# Quiz 14: Business Unit Performance Measurement

Business

Q 1Q 1

Divisional income statements do not have to follow generally accepted accounting principles (GAAP) because they are internal reports.

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True False

True

Q 2Q 2

One advantage of using after-tax income as a performance measure of divisional results is that it is a financial accounting measure that is used to compute organizational income.

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True False

True

Q 3Q 3

One disadvantage of using after-tax income as a performance measure of divisional results is that it is an absolute measure which makes it difficult to compare divisions of significantly different sizes.

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True False

True

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True False

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True False

Q 6Q 6

One problem associated with using accounting measures to evaluate divisional performance is the measures are based on historical information.

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True False

Q 7Q 7

A problem with ratio-based measures is that managers can make decisions that improve divisional income but lower organizational performance.

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True False

Q 8Q 8

It is not possible for a manager to accept an unacceptable project when his/her performance is evaluated using ROI.

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True False

Q 9Q 9

Residual income is the difference between the divisional income and the cost of invested capital required to operate the division.

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True False

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True False

Q 11Q 11

Managerial myopia is the distortion in incentives that results from using accounting measures to evaluate performance.

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True False

Q 12Q 12

Most organizations use residual income instead of return on investment (ROI) as a performance measure.

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True False

Q 13Q 13

Economic value added (EVA) adjustments are made to both the after-tax income and the capital employed.

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True False

Q 14Q 14

Treating research and development costs as an expense rather than a long-term asset may reduce a manager's inclination to participate in research and development activities.

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True False

Q 15Q 15

One problem with economic value added (EVA) adjustments is determining the appropriate life for expenditures that benefit multiple periods.

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True False

Q 16Q 16

Like return on investment (ROI), economic value added (EVA) adjustments fail to sufficiently address the suboptimization problem.

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True False

Q 17Q 17

In general, a division's investment base includes an allocated share of the corporate headquarters' assets.

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True False

Q 18Q 18

Treating research and development costs as an expense rather than a long-term asset may reduce a manager's inclination to participate in research and development activities.

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True False

Q 19Q 19

Current costs should not be used to compute either return on investment (ROI) or residual income because current costs are not generally accepted accounting principles (GAAP).

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True False

Q 20Q 20

Treating research and development costs as an expense rather than a long-term asset may reduce a manager's inclination to participate in research and development activities.

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True False

Q 21Q 21

Which of the following is not an advantage of after-tax income as a performance measure?
A) It reflects the results of decisions under the division manager's control.
B) It summarizes the results of decisions affecting revenues and costs.
C) It makes comparison of divisions easy because they use the same measure, dollars of income.
D) It is financial income computed differently from the income of the firm.

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Multiple Choice

Q 22Q 22

Which of the following statements is(are) true?
(A) Divisional income statements do not include allocated common costs.
(B) The gross margin ratio is computed by dividing operating income by sales.
A) Only A is true.
B) Only B is true.
C) Both of these are true.
D) Neither of these is true.

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Multiple Choice

Q 23Q 23

After-tax income divided by sales is called the:
A) gross margin ratio.
B) profit margin ratio.
C) operating margin ratio.
D) contribution margin ratio.

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Multiple Choice

Q 24Q 24

The measure (ratio) that reflects the performance of a manager regarding sales and cost of goods sold, but not other operating costs and income taxes, is called the:
A) gross margin ratio.
B) profit margin ratio.
C) operating margin ratio.
D) contribution margin ratio.

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Multiple Choice

Q 25Q 25

If a division is evaluated using return on investment (ROI) without regard to how assets are financed, the denominator in the ROI calculation will be:
A) current assets.
B) working capital.
C) total assets available.
D) total assets employed.

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Multiple Choice

Q 26Q 26

Return on investment (ROI) can be decomposed into the asset turnover and the:
A) gross margin ratio.
B) profit margin ratio.
C) operating margin ratio.
D) contribution margin ratio.

