Chapter 11
market price
Assume the selling division has no idle capacity and must give up outside sales, but does not lose anything by selling internally rather than outside. In addition, the buying disjoin has an accurate assessment of how much it costs the company for the transfer to take place. Under this situation, which pricing method is being used?
- lack of coordination - spreading innovative ideas may be difficult - clashing objectives between departments and the organization
Disadvantages of decentralization include
false
How managers are evaluated has no impact on transfer price negotiations.
spread throughout the organization
In decentralized organizations, decision-making authority is
- 20% $70,000/$350,000= 20%
Macey, Inc.'s investment center had average operating assets of $350,000, revenues of $1,050,000 and net operating income of $70,000. Return on investment is
their ability to control costs in their responsibility center
Managers of cost are evaluated on
- the project should be accepted by the company because it increases overall residual income - the department manager may not want to accept the project because it will lower the overall ROI for the department
Marcos Co. is considering a project that will increase residual income by $15,000. The project has a 12% return on investment (ROI) which exceeds the company's 10% required rate of return. Marcos Co. currently has an overall 15% ROI in the department where this project would be implemented. Which of the following statements regarding this potential investment are true?
- are consistent with decentralization - preserve the autonomy of the divisions - use the expertise of managers in weighing the costs and benefits of the transfer
Negotiated transfer prices
residual income
Net operating income - (average operating assets * minimum required rate of return)=
- net operating income/average operating assets - margin * turnover
ROI can be calculated as
(average operating assets * minimum required rate of return)
Residual income = net operating income less
investment
Residual income is a measure used to evaluate managers of centers.
it encourages managers to make investments that are profitable for the entire company
Residual income is better measure for performance evaluation of an investment center manager than return on investment because
net operating income/average operating assets
Return on investment=
average operating assets for the year
The ROI formula typically uses
variable cost per unit + average opportunity cost of lost sales
The compressor division at Norco Corporation can buy the coils it requires either from the company's coil division or from the market. Assuming the coil division has some idle capacity to satisfy the compressor division's requirements, which of the following will be lower limit for setting the transfer price between the two divisions?
investment
The manager of an center has control over costs, revenue, and investments in operating assets.
residual income
The net operating income that an investment center earns above the minimum required return on its average operating assets is
transfer price
The price charged when one segment of a company provides gods or services to another segment of the company is the
transfer price
The price charged when one segment of a company provides goods or services to another segment of the same company is called an
increase, increase
The selling division will agree to a transfer price only if its profits as a result of the transfer, and the buying division will agree to the transfer only if its profits as a result of the transfer.
budgeted
The service department remains responsible for any differences between the budgeted and actual costs of their department when operating departments are changed the service departments costs.
$6,000
Toys, Trinkets and More requires a minimum rate of return of 12% on its average operating assets. The toy department currently has average operating assets of $300,000 and a net operating income of $42,000. The department's residual income is
the selling division has idle capacity
Using the market price to set transfer prices may not be the best approach when
true
When ROI is calculated using the gross cost of assets, replacing a fully depreciated asset with a comparably priced new assets will not adversely affect ROI.
suboptimization
When responsibility center managers forego additional companywide profits by making decisions not in the best interest of the overall company, occurs.
false
suboptimization occurs when responsibility center managers make decisions that are in the best interests of their own responsibility center but not the company as a whole.
$26
Division B wants to purchase a part from Division A. Division A's variable cost per unit is $18. Allocated fixed costs are $5 per unit. Division B can purchase the part from an outside supplier for $26 per unit. The highest transfer price per unit that Division B will be willing to pay is
variable cost of production for coil division
The compressor division at Norco Company can buy the coils it requires either from the company's coil division or from the market. Assuming the coil division has enough idle capacity to satisfy the compressor division's requirements, which of the following will be the lower limit for setting the transfer price between the two divisions?
negotiated
Discussions between the buying and selling divisions result in an transfer price.
$25,000 100,000-(500,000 * 15%)= $25,000
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?
- increase -decrease - decrease
In order to increase return on investment (ROI), the company must sales, and/or operating expenses and/or average operating assets.
true
In strongly decentralized organizations, even the lowest-level managers can make decisions.
