the open market. Iron Products currently has a
capacity to produce 500,000 components at a variable cost of $7.50 and a full cost of $10.00. Iron
Products has outside sales of 460,000 components at a price of $12.50 per unit. Austin currently
purchases 50,000 units from an outside supplier at a price of $12.00 per unit. Assume that Austin
desires to use a single supplier for its component.
a. What will be the effect on Rapid Industries' operating profit if the transfer is made internally?
Assume the 50,000 units Austin needs are either purchased 100% internally or 100% externally.
b. What is the minimum transfer price?
c. What is the maximum transfer price?
10-50
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
Chapter 10 Decentralized Performance Evaluation Answer Key
True / False Questions
1.
In a decentralized organization, lower-level managers are given a great deal of autonomy in
decision-making.
TRUE
In a decentralized organization, decision-making authority is spread throughout the
organization.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-01 List and explain the advantages and disadvantages of decentralization.
Topic: Advantages and disadvantages of decentralization
2.
One disadvantage of decentralization is that it fosters competition among divisions.
FALSE
This is considered a benefit of decentralization.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-01 List and explain the advantages and disadvantages of decentralization.
10-51
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
Topic: Advantages and disadvantages of decentralization
3.
The controllability principle holds that managers should not be held responsible only for what
they can control but are also responsible for allocated costs.
FALSE
The controllability principle holds that managers should be held responsible only for what they
can control.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-02 Describe the different types of responsibility centers and explain how managers of each type are
evaluated.
Topic: Types of responsibility centers
4.
The part of the organization for which managers are responsible is called a related-party
center.
FALSE
The part of the organization for which managers are responsible is called a responsibility
center.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-02 Describe the different types of responsibility centers and explain how managers of each type are
evaluated.
Topic: Types of responsibility centers
10-52
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
5.
A legal services department would be an example of a cost center.
TRUE
Cost center managers have the authority to incur costs to support their areas of responsibility;
corporate support functions such as legal services would fall under this category.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-02 Describe the different types of responsibility centers and explain how managers of each type are
evaluated.
Topic: Types of responsibility centers
6.
A revenue center manager is responsible for more functions than is a profit center manager.
FALSE
Revenue center managers are responsible for revenues, while profit center managers are
responsible for both revenues and costs.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Understand
Difficulty: 1 Easy
Learning Objective: 10-02 Describe the different types of responsibility centers and explain how managers of each type are
evaluated.
Topic: Types of responsibility centers
10-53
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
7.
A profit center manager often also supervises revenue and cost center managers.
TRUE
Because profit center managers are responsible for both costs and revenues, they often
supervise revenue and cost center managers.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-02 Describe the different types of responsibility centers and explain how managers of each type are
evaluated.
Topic: Types of responsibility centers
8.
The most common method of evaluating a profit center manager is the segmented income
statement.
TRUE
The segmented income statement separates costs that are within the profit center manager's
control, so it is a valuable tool for evaluating a profit center manager.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-02 Describe the different types of responsibility centers and explain how managers of each type are
evaluated.
Topic: Types of responsibility centers
10-54
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
9.
Investment center managers have control over the investment of assets.
TRUE
Investment center managers are responsible for generating a profit and investing assets.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-02 Describe the different types of responsibility centers and explain how managers of each type are
evaluated.
Topic: Types of responsibility centers
10.
Segment margin and profit margin are identical terms.
FALSE
The segment margin includes only those costs that are within the segment manager's control
whereas the profit margin includes costs that are not controllable by the manager.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Understand
Difficulty: 1 Easy
Learning Objective: 10-02 Describe the different types of responsibility centers and explain how managers of each type are
evaluated.
Topic: Types of responsibility centers
10-55
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
11.
The balanced scorecard attempts to focus managers' attention on more than just financial
measures.
TRUE
The balanced scorecard considers measures of long-term success, not just short-term financial
results.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Understand
Difficulty: 1 Easy
Learning Objective: 10-03 Describe the four dimensions of the balanced scorecard and explain how they are used to evaluate
managerial performance.
Topic: Balanced scorecard
12.
Return on investment is calculated as the return on the segment's assets divided by the value of
those assets.
TRUE
ROI = Operating income/Average invested assets; operating income is a measure of return on
the segment's assets.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
10-56
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
13.
The DuPont method breaks residual income into profit margin and investment turnover.
FALSE
The DuPont method breaks return on investment into profit margin and investment turnover.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
14.
Investment turnover is defined as the ratio of sales revenue to average invested assets.
TRUE
This is the formula for investment turnover.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
15.
Profit margin is defined as the ratio of sales revenue to operating income.
FALSE
Profit margin is defined as the ratio of operating income to sales revenue.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
10-57
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
Difficulty: 1 Easy
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
16.
Residual income is the difference between operating profit and the minimum profit the
organization must earn to cover the ROI.
FALSE
Residual income is the difference between operating profit and the minimum profit the
organization must earn to cover the hurdle rate.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
17.
The hurdle rate is also called economic value added.
FALSE
The hurdle rate is also called the required rate of return, and represents the company's cost of
capital.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
10-58
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
18.
Residual income can avoid the problems of goal incongruence.
TRUE
Any project that earns more than the hurdle rate will have a positive residual income, which
avoids the problems of goal incongruence.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Understand
Difficulty: 1 Easy
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
19.
Residual income is a leading indicator of financial performance.
FALSE
Residual income is a lagging indicator of financial performance.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Limitations of financial performance measures
10-59
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
20.
In transfer pricing, the manager of the buying division is motivated to pay the highest price
possible.
FALSE
The manager of the buying division will want to pay the lowest price possible.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Understand
Difficulty: 1 Easy
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
Multiple Choice Questions
21.
In what type of organization is decision-making authority spread throughout the organization?
A. Centralized organization
B. Decentralized organization
C. Participative organization
D. Top-down organization
In a decentralized organization, decision-making authority is spread throughout the
organization, and managers are given a great deal of autonomy to decide how to manage their
individual units.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
10-60
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
Difficulty: 1 Easy
Learning Objective: 10-01 List and explain the advantages and disadvantages of decentralization.
Topic: Advantages and disadvantages of decentralization
22.
Which of the following is not an advantage of decentralization?
A. Allows top managers to focus on strategic issues
B. Potential duplication of resources
C. Allows for development of managerial expertise
D. Managers can react quickly to local information
Potential duplication of resources is a disadvantage of decentralization.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-01 List and explain the advantages and disadvantages of decentralization.
Topic: Advantages and disadvantages of decentralization
23.
Which of the following is a disadvantage of decentralization?
A. Fosters competition among divisions
B. Managers have specialized knowledge
C. Potential duplication of resources
D. Allows top managers to focus on strategic issues
Potential duplication of resources is a disadvantage of decentralization.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
10-61
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
Difficulty: 1 Easy
Learning Objective: 10-01 List and explain the advantages and disadvantages of decentralization.
Topic: Advantages and disadvantages of decentralization
24.
One of the most important concepts in responsibility accounting is the
A. balanced scorecard.
B. controllability principle.
C. related-party transactions.
D. transfer price.
The controllability principle forms the basis of responsibility accounting, holding that managers
should only be held responsible for what they control.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Understand
Difficulty: 1 Easy
Learning Objective: 10-02 Describe the different types of responsibility centers and explain how managers of each type are
evaluated.
Topic: Types of responsibility centers
25.
Which of the following is the primary tool used by cost centers to manage costs?
A. Return on investment
B. Budgetary control system
C. Balanced scorecard
D. Transfer pricing
The budget is a primary tool used by cost centers to manage costs.