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Multiple Choice

Q 27Q 27

The asset turnover is a measure (ratio) of an investment center's ability to:
A) earn profits.
B) generate sales.
C) control costs.
D) remain solvent.

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Multiple Choice

Q 28Q 28

Which of the following statements does not represent a limitation of using return on investment (ROI) for measuring and evaluating performance?
A) ROI uses accounting income which is based on historical information.
B) ROI cannot be used to compare divisions of different sizes.
C) ROI has the potential to create goal congruence problems.
D) ROI fails to align some costs incurred in one period with the benefits received in another period.

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Multiple Choice

Q 29Q 29

How will increases in the following items affect return on investment (ROI)?
A) Option A
B) Option B
C) Option C
D) Option D

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Multiple Choice

Q 30Q 30

A manager can increase his/her return on investment (ROI) by:
A) reducing the asset turnover.
B) decreasing residual income.
C) increasing the operating profit margin.
D) expanding operating assets while holding sales and expenses constant.

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Multiple Choice

Q 31Q 31

The Maxim Corporation reported the following operating results for its three divisions: South, West, and East.
Which division has the smallest return on investment (ROI)?
A) South.
B) West.
C) East.
D) All three divisions have the same ROI.

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Multiple Choice

Q 32Q 32

The Maxim Corporation reported the following operating results for its three divisions: South, West, and East.
Which division has the largest asset turnover?
A) South.
B) West.
C) East.
D) All three divisions have the same asset turnover.

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Multiple Choice

Q 33Q 33

The Maxim Corporation reported the following operating results for its three divisions: South, West, and East.
Which division has the highest profit margin?
A) South.
B) West.
C) East.
D) All three divisions have the same profit margin.

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Multiple Choice

Q 34Q 34

The following information was presented by User-Friendly Industries Company for an asset purchased at the beginning of the previous year.
What is the return on investment (ROI) assuming User-Friendly uses (a) the straight-line method for depreciation and (b) beginning-of-year net book values to compute ROI?
A) 11.1%.
B) 20.0%.
C) 22.2%.
D) 25.0%.

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Multiple Choice

Q 35Q 35

The following information was presented by Outdoors Manufacturing Company for an asset purchased at the beginning of the previous year.
What is the return on investment (ROI) assuming Outdoors uses (a) the straight-line method for depreciation and (b) beginning-of-year net book values to compute ROI?
A) 11.1%.
B) 20.0%.
C) 10.0%.
D) 22.2%.

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Multiple Choice

Q 36Q 36

The following information was presented by Shower Wonder Enterprises for an asset purchased at the beginning of the previous year.
What is the return on investment (ROI) assuming Shower Wonder uses (a) the straight-line method for depreciation and (b) average net book values to compute ROI?
A) 21.1%.
B) 20.0%.
C) 22.2%.
D) 11.76%.

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Multiple Choice

Q 37Q 37

Garage Corporation's return on investment (ROI) on some new equipment was 20% using beginning-of-year net book value. The gross book value of the equipment is $250,000. Accumulated depreciation at the beginning of the year was $10,000. This represents one-half year's straight-line depreciation. What is the annual before-tax cash flow from the new equipment?
A) $68,000.
B) $60,000.
C) $48,000.
D) $20,000.

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Multiple Choice

Q 38Q 38

Madrigal Corporation purchased a new machine for $120,000. The machine has an estimated useful life of 10-years with no salvage value and a return on investment (ROI) of 15%. ROI is computed using annual cash flows and straight-line depreciation. What is the annual cash flow using the gross book value method?
A) $12,200.
B) $18,000.
C) $28,200.
D) $30,000.

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Multiple Choice

Q 39Q 39

The Nacho Division of the Tex-Mex Company has a return on investment (ROI) of 12%, sales of $200,000, and an asset turnover of 2.0. What was Nacho's operating income?
A) $6,000.
B) $12,000.
C) $24,000.
D) $48,000.