- increase - 10 - 12
Last year, Valley Manufacturing reported sales of $800,000, net operating income of $40,000, and average operating assets of $400,000. The company is considering the purchase of equipment that will reduce expenses by $20,000. The equipment will increase average operating assets by $100,000 and be purchased by issuing a notes payable. Sales will remain unchanged. If Valley accepts the project, its return on investment (ROI) after the purchase is projected to (increase/decrease) from the current level of % to a new return on investment (ROI) %.
false
Smith, Inc. has found the their managers are reluctant to replace old equipment with new, updated equipment. To stop this practice, Smith should compute ROI using assets' net book values.
10% 2,000,000/6,000,000 * 6,000,000/20,000,000= 10%
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?
selling price per unit of coil division
The compressor division at Norco Corporation can buy the coils it requires either from the company's coil division or from the market. Assuming the coil division has no idle capacity to satisfy the compressor division's requirements, which of the following will be the lower limit for setting the transfer price between the two divisions?
motivate the managers to act in the best interests of the overall company
The main objective of using transfer prices in an organization is to
amount they will make on the sale of the transferred units
When buying division has no outside supplier available to them, the highest transfer price they should be willing to pay is the
operating department
Which department carries out the main activities of the organization?
makes the final sale to an outside party
If cost is used as a transfer price, the only division with an opportunity to make a profit on the transfer is the division that
total contribution margin on lost sales
If the transfer has no effect on fixed cost, the transfer price from the selling division's standpoint must be equal to or greater than the variable cost per unit + ( / number of units transferred)
- be put in charge of a business segment that includes committed cost over which a manager has no control - reject investment opportunities that are profitable for the company but have a negative impact on a manager's ROI - take actions that increase ROI in the short-run at the expense of long-term performance
Valid criticisms of evaluating performance based on return on investment (ROI) include managers may
a manager might reject a proposal using ROI that the manager would accept using residual income
Which of the following are correct?
$60,000
Brooks Corporation has a Food Services department that provides food for employees in all other departments of the company. For September, variable food costs were budgeted at $4 per meal, based on 14,000 meals served during the month. At the end of the month, it was determined that 15,000 meals had been served at a total cost of $70,000. what is the amount of the variable food costs that should be charged to the other departments of the company at the end of the month?
margin, turnover
Computing ROI using the expanded model provides additional insights. ROI can be lowered by excessive operating expenses which can depress and excessive operating assets which can depress
$26
Division B wants buy 500 units of a part from Division A. Division A's variable cost per unit for the part os $18. Division A has enough idle capacity to make 300 parts without interrupting regular sales. If Division A supplies the parts, it will lose sales of 200 units. The selling price per unit on the outside market is $38. The lowest transfer price per unit that Division A might accept is
$18
Division B wants to purchase a part from Division A. Division A's variable cost per unit is $18. Allocated fixed costs are $5 per unit. Division A's normal selling price for the part is $30 per unit. Division A has enough idle capacity to be able to supply the needed parts without interrupting its regular sales. The lowest transfer price per unit that Division A might accept is
- rejecting the project would be an example of the manager deciding the objectives of the overall company in order to improve his segment - the manager may decide to reject the project because it will lower the current ROI earned by his division
Garnett. Inc, has required rate of return on new projects of 12%. The Western division of Garnett is currently earning a combined return on investment (ROI) of 14.5% on the projects in its division. The manager of the Western division is considering a project that is projected to earn 13.25%. Which of the following statements regarding the manager's decision is correct?
always
If a transfer price within a company would result in higher overall profits for the company, there is a range of transfer prices where both divisions would have higher profits if they are able to negotiate a price.
margin and turnover
In order to fully understand how a manager's decision can affect ROI, both and should be computed.