AACSB: Reflective Thinking
10-62
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-02 Describe the different types of responsibility centers and explain how managers of each type are
evaluated.
Topic: Types of responsibility centers
26.
The responsibility center in which the manager does not have responsibility and authority over
revenues is
A. a cost center.
B. an investment center.
C. a profit center.
D. a revenue center.
A revenue center manager has responsibility for revenues, and profit and investment center
managers have authority over profit, which includes revenues.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-02 Describe the different types of responsibility centers and explain how managers of each type are
evaluated.
Topic: Types of responsibility centers
10-63
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
27.
The responsibility center in which the manager has responsibility and authority over revenues,
costs and assets is
A. a cost center.
B. an investment center.
C. a profit center.
D. a revenue center.
Investment center managers are responsible for generating a profit (revenue - cost) and
investing assets.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-02 Describe the different types of responsibility centers and explain how managers of each type a re
evaluated.
Topic: Types of responsibility centers
28.
The responsibility center in which the manager does not have responsibility and authority over
costs is
A. a cost center.
B. an investment center.
C. a profit center.
D. a revenue center.
A cost center manager has responsibility for costs, and profit and investment center managers
have authority over profit, which includes costs.
AACSB: Reflective Thinking
10-64
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-02 Describe the different types of responsibility centers and explain how managers of each type are
evaluated.
Topic: Types of responsibility centers
29.
The responsibility center in which the manager has responsibility and authority over only
revenues and costs is
A. a cost center.
B. an investment center.
C. a profit center.
D. a revenue center.
A profit center manager has responsibility only for revenues and costs. Investment center
managers have responsibility for revenues, costs, and the investment of assets.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-02 Describe the different types of responsibility centers and explain how managers of each type are
evaluated.
Topic: Types of responsibility centers
10-65
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
30.
Which of the following responsibility centers will use a segmented income statement as an
evaluation tool?
A. cost center
B. revenue center
C. profit center
D. balanced center
A segmented income statement will isolate the portion of profit that is controllable by the profit
center manager.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-02 Describe the different types of responsibility centers and explain how managers of each type are
evaluated.
Topic: Types of responsibility centers
10-66
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
31.
Which of the following statements follows from the controllability principle?
A. A profit center manager should be evaluated based on residual income, not return on
investment.
B. An investment center manager should be evaluated based on return on investment, not
residual income.
C. A profit center manager should be evaluated based on segment margin, not profit margin.
D. A cost center manager should be evaluated on costs and revenues, not just costs.
Segment margin separates those costs that are within the profit center manager's control from
those that are outside his/her control. Profit margin contains costs that are not controllable by
the manager.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 2 Medium
Learning Objective: 10-02 Describe the different types of responsibility centers and explain how managers of each type are
evaluated.
Topic: Types of responsibility centers
10-67
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
32.
Which of the following is not a perspective used by the balanced scorecard?
A. Financial
B. Short-term
C. Customer
D. Learning and growth
The four key dimensions of the balanced scorecard are the customer perspective, the learning
and growth perspective, the internal business processes perspective, and the financial
perspective.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-03 Describe the four dimensions of the balanced scorecard and explain how they are used to evaluate
managerial performance.
Topic: Balanced scorecard
33.
Which of the following balanced scorecard perspectives measures an organization's ability to
change?
A. Customer
B. Internal business processes
C. Learning and growth
D. Financial
The learning and growth perspective measures how the organization will sustain its ability to
change and improve.
AACSB: Reflective Thinking
10-68
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-03 Describe the four dimensions of the balanced scorecard and explain how they are used to evaluate
managerial performance.
Topic: Balanced scorecard
34.
Which of the following balanced scorecard perspectives measures how an organization satisfies
its stakeholders?
A. Customer
B. Internal business processes
C. Learning and growth
D. Financial
The financial perspective measures how the organization satisfies its shareholders, regulators,
and other stakeholders.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-03 Describe the four dimensions of the balanced scorecard and explain how they are used to evaluate
managerial performance.
Topic: Balanced scorecard
10-69
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
35.
Which of the following is not something that should be compiled for each dimension of the
balanced scorecard?
A. Performance measures
B. Targets
C. Strategic vision
D. Specific objectives
For each of the balanced scorecard dimensions, managers must devise specific objectives,
measures, and targets that can be used to measure performance and identify what needs to be
done to improve in the future. The strategic vision is organization-wide.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-03 Describe the four dimensions of the balanced scorecard and explain how they are used to evaluate
managerial performance.
Topic: Balanced scorecard
10-70
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
36.
Almond, Inc. uses a balanced scorecard. One of the measures on the scorecard is the
percentage of revenue from repeat sales. Which balanced scorecard perspective would this
measure most likely fit into?
A. Customer perspective
B. Learning and growth perspective
C. Internal business perspective
D. Financial perspective
Percentage of revenue from repeat sales is a measure of how well customers are retained,
which belongs in the customer perspective.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Understand
Difficulty: 1 Easy
Learning Objective: 10-03 Describe the four dimensions of the balanced scorecard and explain how they are used to evaluate
managerial performance.
Topic: Balanced scorecard
10-71
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
37.
Almond, Inc. uses a balanced scorecard. One of the measures on the scorecard is the average
education level of the firm's managers. Which balanced scorecard perspective would this
measure most likely fit into?
A. Customer perspective
B. Learning and growth perspective
C. Internal business perspective
D. Financial perspective
The education level of the managers would affect the firm's ability to change and improve,
which is the focus of the learning and growth perspective.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Understand
Difficulty: 1 Easy
Learning Objective: 10-03 Describe the four dimensions of the balanced scorecard and explain how they are used to evaluate
managerial performance.
Topic: Balanced scorecard
10-72
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
38.
Almond, Inc. uses a balanced scorecard. One of the measures on the scorecard is the average
age of raw materials inventory. Which balanced scorecard perspective would this measure most
likely fit into?
A. Customer perspective
B. Learning and growth perspective
C. Internal business perspective
D. Financial perspective
The average age of raw materials inventory is a measure of how effectively such inventory is
used, which is an internal business process.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Understand
Difficulty: 1 Easy
Learning Objective: 10-03 Describe the four dimensions of the balanced scorecard and explain how they are used to evaluate
managerial performance.
Topic: Balanced scorecard
39.
Almond, Inc. uses a balanced scorecard. One of the measures on the scorecard is the change in
stock price. Which balanced scorecard perspective would this measure most likely fit into?
A. Customer perspective
B. Learning and growth perspective
C. Internal business perspective
D. Financial perspective
The stock price is an indicator of financial health, so this belongs in the financial perspective.
AACSB: Reflective Thinking
10-73
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
AICPA FN: Measurement
Blooms: Understand
Difficulty: 1 Easy
Learning Objective: 10-03 Describe the four dimensions of the balanced scorecard and explain how they are used to evaluate
managerial performance.
Topic: Balanced scorecard
40.
Return on investment can be calculated as
A. ROI = sales revenue/average invested assets
B. ROI = operating income/sales revenue
C. ROI = operating income/average invested assets
D. ROI = average invested assets/sales revenue
This is the formula for ROI.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
10-74
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
41.
Profit margin can be calculated as
A. Sales revenue/average invested assets
B. Operating income/sales revenue
C. Operating income/average invested assets
D. Average invested assets/sales revenue
This is the formula for profit margin.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
42.
Investment turnover can be calculated as
A. Sales revenue/average invested assets
B. Operating income/sales revenue
C. Operating income/average invested assets
D. Average invested assets/sales revenue
This is the formula for investment turnover.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
10-75
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
43.