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Multiple Choice

Q 40Q 40

The following information is available for Sweet Dreams Company:
What is Sweet Dreams Company's return on investment (ROI)?
A) 6.0%.
B) 10.0%.
C) 15.0%.
D) 24.0%.

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Multiple Choice

Q 41Q 41

The Gallop Company has an asset turnover of 3.0 times, using assets of $45,000. The company also has a return on investment (ROI) of 20%. What was Gallop's operating profit margin?
A) 5.0%.
B) 6.0%.
C) 6.7%.
D) 8.3%.

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Multiple Choice

Q 42Q 42

How will decreases in the following items affect return on investment (ROI)?
A) Option A
B) Option B
C) Option C
D) Option D

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Multiple Choice

Q 43Q 43

A firm earning a profit can increase its return on investment by: (CMA adapted)
A) increasing sales revenue and operating expenses by the same dollar amount.
B) decreasing sales revenues and operating expenses by the same percentage.
C) increasing investment and operating expenses by the same dollar amount.
D) increasing sales revenues and operating expenses by the same percentage.

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Multiple Choice

Q 44Q 44

Return on investment (ROI) is a very popular measure employed to evaluate the performance of corporate segments because it incorporates all of the major ingredients of profitability (revenue, cost, investment) into a single measure. Under which one of the following combinations of actions regarding a segment's revenues, costs, and investment would a segment's ROI always increase? (CIA adapted)
A) Option A
B) Option B
C) Option C
D) Option D

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Multiple Choice

Q 45Q 45

The following information pertains to Artemis Co. for the year ended December 31: (CPA adapted)
Which of the following equations should be used to compute Artemis' return on investment (ROI)?
A) (4/6) × (6/1) = ROI
B) (1/6) × (6/4) = ROI
C) (4/6) × (1/6) = ROI
D) (6/4) × (6/1) = ROI

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Multiple Choice

Q 46Q 46

The following information pertains to Zootime Co.'s Shelter Division for the current year: (CPA adapted)
Zootime's return on investment was:
A) 10.00%.
B) 13.33%.
C) 27.50%.
D) 30.00%.

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Multiple Choice

Q 47Q 47

A division earning a profit will increase its return on investment (ROI) if it increases operating expenses and:
A) sales by the same dollar amount.
B) sales by the same percentage.
C) investment by the same dollar amount.
D) investment by the same percentage.

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Multiple Choice

Q 48Q 48

In computing the margin in a ROI analysis, which of the following is used?
A) Sales in the denominator.
B) Net operating income in the denominator.
C) Average operating assets in the denominator.
D) Residual income in the denominator.

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Multiple Choice

Q 49Q 49

In determining the dollar amount to use for operating assets in the return on investment (ROI) calculation, companies will generally use either net book value or gross cost of the assets. Which of the following is not an argument for the use of net book value rather than gross cost?
A) It is consistent with how assets are reported on the balance sheet.
B) It eliminates the depreciation method as a factor in ROI calculations.
C) It encourages the replacement of old, worn-out equipment.
D) It will result in a decrease of ROI each year.

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Multiple Choice

Q 50Q 50

Average operating assets are $110,000 and net operating income is $23,100. The company invests $25,000 in new assets for a project that will increase net operating income by $4,750. What is the return on investment (ROI) of the new project?
A) 21%.
B) 19%.
C) 18.5%.
D) 20%.

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Multiple Choice

Q 51Q 51

Last year, a company had stockholders' equity of $160,000, net operating income of $16,000, and sales of $100,000. The asset turnover was 0.5 and the return on investment (ROI) was:
A) 10%.
B) 9%.
C) 8%.
D) 7%.

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Multiple Choice

Q 52Q 52

Sales and average operating assets for Wyeth Company and Genesis Company are given below:
What is the margin that each company will have to earn in order to generate a return on investment of 20%?
A) 12% and 16%.
B) 50% and 100%.
C) 8% and 4%.
D) 2.5% and 5%.

