Chapter 11: Responsibility Accounting Systems
Net Operating Income
Sales - Expenses
Turnover
Sales / Average Operating Assets
Net Book Value
acquisition cost - accumulated depreciation
EBIT
earnings before interest and taxes
non-operating assets
ex: land held for future use, building rented to someone, marketable securities
Net Income
income before interest and taxes (EBIT)
Value-added time
process time
throughput time
process time + inspection time + move time + queue time (all except wait time)
Increased operating expenses can
reduce (decrease) ROI and depress margin and ROI
When a manager has control over and is accountable for cost, profit or investments of an organization, it is called
responsibility center
Which two criteria are used to evaluate the performance of an investment center?
return on investment (ROI) and residual income
Turnover
the investment in operating assets (manager responsibility)
Residual Income
the net operating income that an investment center earns above the minimum required return on its operating assets
manufacturing cycle efficiency
value added time / throughput time
Delivery Cycle Time
wait time + throughput time
Average Operating Assets
(beginning net book value of operating assets + ending net book value of operating assets) / 2
Juniper Design Ltd. of Manchester, England, provides design services to residential developers. Last year, the company had net operating income of $600,000 on sales of $3,000,000. The company's average operating assets for the year were $2,800,000 and its minimum required rate of return was 18%
600,000 - (2,800,000 x 18%)= $96,000
operation performance measurement
????
Return on Investment (ROI) (best for managers)
Margin x Turnover
Residual Income formula
Net Operating Income - (Average Operating Assets x Minimum Required Rate of Return)
Return on Investment (ROI)
Net Operating Income / Average Operating Assets
Margin
Net Operating Income / Sales
Systems Corporation earned a net operating income of $2 million on sales of $6 million. Assume that the company's average operating assets were $20 million. What is the company's ROI?
ROI = Net operating income / Average operating assets = $2 million ÷ $20 million = 10%
Axis Corporation's Division A has average operating assets of $500,000 and the division earned $100,000 as net operating income during a period. The company expects a minimum required rate of return of 15% on its investments. What is the residual income for Division A?
Residual income = $100,000 − ($500,000 × 15%) = $100,000 − $75,000 = $25,000
A major drawback of residual income is that it
cannot be used to compare the performances of divisions of different sizes
Average Operating Assets
current assets + non current assets
Margin can be increased by
increasing selling prices, increasing units sales, reducing operating expenses
Residual income is a better measure for performance evaluation of an investment center manager than return on investment because
it encourages managers to make investments that are profitable for the entire company