Avocado Company has an operating income of $80,000 on revenues of $1,000,000. Average
invested assets are $500,000, and Avocado Company has an 8% cost of capital. What is the
return on investment?
A. 8%
B. 10%
C. 16%
D. 20%
$80,000/$500,000 = 16%.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 1 Easy
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
44.
Avocado Company has an operating income of $80,000 on revenues of $1,000,000. Average
invested assets are $500,000 and Avocado Company has an 8% cost of capital. What is the
profit margin?
A. 8%
B. 10%
C. 16%
D. 20%
$80,000/$1,000,000 = 8%.
AACSB: Analytic
AICPA FN: Measurement
10-76
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
Blooms: Apply
Difficulty: 1 Easy
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
45.
Avocado Company has an operating income of $80,000 on revenues of $1,000,000. Average
invested assets are $500,000 and Avocado Company has an 8% cost of capital. What is the
investment turnover?
A. 10
B. 5
C. 2
D. 16%
$1,000,000/$500,000 = 2.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 1 Easy
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
10-77
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
46.
Florida Inc. has revenues of $1,500,000 resulting in an operating income of $105,000. Average
invested assets total $750,000; the cost of capital is 10%. Return on investment is
A. 7%
B. 14%
C. $75,000
D. $30,000
$105,000/$750,000 = 14%.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 1 Easy
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
47.
Florida Inc. has revenues of $1,500,000 resulting in an operating income of $105,000. Average
invested assets total $750,000; the cost of capital is 10%. The profit margin is
A. 7%
B. 14%
C. 2.00
D. 0.50
$105,000/$1,500,000 = 7%.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 1 Easy
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
10-78
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
Topic: Financial performance measures
48.
Florida Inc. has revenues of $1,500,000 resulting in an operating income of $105,000. Average
invested assets total $750,000; the cost of capital is 10%. The investment turnover is
A. 7%
B. 14%
C. 2.00
D. 0.50
$1,500,000/$750,000 = 2.00.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 1 Easy
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
49.
Crawford Corp. has an ROI of 15% and a residual income of $10,000. If operating income equals
$30,000, what is the amount of average invested assets?
A. $200,000
B. $66,667
C. $450,000
D. $150,000
ROI = Operating income/Average invested assets, so Average invested assets = Operating
income/ROI = $30,000/15% = $200,000.
AACSB: Analytic
AICPA FN: Measurement
10-79
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
Blooms: Analyze
Difficulty: 2 Medium
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
50.
Devon Inc. has a profit margin of 12% and an investment turnover of 2.5. Sales revenue is
$600,000. What is the operating income?
A. $180,000
B. $28,800
C. $72,000
D. $240,000
Profit margin = Operating income/Sales revenue, so Operating income = Profit margin × Sales
revenue = 12% × $600,000 = $72,000.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Analyze
Difficulty: 2 Medium
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
10-80
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
51.
Devon Inc. has a profit margin of 12% and an investment turnover of 2.5. Sales revenue is
$600,000. What is the amount of average invested assets?
A. $240,000
B. $1,500,000
C. $50,000
D. $72,000
Investment turnover = Sales revenue/Average invested assets, so Average invested assets =
Sales revenue/Investment turnover = $600,000/2.5 = $240,000.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Analyze
Difficulty: 2 Medium
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
52.
Palm Inc. has a profit margin of 15% and an investment turnover of 2. Sales revenue is
$800,000. What is the operating income?
A. $240,000
B. $60,000
C. $120,000
D. $400,000
Profit margin = Operating income/Sales revenue, so Operating income = Profit margin × Sales
revenue = 15% × $800,000 = $120,000.
AACSB: Analytic
AICPA FN: Measurement
10-81
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
Blooms: Analyze
Difficulty: 2 Medium
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
53.
Palm Inc. has a profit margin of 15% and an investment turnover of 2. Sales revenue is
$800,000. What is the amount of average invested assets?
A. $240,000
B. $400,000
C. $120,000
D. $60,000
Investment turnover = Sales revenue/Average invested assets, so Average invested assets =
Sales revenue/Investment turnover = $800,000/2 = $400,000.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Analyze
Difficulty: 2 Medium
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
10-82
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
54.
Grove Corp. has revenues of $1,500,000 resulting in an operating income of $105,000. Average
invested assets total $750,000. Calculate the ROI if sales increase by 10% and the profit margin
and investment level remain constant.
A. 7.7%
B. 14%
C. 15.4%
D. 7.0%
Profit margin is $105,000/$1,500,000 = 7%. If sales increase by 10%, investment turnover will be
($1,500,000 × 110%)/$750,000 = 2.2. ROI = 7% × 2.2 = 15.4%.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
55.
Grove Corp. has revenues of $1,500,000 resulting in an operating income of $105,000. Average
invested assets total $750,000. If sales increase by 10% and the investment level remains
constant, what is the investment turnover?
A. 2.00
B. 2.20
C. 7.0%
D. 7.7%
If sales increase by 10%, investment turnover will be ($1,500,000 × 110%)/$750,000 = 2.2.
AACSB: Analytic
10-83
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
56.
Tropic Corp. has sales revenue of $500,000 resulting in operating income of $54,000. Average
invested assets total $600,000, and the cost of capital is 6%. Calculate the return on investment
if sales increase by 10% and the profit margin and invested assets remain the same.
A. 9.0%
B. 9.9%
C. 10.8%
D. 6.0%
The profit margin is $54,000/$500,000 = 10.8%. If sales increase by 10%, investment turnover
will be [($500,000 × 110%)/$600,000] = .92. ROI = 10.8% × .92 = 9.9%.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Analyze
Difficulty: 3 Hard
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
10-84
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
57.
Residual income can be calculated as
A. Operating income - (hurdle rate × average invested assets)
B. Segment margin - (hurdle rate × average invested assets)
C. Operating income - (ROI × average invested assets)
D. Operating income - investment turnover
This is the formula for residual income.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
58.
If the ROI of a project is greater than the hurdle rate, the residual income will be
A. equal to operating income.
B. greater than zero.
C. greater than operating income.
D. greater than average invested assets.
When ROI > Hurdle rate, residual income is positive.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Understand
Difficulty: 1 Easy
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
10-85
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
59.
Avocado Company has an operating income of $80,000 on revenues of $1,000,000. Average
invested assets are $500,000 and Avocado Company has an 8% cost of capital. What is the
residual income?
A. $100,000
B. $20,000
C. $120,000
D. $40,000
$80,000 - (8% × $500,000) = $40,000.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 1 Easy
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
60.
Miami Corp. has an operating income of $120,000, average invested assets of $600,000, and a
cost of capital of 7%. What is the residual income?
A. $100,000
B. $166,667
C. $78,000
D. $42,000
$120,000 - (7% × $600,000) = $78,000.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 1 Easy
10-86
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
61.
Dade Corp. has residual income of $10,000. If operating income equals $30,000 and the
minimum required rate of return is 8%, what are average invested assets?
A. $125,000
B. $375,000
C. $250,000
D. $500,000
$30,000 - 8% A = $10,000; A = $250,000.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Analyze
Difficulty: 2 Medium
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
62.
Killian Corp. has a residual income of $30,000 on invested assets of $450,000. If the hurdle rate
is 10%, what is the operating income?
A. $30,000
B. $45,000
C. $3,000
D. $75,000
OI - (10% × 450,000) = $30,000; OI = $75,000.
AACSB: Analytic
AICPA FN: Measurement
10-87
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
Blooms: Analyze
Difficulty: 2 Medium
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
63.
Pine Corp. has revenues of $500,000 resulting in an operating income of $54,000. Invested
assets total $600,000. Residual income is $18,000. Calculate the new residual income if sales
increase by 10% and the profit margin and invested assets remain the same.