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Multiple Choice

Q 53Q 53

Rex Company's sales last year totaled $150,000 and its return on investment (ROI) was 12%. If the company's turnover was 3, then its net operating income for the year must have been:
A) $6,000.
B) $2,000.
C) $18,000.
D) it is impossible to determine from the data given.

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Multiple Choice

Q 54Q 54

The Dry Wall Division reports the following operating data for the past two years:
The return on investment at the Dry Wall Division was exactly the same in Year 1 and Year 2.
The margin in Year 2 was:
A) 48%.
B) 32%.
C) 20%.
D) 10%.

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Multiple Choice

Q 55Q 55

The Dry Wall Division reports the following operating data for the past two years:
The return on investment at the Dry Wall Division was exactly the same in Year 1 and Year 2.
Sales in Year 2 amounted to:
A) $250,000.
B) $300,000.
C) $325,000.
D) $350,000.

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Multiple Choice

Q 56Q 56

The Dry Wall Division reports the following operating data for the past two years:
The return on investment at the Dry Wall Division was exactly the same in Year 1 and Year 2.
Average operating assets in Year 1 were:
A) $160,000.
B) $150,000.
C) $125,000.
D) $100,000.

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Multiple Choice

Q 57Q 57

The Dry Wall Division reports the following operating data for the past two years:
The return on investment at the Dry Wall Division was exactly the same in Year 1 and Year 2.
Net operating income in Year 2 amounted to:
A) $60,000.
B) $50,000.
C) $40,000.
D) $35,000.

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Multiple Choice

Q 58Q 58

The following data are available for the South Division of Manhattan Products, Inc. and the single product it makes:
How many units must South sell each year to have an ROI of 16%?
A) 240,000.
B) 1,300,000.
C) 52,000.
D) 65,000.

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Multiple Choice

Q 59Q 59

The Country Garden Company's current net operating income is $16,800 and its average operating assets are $80,000. The Country Garden's required rate of return is 18%. A new project being considered would require an investment of $15,000 and would generate annual net operating income of $3,000. What is the residual income of the new project?
A) 20.8%.
B) 20%.
C) $(150).
D) $300.

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Multiple Choice

Q 60Q 60

Imagination Corporation uses residual income to evaluate the performance of its divisions. Imagination's minimum required rate of return is 11%. In April, the Commercial Products Division had average operating assets of $100,000 and net operating income of $9,400. What was the Commercial Products Division's residual income in April?
A) $(1,600).
B) $1,600.
C) $1,034.
D) $(1,034).

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Multiple Choice

Q 61Q 61

Division B had an ROI last year of 15%. The division's minimum required rate of return is 10%. If the division's average operating assets last year were $450,000, then the division's residual income for last year was:
A) $67,500.
B) $22,500.
C) $37,500.
D) $45,000.

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Multiple Choice

Q 62Q 62

Which of the following will not result in an increase in the residual income, assuming other factors remain constant?
A) An increase in sales.
B) An increase in the minimum required rate of return.
C) A decrease in expenses.
D) A decrease in operating assets.

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Multiple Choice

Q 63Q 63

All other things constant, which of the following would increase residual income?
A) Increase in average operating assets.
B) Decrease in average operating assets.
C) Increase in minimum required rate of return.
D) Decrease in net operating income.

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Multiple Choice

Q 64Q 64

Which of the following statement(s) is/are true?
(A) If a division's return on investment (ROI) exceeds its cost of capital, then its residual income is positive.
(B) If a division's cost of capital equals its return on investment (ROI), then its residual income is zero.
A) Only (A) is true.
B) Only (B) is true.
C) Both of these are true.
D) Neither of these is true.