- cover any lost contribution margin due to the transfer - cover the variable cost per unit - cover any opportunity cost from lost sales
When a transfer has no effect on fixed costs, to be acceptable to the selling division, the transfer price must
- residual income - return on investment (ROI)
Which of the following evaluation measures are used for investment center managers only not for cost or profit center managers?
decentralization reduces how accountable Lowe-level managers are for the outcomes of their decisions
Which of the following is not a characteristic of decentralization?
cannot be used to compare the performances of divisions of different sizes
A major drawback of residual income is that it
decetralized
An organization in which decision-making authority is spread throughout the organization is
responsibility
Any part of an organization whose manager has control over and is accountable for cost, profit, or investments is an
net operating income
EBIT is another term for
interest and taxes
Net operating income is income before
residual income
Net operating income/average operating assets=
increase ROI over time
Using net book value (instead of gross cost) to calculate average operating assets
sales
Which of the following is not a service department?
responsibility accounting refers to the process of evaluating top management on the decisions made by lower-level managers
Which of the following statements is incorrect regrading responsibility accounting?
replacing an existing asset will not automatically decrease ROI
Why is using the gross cost of operating assets when calculating ROI preferable to using the net book value?
net operating income for the investment is above the minimum required return on average operating assets
when a manager is evaluated on residual income, an investment is acceptable when
- increasing sales - reducing operating expenses
A company can increase its return on investment (ROI) by
$20
A company with no idle capacity has variable costs of $8 per unit and a contribution margin of $12 per unit. Fixed costs total $10,000 for 5,000 units produced. The lowest per unit price they will accept to supply another division with 500 units id
- 4,000 24,000 - (200,000 * 10%)= 4,000
Carlos, Inc. requires a minimum rate of return of 10% on its average operating assets. The housewives department currently has average operating assets of $200,000 and a net operating income of $24,000. The department's residual income is
profit
Comparing actual net income to budget net income is often done to evaluate the manager of an center.
centralized
Decision-making authority lies mostly with higher-level managers in strongly organizations.
- a lack of incentive to control costs because they are simply passed to another department - a lack of departmental profit for the supplying department - suboptimization that may occur as fixed costs per unit may push the transfer price above market price
Drawbacks of using variable or full costing to set transfer prices include
decentralization
Lower-level management goals that are inconsistent with company goals are a possible disadvantages of
responsibility
Lower-level managers decision-making authority can be linked to the outcomes of those decisions through accounting systems.
return on investment
Net operating income/average operating assets=
- accounts receivable - inventory - equipment
Operating assets include
there are fewer managers that must be consulted before a decision is made
Operations are able to respond quickly to customers and changes in the environment in a decentralized organization because
investment centers, but not cost or profit centers
ROI is a method used to evaluate
NOI - (average operating assets * minimum rate of return)
Residual income=
margin/turnover
Return on investment can be calculated by each of the following formulas except
transfer
The amount that one division charges when it sells goods of services to another division of the same company is called an
less
The buying division in a transfer will only agree to a transfer price if the inside supplier's price is than or equal to the price offered by an outside supplier.
when no
The buying division would be willing to pay up to the amount in expects to make on transferred units outside supplier exists.
the overall company
The fundamental objective in setting transfer prices is to motivate managers to act in the best interest of
cost
The manager of an center does not have control over revenue of the use of investment funds.
responsibility
The manager of an center does not have control over revenue of the use of investment funds.
profit, investment
The manager of an center has control over both costs and revenues, but not over the use of
both the buying and the selling divisions participating in a transfer would increase
The range of acceptable prices is the range of transfer prices within which of profits of
variable cost per unit
When a department has enough idle capacity to supply a part to another division within the company without interrupting current sales, what is the lowest price selling division might accept?
selling price
When a department has no idle capacity and will interrupt their current level of sales to regular customers, the lowest acceptable transfer price to supply product to another division is
residual income
When a manager accepts a project because the net operating income from the investment exceeds the minimum acceptable profit based on required rate of return, the investment was evaluated based on
responsibility center
When a manager has control over and is accountable for cost, profit or investments of an organization, it is called
the transfer price is set at the ceiling price
Which of the following is not an approach used to set transfer prices?
sales
Which of the following is not one of the three primary types of responsibility centers?
arbitration cost
Which of the following methods is not commonly used to set transfer prices?
- net operating income/sales - sales/average operating assets
Which of the following ratios are part of the ROI formula?
the actual cost of a service department should be charged to operating departments
Which of the following statements about service departments costs is not correct?