A. $23,400
B. $0
C. $3,240
D. $36,000
If sales increase by 10% and profit margin remains the same, operating income must also
increase by 10%. Residual income will then also increase by 10% of operating income, so RI =
$18,000 + (10% × $54,000) = $23,400.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
10-88
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
64.
Which of the following is not a limitation of return on investment?
A. Use of ROI may lead to goal incongruence.
B. ROI is a lagging indicator of financial performance.
C. ROI evaluates the short-term.
D. ROI is a commonly used measure for financial performance.
The fact that ROI is commonly used is not a limitation.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Understand
Difficulty: 1 Easy
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
65.
Which of the following statements contrasting residual income with return on investment is
correct?
A. ROI may lead to goal incongruence while residual income does not.
B. ROI is a lagging indicator while residual income is a leading indicator.
C. Residual income is a financial measure while return on investment emphasizes the customer
perspective.
D. Residual income is a long-term measure while ROI is a short-term measure.
ROI can lead to goal incongruence because a project that earns higher than the hurdle rate but
decreases ROI would be unattractive to a manager. However, any project earning higher than
the hurdle rate increases residual income, avoiding goal incongruence.
AACSB: Reflective Thinking
10-89
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
AICPA FN: Measurement
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
66.
Howard has an ROI of 16% based on revenues of $400,000. The investment turnover is 2. What
is the residual income if the cost of capital is 9%?
A. $64,000
B. $36,000
C. $4,000 negative
D. $14,000
Investment turnover = 2 = $400,000/Assets; Assets = $200,000. ROI = 16% = Income/$200,000;
Income = $32,000. Residual income = $32,000 - (9% × $200,000) = $14,000.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
10-90
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
67.
Coral has a profit margin of 16% based on revenues of $400,000 and an investment turnover is
2. What is the residual income when the cost of capital is 10%?
A. $44,000
B. $20,000
C. $40,000
D. $64,000
Profit margin = 16% = Income/$400,000; Income = $64,000. Investment turnover = 2 =
$400,000/Assets; Assets = $200,000. Residual income = $64,000 - (10% × $200,000) = $44,000.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
10-91
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
68.
Reef Corp. has revenues of $500,000 resulting in an operating income of $54,000. Invested
assets total $600,000, the cost of capital is 6%. Calculate the increase in residual income if sales
increase by 10% and the profit margin and invested assets remain the same.
A. $5,400
B. $24,000
C. $0
D. $7,500
If sales increase by 10% and profit margin remains the same, operating income must also
increase by 10%. Residual income will then also increase by 10% of operating income, or 10% ×
$54,000 = $5,400.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
10-92
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
69.
King Corp. has revenues of $1,500,000 resulting in an operating income of $105,000. Average
invested assets total $750,000, and the hurdle rate is 6%. Calculate the residual income if sales
increase by 10% and the profit margin and invested assets remain constant.
A. $115,500
B. $45,000
C. $0
D. $70,500
If sales increase by 10% and profit margin remains the same, operating income must also
increase by 10%. Residual income = ($105,000 × 110%) - (6% × $750,000) = $70,500.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
10-93
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
70.
Colonial has an ROI of 18% based on revenues of $300,000. The investment turnover is 1.5 and
residual income is $20,000. What is the hurdle rate?
A. 18%
B. 12%
C. 8%
D. 15%
Investment turnover = 1.5 = $300,000/Assets; Assets = $200,000. ROI = 18% =
Income/$200,000; Income = $36,000. Residual income = $20,000 = $36,000 - (HR × $200,000);
HR = 8%.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Analyze
Difficulty: 3 Hard
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
10-94
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
71.
Estate has an ROI of 16% based on revenues of $400,000. The residual income is $14,000 and
the investment turnover is 2. What is the hurdle rate?
A. 16%
B. 8%
C. 9%
D. 18%
Investment turnover = 2 = $400,000/Assets; Assets = $200,000. ROI = 16% = Income/$200,000;
Income = $32,000. Residual income = $14,000 = $32,000 - (HR × $200,000); HR = 9%.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Analyze
Difficulty: 3 Hard
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
72.
Indigo Corp. has an ROI of 15% and a residual income of $10,000. If operating income equals
$30,000, what is the hurdle rate?
A. 15%
B. 10%
C. 33.3%
D. 18.3%
ROI = 15% = $30,000/Assets; Assets = $200,000. Residual income = $10,000 = $30,000 - (HR ×
$200,000); HR = 10%.
AACSB: Analytic
10-95
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
AICPA FN: Measurement
Blooms: Analyze
Difficulty: 3 Hard
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
73.
A ________________ is the amount that one division charges when it sells goods or services to
another division in the same company
A. residual income
B. negotiated price
C. related price
D. transfer price
This is the definition of a transfer price.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-96
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
74.
Which of the following is not a method used to determine transfer prices?
A. market price method
B. cost-based method
C. negotiation
D. balanced scorecard method
There are three different ways to determine transfer prices: the market price method, the costbased method, and negotiation.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
75.
The transfer pricing method that uses the price the company would charge external customers
is the
A. market price method.
B. cost-based method.
C. negotiation.
D. balanced scorecard method.
The market price is the price that a company would charge to external customers.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
10-97
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
Topic: Transfer pricing
76.
The transfer pricing method that uses either the variable cost or the full cost as the basis for
setting the transfer price is the
A. market price method.
B. cost-based method.
C. negotiation.
D. balanced scorecard method.
The cost-based method uses cost as a basis for setting the transfer price.
AACSB: Reflective Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
77.
When negotiating a transfer price, the highest price the buyer will be willing to pay is the
_____________, while the lowest price the seller will be willing to accept is the _______________.
A. market price…full cost
B. full cost…variable cost
C. market price…variable cost
D. variable cost…market price
The seller at least needs to cover the variable costs, and the buyer will be unwilling to pay more
than he/she would be able to pay elsewhere.
AACSB: Reflective Thinking
AICPA FN: Measurement
10-98
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
78.
Evergreen Corp. has two divisions, Fern and Bark. Fern produces a widget that Bark could use in
the production of units that cost $175 in variable costs, plus the cost of the widget, to
manufacture. Fern's variable costs are $60 per widget, and fixed manufacturing costs are
applied at a rate of $36 per widget. Widgets sell on the open market for $105 each. Evergreen's
policy is that internal transfers will be made at variable cost. If Bark purchases the widgets from
Fern, what will be the transfer price?
A. $60
B. $96
C. $100
D. $175
The transfer price is set at variable cost.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 1 Easy
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-99
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
79.
Evergreen Corp. has two divisions, Fern and Bark. Fern produces a widget that Bark could use in
the production of units that cost $175 in variable costs, plus the cost of the widget, to
manufacture. Fern's variable costs are $60 per widget, and fixed manufacturing costs are
applied at a rate of $36 per widget. Widgets sell on the open market for $105 each. Evergreen's
policy is that internal transfers will be made at full cost. If Bark purchases the widgets from Fern,
what will be the transfer price?
A. $60
B. $96
C. $105
D. $175
Full cost is $60 + $36 = $96.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 1 Easy
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-100
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
80.
Evergreen Corp. has two divisions, Fern and Bark. Fern produces a widget that Bark could use in
the production of units that cost $175 in variable costs, plus the cost of the widget, to
manufacture. Fern's variable costs are $60 per widget, and fixed manufacturing costs are
applied at a rate of $36 per widget. Widgets sell on the open market for $105 each. Evergreen's
policy is that internal transfers will be made at variable cost plus 20%. If Bark purchases the
widgets from Fern, what will be the transfer price?
