M_Acct - Chapter 9
net operating income is income before __ and ___
interest<br>taxes
Return on investment is a measure used to evaluate managers of ___ centers
investment
When a manager accepts a project because the net operating income from the investment exceeds the minimum required rate of return on average operating assets, the investment was evaluated base on __ __
residual income
Managers of cost centers are evaluated on:
their ability to control costs in their responsibility center
Comparing residual income versus return on investment
1. Residual income cannot be used to compare divisions of different sizes without some modification.2. A manager might reject a proposal using ROI that the manager would accept using residual income.
When evaluating divisions of different sizes?
Management should focus on the percentage change in residual income from year to year rather than on absolute amounts.
Profit center
Manager has control over both costs and revenue but not over the use of investment funds.
When a company uses the residual income approach to measure performance, ____
the objective is to Maximize the total residual income.
Investment venter
Has control over cost, revenue, and investments in operating assets
Operating assets
Include cash, accounts receivable, inventory, plant and equipment, and all other assets held for operating purposes.
In ROI Computation, Operating assets are included, nonoperating assets are excluded.<br>What are examples of non-operating asssets?
Land held for future use, building rented to someone else, or marketable securities.
Lower level managers decision making authority can be linked to the outcomes of those decisions through ___ accounting systems
Responsibility
__ __ __ is an adaptation of residual income that modifies some accounting principles such as the handling of research and development costs.
economic value added
If residual income is adopted as the performance measure to replace ROI, performance evaluation should be based on the absolute amount of the residual income.
false
Managers who are evaluated using return on investment will pursue any project whose rate of return is above the minimum required rate of return.
false
Disadvantages of decentralization
1. Lower-level managers may make decisions without fully understanding the big picture.<br>2. If lower level managers make their own decisions independently of each other, coordination may be lacking.<br>3. Low managers may have objectives that clash with the objectives of the entire organization.<br>4.Hard to spread new ideas./Coordination among departments.
Residual income =
= Net operating income - (Average operating assets x Minimum required rate of return)
Net book value?
Acquisition costs - Accumulated Depreciation
Economic Value Added (EVA)
An adaptation of residual income that has een adopted by many companies.
Disadvantage to Residual income approach
Cannot be used to compare performances of divisions of different sizes
Cost center
Control over costs, but not over revenue or the use of investment funds.
An organization in which decision-making authority is spread throughout the organization is:
Decentralized.
The higher a business segment's return on investment, the greater the profit earned per ____ invested in the segment's average operating assets.
Dollar
Residual income approach
Encourages managers to make investments that are profitable for the entire company
Using the net book value to calculate average operating assets encourages new investment. True false
False
Profit Center
Has control over both costs and revenue but not over investment funds.
Net operating income
Income before interest and taxes (EBIT)
How can a company increase its return on investment?
Increase sales, Reduce operating expenses
The manager of an __ center has control over costs, revenue, and investments in operating assets.
Investment
investment center
Manager has the control over costs, revenues, and the investment in operating assets.
Margin formula
Margin = Net operating income / Sales
In order to fully evaluate ROI managers should compute both ___ and ___.
Margin<br>Turnover
Managers will be ___ (more/less) likely to pursue projects that will benefit the entire company when being evaluated on residual income, rather than on return on investment.
More
Return on Investment (ROI)
Net Operating Income (EBIT) / Average Operating Assets<br>Net Operating Income = Sales - Expenses (COGS,SellingExp,AdminExp) Operating Assets = Current assets + Noncurrent assets Average Operating Assets = [Beginning net book value of operating assets + Ending Net Book Value of Operating Assets] / 2
ROI alternative formula
ROI= Margin x Turnover
The net operating income that an investment center earns above the minimum required return on its average operating assets is its __ income
Residual
Residual Income
Residual income = Net operating income - (Average operating assets x Minimum required rate of return)
Residual income
The net operating income that an investment center earns above the minimum required return on its operating assets.
How does a manager who is evaluated based on residual income decide whether or not to invest in a new project?
To be accepted, net operating income for the investment should be above the minimum required return on average operating assets.
Turnover formula
Turnover = Sales / Average operating Assets
Profit center managers are often evaluated by comparing ___ profit to ____ profit
actual. budgeted.