A. $72.00
B. $115.20
C. $126.00
D. $210.00
Variable cost plus 20% is $60.00 × 1.2 = $72.00.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 1 Easy
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-101
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
81.
Evergreen Corp. has two divisions, Fern and Bark. Fern produces a widget that Bark could use in
the production of units that cost $175 in variable costs, plus the cost of the widget, to
manufacture. Fern's variable costs are $60 per widget, and fixed manufacturing costs are
applied at a rate of $36 per widget. Widgets sell on the open market for $105 each. Evergreen's
policy is that internal transfers will be made at full cost plus 20%. If Bark purchases the widgets
from Fern, what will be the transfer price?
A. $72.00
B. $115.20
C. $126.00
D. $210.00
Full cost plus 20% is ($60 + $36) × 1.2 = $115.20.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 1 Easy
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-102
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
82.
Holiday Corp. has two divisions, Quail and Marlin. Quail produces a widget that Marlin could
use in its production. Quail's variable costs are $4 per widget while the full cost is $7. Widgets
sell on the open market for $12 each. If Quail has excess capacity, what would be the minimum
transfer price if Marlin currently is purchasing 100,000 units on the open market?
A. $4.00
B. $5.00
C. $7.00
D. $12.00
The minimum transfer price when there is excess capacity is the variable cost.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-103
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
83.
Holiday Corp. has two divisions, Quail and Marlin. Quail produces a widget that Marlin could
use in its production. Quail's variable costs are $4 per widget while the full cost is $7. Widgets
sell on the open market for $12 each. If Quail has excess capacity, what would be the maximum
transfer price if Marlin currently is purchasing 100,000 units on the open market?
A. $4.00
B. $5.00
C. $7.00
D. $12.00
The maximum transfer price is the market price.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-104
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
84.
Holiday Corp. has two divisions, Quail and Marlin. Quail produces a widget that Marlin could
use in its production. Quail's variable costs are $4 per widget while the full cost is $7. Widgets
sell on the open market for $12 each. If Quail has excess capacity, what would be the cost
savings if the transfer was made and Marlin currently is purchasing 100,000 units on the open
market?
A. $0
B. $700,000
C. $800,000
D. $1,200,000
Holiday currently pays $12.00 on the open market. If Quail manufactures the widgets, it will cost
$4.00 each. Cost savings is ($12.00 - $4.00) × 100,000 = $800,000.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-105
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
85.
Holiday Corp. has two divisions, Quail and Marlin. Quail produces a widget that Marlin could
use in its production. Quail's variable costs are $4 per widget while the full cost is $7. Widgets
sell on the open market for $12 each. If Quail is operating at capacity, what would be the
minimum transfer price if Marlin currently is purchasing 100,000 units on the open market?
A. $4.00
B. $5.00
C. $7.00
D. $12.00
The minimum transfer price if there is no excess capacity is the market price.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-106
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
86.
Holiday Corp. has two divisions, Quail and Marlin. Quail produces a widget that Marlin could
use in its production. Quail's variable costs are $4 per widget while the full cost is $7. Widgets
sell on the open market for $12 each. If Quail is operating at capacity, what would be the
maximum transfer price if Marlin currently is purchasing 100,000 units on the open market?
A. $4.00
B. $5.00
C. $7.00
D. $12.00
The maximum transfer price is the market price.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-107
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
87.
Holiday Corp. has two divisions, Quail and Marlin. Quail produces a widget that Marlin could
use in its production. Quail's variable costs are $4 per widget while the full cost is $7. Widgets
sell on the open market for $12 each. If Quail is operating at capacity, what would be the cost
savings if the transfer was made and Marlin currently is purchasing 100,000 units on the open
market?
A. $0
B. $700,000
C. $800,000
D. $1,200,000
If Quail is operating at capacity, both the minimum and maximum transfer price will be the
market price. Since Marlin is currently paying market price, there will be no cost savings.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-108
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
88.
Spring Corp. has two divisions, Daffodil and Tulip. Daffodil produces a gadget that Tulip could
use in its production. Tulip currently purchases 100,000 gadgets for $12.50 on the open market.
Daffodil's variable costs are $6 per widget while the full cost is $9.35. Daffodil sells gadgets for
$13 each. If Daffodil is operating at capacity, what would be the maximum transfer price Tulip
would pay internally?
A. $6.00
B. $9.35
C. $12.50
D. $13.00
The maximum transfer price is the market price.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-109
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
89.
Spring Corp. has two divisions, Daffodil and Tulip. Daffodil produces a gadget that Tulip could
use in its production. Tulip currently purchases 100,000 gadgets for $12.50 on the open market.
Daffodil's variable costs are $6 per widget while the full cost is $9.35. Daffodil sells gadgets for
$13 each. If Daffodil is operating at less than full capacity, what would be the maximum transfer
price Tulip would pay internally?
A. $6.00
B. $9.35
C. $12.50
D. $13.00
The maximum transfer price is the market price.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-110
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
90.
Spring Corp. has two divisions, Daffodil and Tulip. Daffodil produces a gadget that Tulip could
use in its production. Tulip currently purchases 100,000 gadgets for $12.50 on the open market.
Daffodil's variable costs are $6 per widget while the full cost is $9.35. Daffodil sells gadgets for
$13 each. If Daffodil is operating at capacity, what would be the minimum transfer price Daffodil
would accept for an internal transfer?
A. $6.00
B. $9.35
C. $12.50
D. $13.00
The minimum transfer price if there is no excess capacity is the market price.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-111
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
91.
Spring Corp. has two divisions, Daffodil and Tulip. Daffodil produces a gadget that Tulip could
use in its production. Tulip currently purchases 100,000 gadgets for $12.50 on the open market.
Daffodil's variable costs are $6 per widget while the full cost is $9.35. Daffodil sells gadgets for
$13 each. If Daffodil is operating at less than full capacity, what would be the minimum transfer
price Daffodil would accept for an internal transfer?
A. $6.00
B. $9.35
C. $12.50
D. $13.00
The minimum transfer price when there is excess capacity is the variable cost.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-112
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
92.
Spice Company has two divisions, Parsley and Sage. Parsley produces a unit that Sage could
use in its production. Sage currently is purchasing 50,000 units from an outside supplier for $50.
Parsley is operating at less than its full capacity of 550,000 and has variable costs of $27 per
unit. The full cost to manufacture the unit is $38. Parsley currently sells 450,000 units at a selling
price of $54. If an internal transfer is made, variable shipping and administrative costs of $2 per
unit could be avoided. What would be the impact on Spice Company's overall profits if the
internal transfer were made?
A. no change in overall profits
B. $1,250,000 increase in profits
C. $200,000 decrease in profits
D. $700,000 increase in profits
The company is currently purchasing at $50 per unit. If the company manufactures the units
instead, the cost will be $25 per unit. ($50 - $25) × 50,000 = $1,250,000.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-113
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
93.
Spice Company has two divisions, Parsley and Sage. Parsley produces a unit that Sage could
use in its production. Sage currently is purchasing 50,000 units from an outside supplier for $50.
Parsley is operating at less than full capacity and has variable costs of $27 per unit. The full cost
to manufacture the unit is $38. Parsley currently sells 450,000 units at a selling price of $54. If
an internal transfer is made, variable shipping and administrative costs of $2 per unit could be
avoided. What would be the minimum transfer price?
A. $25
B. $27
C. $36
D. $52
The minimum transfer price when there is excess capacity is the variable cost, $27 - $2 = $25.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-114
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
94.
Spice Company has two divisions, Parsley and Sage. Parsley produces a unit that Sage could
use in its production. Sage currently is purchasing 50,000 units from an outside supplier for $50.
Parsley is operating at less than full capacity and has variable costs of $27 per unit. The full cost
to manufacture the unit is $38. Parsley currently sells 450,000 units at a selling price of $54. If
an internal transfer is made, variable shipping and administrative costs of $2 per unit could be
avoided. What would be the maximum transfer price?
A. $25
B. $27
C. $38
D. $50
The maximum transfer cost is the market price.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-115
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
95.
Tiffany Company has two divisions, Gold and Silver. Gold produces a unit that Silver could use
in its production. Silver currently is purchasing 50,000 units from an outside supplier for $25.
Gold is operating at less than full capacity and has variable costs of $13.50 per unit. The full cost
to manufacture the unit is $20. Gold currently sells 450,000 units at a selling price of $27. If an
internal transfer is made, variable shipping and administrative costs of $1 per unit could be
avoided. If the internal transfer is made, what would be the impact on Tiffany Company's
overall profits?
A. $625,000 increase
B. $1,125,000 increase
C. $225,000 decrease
D. No change in profits
The company currently purchases the units for $25. If the units are manufactured instead, the
cost will be $13.50 - $1 = $12.50. ($25 - $12.50) × 50,000 = $625,000.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-116
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
96.
Tiffany Company has two divisions, Gold and Silver. Gold produces a unit that Silver could use
in its production. Silver currently is purchasing 50,000 units from an outside supplier for $25.
Gold is operating at less than full capacity and has variable costs of $13.50 per unit. The full cost
to manufacture the unit is $20. Gold currently sells 450,000 units at a selling price of $27. If an
internal transfer is made, variable shipping and administrative costs of $1 per unit could be
avoided. How much profit will Gold receive from the transfer if a transfer price of $22.50 is
agreed upon?
A. $225,000
B. $275,000
C. $500,000
D. $725,000
[$22.50 - ($13.50 - $1)] × 50,000 = $500,000.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-117
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
97.
Tiffany Company has two divisions, Gold and Silver. Gold produces a unit that Silver could use
in its production. Silver currently is purchasing 50,000 units from an outside supplier for $25.
Gold is operating at less than full capacity and has variable costs of $13.50 per unit. The full cost
to manufacture the unit is $20. Gold currently sells 450,000 units at a selling price of $27. If an
internal transfer is made, variable shipping and administrative costs of $1 per unit could be
avoided. How much will Silver save by not purchasing from outside if a transfer price of $22.50
is agreed upon?
A. $225,000
B. $250,000
C. $175,000
D. $125,000
($25 - $22.50) × 50,000 = $125,000.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-118
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
98.
Swan Company has two divisions, Hill and Paradise. Hill produces a unit that Paradise could use
in its production. Paradise currently is purchasing 5,000 units from an outside supplier for $56.
Hill is operating at less than full capacity and has variable costs of $30.80 per unit. The full cost
to manufacture the unit is $43.40. Hill currently sells 450,000 units at a selling price of $61.60.
What would be the impact on Swan Company's overall profits if the internal transfer is made?
A. $28,000 increase
B. $126,000 increase
C. $7,000 decrease
D. No change in profits
The company currently pays $56 for the units. If they are manufactured instead, they will cost
$30.80. ($56 - $30.80) × 5,000 = $126,000.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-119
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
99.
Swan Company has two divisions, Hill and Paradise. Hill produces a unit that Paradise could use
in its production. Paradise currently is purchasing 5,000 units from an outside supplier for $56.
Hill is operating at less than full capacity and has variable costs of $30.80 per unit. The full cost
to manufacture the unit is $43.40. Hill currently sells 450,000 units at a selling price of $61.60.
How much profit will Hill receive from the transfer if a transfer price of $42 is agreed upon?
A. $7,000 loss
B. $98,000 loss
C. $35,000 profit
D. $56,000 profit
($42 - $30.80) × 5,000 = $56,000.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-120
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
100.
Swan Company has two divisions, Hill and Paradise. Hill produces a unit that Paradise could use
in its production. Paradise currently is purchasing 5,000 units from an outside supplier for $56.
Hill is operating at less than full capacity and has variable costs of $30.80 per unit. The full cost
to manufacture the unit is $43.40. Hill currently sells 450,000 units at a selling price of $61.60.
How much will Paradise save by not purchasing from outside if a transfer price of $42 is agreed
upon?
A. $70,000
B. $56,000
C. $7,000 more cost
D. $28,000
($56 - $42) × 5,000 = $70,000.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
Essay Questions
10-121
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
101.
Calculate the missing values:
a. 12.4% = 6.2% × 2
b. 7% = 21%/3
c. 1.75 = 21%/12%
d. 20% = 15%/0.75
Feedback: ROI = Profit margin × Investment turnover.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
10-122
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
102.
Calculate the missing values:
a. 20.75 = 8.3% × 2.5
b. 4.8% = 24%/5
c. 1.5 = 18%/12%
d. 8% = 14%/1.75
Feedback: ROI = Profit margin × Investment turnover.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Topic: Financial performance measures
10-123
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
103.
Eureka Corp has a hurdle rate of 8%. Calculate the missing values:
a. 15% = $105,0000/$700,000
b. $49,000 = $105,000 - (8% × $700,000)
c. $192,000 = $1,200,000 × 16%
d. $96,000 = $192,000 - (8% × $1,200,000)
e. $400,000 = ($75,000 - $43,000)/8%
f. 18.75% = $75,000/$400,000
g. $32,000 = $12,000 + 8% × $250,000
h. 12.8% = $32,000/$250,000
i. $320,000 = $48,000/15%
j. $22,400 = $48,000 - (8% × $320,000)
Feedback: ROI = Operating income/Average invested assets. Residual income = Operating
income - Hurdle rate × Average invested assets.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
10-124
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
104.
The Marine Division of Pacific Corp has average invested assets of $110,000,000. Sales revenue
of $50,250,000 results in an operating income of $9,967,000. The hurdle rate is 7%.
a. Calculate the return on investment.
b. Calculate the profit margin.
c. Calculate the investment turnover.
d. Calculate the residual income.
a. 9.06% = $9,967,000/$110,000,000
b. 19.83% = $9,967,000/$50,250,000
c. 0.4568 = $50,250,000/$110,000,000
d. $2,267,000 = $9,967,000 - (7% × $110,000,000)
Feedback: ROI = Operating income/Average invested assets. Profit margin = Operating
income/Sales revenue. Investment turnover = Sales revenue/Average invested assets. Residual
income = Operating income - Hurdle rate × Average invested assets.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
10-125
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
105.
Hubbard Division of the Market Company has an opportunity to invest in a new project. The
project will yield an incremental operating income of $36,750 on average invested assets of
$460,000. Hubbard currently has operating income of $210,000 on average invested assets of
$2,050,000. Market Company requires a 6% rate of return on new projects.
a. What is Hubbard's ROI before making an investment in the project?
b. What is Hubbard's residual income before making an investment in the project?
c. What is Hubbard's ROI after making the investment in the project?
d. What is Hubbard's residual income after making the investment in the project?
a. 10.24% = $210,000/$2,050,000
b. $87,000 = $210,000 - (6% × $2,050,000)
c. 9.83% = ($210,000 + $36,750)/($2,050,000 + $460,000)
d. $96,150 = ($210,000 + $36,750) - [6% × ($2,050,000 + $460,000)]
Feedback: ROI = Operating income/Average invested assets. Residual income = Operating
income - Hurdle rate × Average invested assets.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
10-126
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
106.
Ontario Company has two divisions with the following results:
Ontario Company has a hurdle rate of 10%.
a. Calculate the return on investment for each division.
b. Break each division's return on investment down into its component parts using the DuPont
method.
c. Calculate the residual income for each division
a. Jackson: 15% = $120,000/$800,000; Canal: 12.5% = $250,000/$2,000,000
b. Jackson: 40% profit margin = $120,000/$300,000; 0.375 investment turnover =
$300,000/$800,000
Canal: 41.67% profit margin = $250,000/$600,000; 0.300 investment turnover =
$600,000/$2,000,000
c. Jackson: $40,000 = $120,000 - (10% × $800,000)
Canal: $50,000 = $250,000 - (10% × $2,000,000)
Feedback: ROI = Operating income/Average invested assets. Profit margin = Operating
income/Sales revenue. Investment turnover = Sales revenue/Average invested assets. Residual
income = Operating income - Hurdle rate × Average invested assets.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
10-127
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
107.
Madison Corp has a hurdle rate of 9%. Calculate the missing values:
a. 14.375% = $115,0000/$800,000
b. $43,000 = $115,000 - (9% × $800,000)
c. $229,500 = $1,350,000 × 17%
d. $108,000 = $229,500 - (9% × $1,350,000)
e. $1,600,000 = ($175,000 - $31,000)/9%
f. 10.9375% = $175,000/$1,600,000
g. $103,500 = $36,000 + 9% × $750,000
h. 13.8% = $103,500/$750,000
i. $360,000 = $46,800/13%
j. $14,400 = $46,800 - (9% × $360,000)
Feedback: ROI = Operating income/Average invested assets. Residual income = Operating
income - Hurdle rate × Average invested assets.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
10-128
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
108.
The Walnut Division of Benton Corp has average invested assets of $22,500,000. Sales revenue
of $27,000,000 results in an operating income of $2,379,500. The hurdle rate is 8%.
a. Calculate the return on investment.
b. Calculate the profit margin.
c. Calculate the investment turnover.
d. Calculate the residual income.
a. 10.58% = $2,379,500/$22,500,000
b. 8.81% = $2,379,500/$27,000,000
c. 1.2 = $27,000,000/$22,500,000
d. $579,500 = $2,379,500 - (8% × $22,500,000)
Feedback: ROI = Operating income/Average invested assets. Profit margin = Operating
income/Sales revenue. Investment turnover = Sales revenue/Average invested assets. Residual
income = Operating income - Hurdle rate × Average invested assets.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
10-129
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
109.
Superior Division of the Monroe Company has an opportunity to invest in a new project. The
project will yield an incremental operating income of $73,350 on average invested assets of
$900,000. Superior Division currently has operating income of $425,000 on average invested
assets of $4,325,000. Monroe Company has a 7% hurdle rate for new projects.
a. What is Superior Division's ROI before making an investment in the project?
b. What is Superior Division's residual income before making an investment in the project?
c. What is Superior Division's ROI after making the investment in the project?
d. What is Superior Division's residual income after making the investment in the project?
a. 9.83% = $425,000/$4,325,000
b. $122,250 = $425,000 - (7% × $4,325,000)
c. 9.54% = ($425,000 + $73,350)/($4,325,000 + $900,000)
d. $132,600 = ($425,000 + $73,350) - [7% × ($4,325,000 + $900,000)]
Feedback: ROI = Operating income/Average invested assets. Residual income = Operating
income - Hurdle rate × Average invested assets.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
10-130
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
110.
Warren Company has two divisions with the following results:
Warren Company has a hurdle rate of 12%.
a. Calculate the return on investment for each division.
b. Break each division's return on investment down into its component parts using the DuPont
method.
c. Calculate the residual income for each division
a. Ashland: 15% = $180,000/$1,200,000; Erie: 11.25% = $450,000/$4,000,000
b. Ashland: 40% profit margin = $180,000/$450,000; 0.375 investment turnover =
$450,000/$1,200,000
Erie: 37.5% profit margin = $450,000/$1,200,000; 0.300 investment turnover =
$1,200,000/$4,000,000
c. Ashland: $36,000 = $180,000 - (12% × $1,200,000)
Erie: $-30,000 = $450,000 - (12% × $4,000,000)
Feedback: ROI = Operating income/Average invested assets. Profit margin = Operating
income/Sales revenue. Investment turnover = Sales revenue/Average invested assets. Residual
income = Operating income - Hurdle rate × Average invested assets.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
10-131
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
111.
The following information is available about the status and operations of the Manufacturing
Division of Taylor Company, which has a hurdle rate of 6%.
a. Compute the ROI for the Manufacturing Division.
b. Break the Manufacturing Division ROI down using the DuPont formula.
c. Compute the residual income for the Manufacturing Division.
a. 4.6% = $18,924/$411,637
b. 5.14% profit margin = $18,924/$368,363; 0.89 = investment turnover = $368,363/$411,637
c. $-5,774 = $18,924 - (6% × $411,637)
Feedback: ROI = Operating income/Average invested assets. Profit margin = Operating
income/Sales revenue. Investment turnover = Sales revenue/Average invested assets. Residual
income = Operating income - Hurdle rate × Average invested assets.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-04 Compute and interpret return on investment; investment turnover; and profit margin.
Learning Objective: 10-05 Compute and interpret residual income.
Topic: Financial performance measures
10-132
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
112.
Avery Company has two divisions, Polk and Bishop. Polk produces an item that Bishop could
use in its production. Bishop currently is purchasing 25,000 units from an outside supplier for
$24 per unit. Polk is currently operating at less than its full capacity of 600,000 units and has
variable costs of $12 per unit. The full cost to manufacture the unit is $18. Polk currently sells
450,000 units at a selling price of $25.50 per unit.
a. What will be the effect on Avery Company's operating profit if the transfer is made internally?
b. What is the minimum transfer price from Polk's perspective?
c. What is the maximum transfer price from Bishop's perspective?
a. $300,000 more profit = 25,000 × ($24 - $12)
b. $12: minimum price would be the variable cost for Polk
c. $24: maximum price would be the $24 market price for Bishop
Feedback: Profit will increase by the difference between the variable cost to manufacture and
the market price to purchase. The minimum transfer price with excess capacity is the variable
cost. The maximum transfer price is the buying division's market price.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-133
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
113.
Sandy Company has two divisions, Huron and Cortez. Huron produces an item that Cortez
could use in its production. Cortez currently is purchasing 50,000 units from an outside supplier
for $24 per unit. Huron is currently operating at full capacity of 600,000 units and has variable
costs of $13.50 per unit. The full cost to manufacture the unit is $19.50. Huron currently sells
600,000 units at a selling price of $25.50 per unit.
a. What will be the effect on Sandy Company's operating profit if the transfer is made
internally?
b. What is the minimum transfer price from Huron's perspective?
c. What is the maximum transfer price from Cortez' perspective?
a. $75,000 less profits = 50,000 × ($25.50 - $24)
b. $25.50 market price. Since Huron is at full capacity, any price less its current market price will
create an opportunity cost.
c. $24 market price for Cortez.
Feedback: Profit will decrease by the difference between the market price for the selling division
and the market price for the buying division. The minimum transfer price without excess
capacity is the selling division's market price. The maximum transfer price is the buying
division's market price.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-134
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
114.
National Company has two divisions, Walton and Iowa. Walton produces an item that Iowa
could use in its production. Iowa currently is purchasing 50,000 units from an outside supplier
for $9.10 per unit. Walton has sufficient capacity and has variable costs of $5.25 per unit. The
full cost to manufacture the unit is $7.70. Walton currently sells 450,000 units at a selling price
of $9.80 per unit.
a. What will be the effect on National Company's operating profit if the transfer is made
internally?
b. What will be the change in profits for Walton if the transfer price is $7 per unit?
c. What will be the change in profits for Iowa if the transfer price is $7 per unit?
a. $192,500 more profit = 50,000 × ($9.10 - $5.25)
b. $87,500 more profit = 50,000 × ($7 - $5.25)
c. $105,000 more profit = 50,000 × ($9.10 - $7)
Feedback: Profit for the firm will increase by the difference between the variable cost to
manufacture and the market price to purchase. Profit for the selling division will increase by the
difference between the variable cost to manufacture and the transfer price. Profit for the buying
division will increase by the difference between the transfer price and the market price to
purchase.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-135
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
115.
Sugar Company has two divisions, Lenox and Berkshire. Lenox produces an item that Berkshire
could use in its production. Berkshire currently is purchasing 100,000 units from an outside
supplier for $43 per unit. Lenox is currently operating at full capacity of 750,000 units and has
variable costs of $28 per unit. The full cost to manufacture the unit is $35. Lenox currently sells
750,000 units at a selling price of $44 per unit.
a. What will be the effect on Sugar Company's operating profit if the transfer is made internally?
b. What will be the change in profits for Lenox if the transfer price is $40 per unit?
c. What will be the change in profits for Berkshire if the transfer price is $40 per unit?
a. $100,000 less profits = 100,000 × ($43 - $44)
b. $400,000 less profits = 100,000 × ($40 - $44)
c. $300,000 more profits = 100,000 × ($43 - $40)
Feedback: Profit for the firm will decrease by the difference between the market price for the
selling division and the market price for the buying division. Profit for the selling division will
decrease by the difference between the market price for the selling division and the transfer
price. Profit for the buying division will increase by the difference between the transfer price
and the market price to purchase.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-136
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
116.
Concord Company has two divisions, Rice and Pine. Rice produces an item that Pine could use
in its production. Pine currently is purchasing 12,000 units from an outside supplier for $18 per
unit. Rice is currently operating at less than its full capacity of 500,000 units and has variable
costs of $10 per unit. The full cost to manufacture the unit is $14. Rice currently sells 450,000
units at a selling price of $20 per unit.
a. What will be the effect on Concord Company's operating profit if the transfer is made
internally?
b. What is the minimum transfer price from Rice's perspective?
c. What is the maximum transfer price from Pine' perspective?
a. $96,000 more profit = 12,000 × ($18 - $10)
b. $10: minimum price would be the variable cost for Rice
c. $18: maximum price would be the $18 market price for Pine
Feedback: Profit will increase by the difference between the variable cost to manufacture and
the market price to purchase. The minimum transfer price with excess capacity is the variable
cost. The maximum transfer price is the buying division's market price.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-137
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
117.
Tint Company has two divisions, Blue and Green. Blue produces an item that Green could use in
its production. Green currently is purchasing 150,000 units from an outside supplier for $23 per
unit. Blue is currently operating at full capacity of 1,600,000 units and has variable costs of $14
per unit. The full cost to manufacture the unit is $18. Blue currently sells 1,600,000 units at a
selling price of $25 per unit.
a. What will be the effect on Tint Company's operating profit if the transfer is made internally?
b. What is the minimum transfer price from Blue's perspective?
c. What is the maximum transfer price from Green's perspective?
a. $300,000 less profits = 150,000 × ($25 - $23)
b. $25 market price. Since Blue is at full capacity, any price less its current market price will
create an opportunity cost.
c. $23 market price for Green.
Feedback: Profit will decrease by the difference between the market price for the selling division
and the market price for the buying division. The minimum transfer price without excess
capacity is the selling division's market price. The maximum transfer price is the buying
division's market price.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-138
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
118.
Dickens Company has two divisions, Bloom and Heath. Bloom produces an item that Heath
could use in its production. Heath currently is purchasing 5,000 units from an outside supplier
for $44 per unit. Bloom has sufficient capacity and has variable costs of $35 per unit. The full
cost to manufacture the unit is $41. Bloom currently sells 450,000 units at a selling price of $48
per unit.
a. What will be the effect on Dickens Company's operating profit if the transfer is made
internally?
b. What will be the change in profits for Bloom if the transfer price is $41 per unit?
c. What will be the change in profits for Heath if the transfer price is $41 per unit?
a. $45,000 more profit = 5,000 × ($44 - $35)
b. $30,000 more profit = 5,000 × ($41 - $35)
c. $15,000 more profit = 5,000 × ($44 - $41)
Feedback: Profit for the firm will increase by the difference between the variable cost to
manufacture and the market price to purchase. Profit for the selling division will increase by the
difference between the variable cost to manufacture and the transfer price. Profit for the buying
division will increase by the difference between the transfer price and the market price to
purchase.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-139
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
119.
Washington Company has two divisions, Jefferson and Adams. Jefferson produces an item that
Adams could use in its production. Adams currently is purchasing 100,000 units from an outside
supplier for $78.40 per unit. Jefferson is currently operating at full capacity of 900,000 units and
has variable costs of $46.40 per unit. The full cost to manufacture the unit is $59.20. Jefferson
currently sells 900,000 units at a selling price of $86.40 per unit.
a. What will be the effect on Washington Company's operating profit if the transfer is made
internally?
b. What will be the change in profits for Jefferson if the transfer price is $67.20 per unit?
c. What will be the change in profits for Adams if the transfer price is $67.20 per unit?
a. $800,000 less profits = 100,000 × ($78.40 - $86.40)
b. $1,920,000 less profits = 100,000 × ($67.20 - $86.40)
c. $1,120,000 more profits = 100,000 × ($78.40 - $67.20)
Feedback: Profit for the firm will decrease by the difference between the market price for the
selling division and the market price for the buying division. Profit for the selling division will
decrease by the difference between the market price for the selling division and the transfer
price. Profit for the buying division will increase by the difference between the transfer price
and the market price to purchase.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 2 Medium
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-140
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
120.
Rapid Industries has multiple divisions. One division, Iron Products, makes a component that
another division, Austin, is currently purchasing on the open market. Iron Products currently has
a capacity to produce 500,000 components at a variable cost of $7.50 and a full cost of $10.00.
Iron Products has outside sales of 460,000 components at a price of $12.50 per unit. Austin
currently purchases 50,000 units from an outside supplier at a price of $12.00 per unit. Assume
that Austin desires to use a single supplier for its component.
a. What will be the effect on Rapid Industries' operating profit if the transfer is made internally?
Assume the 50,000 units Austin needs are either purchased 100% internally or 100% externally.
b. What is the minimum transfer price?
c. What is the maximum transfer price?
a. $175,000 increase in profits = $425,000 inside cost - $600,000 outside cost
Outside cost: 50,000 units × $12 = $600,000
Inside cost: 40,000 units from excess capacity × variable cost $7.50 = $300,000 +
10,000 units × ($7.50 variable cost + $5.00 opportunity cost) = $125,000 for a total inside cost of
$425,000
b. $8.50 = $425,000 inside cost/50,000 units
c. $12.00 outside market price to Austin
Feedback: Profit will increase by the difference between the variable cost to manufacture and
the market price to purchase, minus the opportunity cost to the selling division. The minimum
transfer price with excess capacity is the variable cost, plus the opportunity cost to the selling
division. The maximum transfer price is the buying division's market price.
AACSB: Analytic
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
10-141
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.
Learning Objective: 10-06 Explain how transfer prices are set in decentralized organizations.
Topic: Transfer pricing
10-142
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution
in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or par t.