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Multiple Choice

Q 65Q 65

Residual income is similar to the ________ notion of profit as being the amount left over after all costs, including the cost of the capital employed in the division, are subtracted.
A) accountant's
B) manager's
C) shareholder's
D) economist's

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Multiple Choice

Q 66Q 66

Which of the following statement(s) is/are false?
(A) Residual income can be used to compare divisions of different sizes.
(B) Residual income can be used to compare divisions that are profit centers.
A) Only (A) is false.
B) Only (B) is false.
C) Both of these are false.
D) Neither of these is false.

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Multiple Choice

Q 67Q 67

Managerial performance can be measured in many different ways including return on investment (ROI) and residual income. A good reason for using residual income instead of ROI is that:
A) residual income can be computed without regard to identifying an investment base.
B) appropriate goal congruence behavior is more likely to occur when using residual income.
C) residual income is well accepted in many organizations and often used in the financial press.
D) ROI does not take into consideration both the investment turnover ratio and return-on-sales percentage.

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Multiple Choice

Q 68Q 68

How will decreases in the following items affect residual income?
A) Option A
B) Option B
C) Option C
D) Option D

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Multiple Choice

Q 69Q 69

Residual income is a performance evaluation that is used in conjunction with, or instead of, return on investment (ROI). In many cases, residual income is preferred to ROI because: (CIA adapted)
A) residual income is a measure over time, while ROI represents the results for one period.
B) residual income concentrates on maximizing absolute dollars of income rather than a percentage return, as with ROI.
C) the imputed interest rate used in calculating residual income is more easily derived than the target rate that is compared to the calculated ROI.
D) average investment is employed with residual income while year-end investment is employed with ROI.

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Multiple Choice

Q 70Q 70

Residual income is a better measure for performance evaluation of an investment center manager than return on investment because: (CMA adapted)
A) the problems associated with measuring the asset base are eliminated.
B) desirable investment decisions are less likely to be neglected by high-return divisions.
C) only the gross book value of assets needs to be calculated.
D) the arguments about the implicit cost of interest are eliminated.

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Multiple Choice

Q 71Q 71

Kevin Thomas is the general manager of the Modular Homes Division, and his performance is measured using the residual income method. Thomas is reviewing the following forecasted information for his division for next year: (CMA adapted)
If the cost of capital is 15% and Thomas wants to achieve a residual income target of $2,000,000, what will costs have to be in order to achieve the target?
A) $9,000,000.
B) $10,800,000.
C) $25,150,000.
D) $25,690,000.

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Multiple Choice

Q 72Q 72

Bella Vista Service Co. is a computer service center. For the month of May, Bella Vista Service Co. had the following operating statistics: (CMA adapted)
Based on the above information, which one of the following statements is correct?
A) Bella Vista Service Co. has a return on investment of 4%.
B) Bella Vista Service Co. has a residual income of $(2,000).
C) Bella Vista Service Co. has a return on investment of 5.6%.
D) Bella Vista Service Co. has a residual income of $(22,000).

Free

Multiple Choice

Q 73Q 73

How will increases in the following items affect residual income?
A) Option A
B) Option B
C) Option C
D) Option D

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Multiple Choice

Q 74Q 74

Which of the following should not be used for the cost of capital to compute residual income?
A) Historical weighted average cost of capital.
B) Marginal after-tax cost of new equity capital.
C) Cost of debt and equity used to finance a project.
D) Return on investment (ROI).

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Multiple Choice

Q 75Q 75

Which one of the following items would most likely not be incorporated into the calculation of a division's investment base when using the residual income approach for performance measurement and evaluation?
A) Land being held by the division as a potential site for a new plant and parking lot.
B) Division inventories when division management exercises control over the inventory levels.
C) Division accounts payable when division management exercises control over the amount of short-term credit utilized.
D) Division accounts receivable when division management exercises control over credit policy and credit terms.

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Multiple Choice

Q 76Q 76

The Pathways Company has an asset turnover of 3.0 times, using assets of $45,000. The company also has a return on investment (ROI) of 20%. If the residual income was $2,250, what was the company's cost of capital?
A) 6.0%.
B) 10.0%.
C) 15.0%.
D) 20.0%.

Free

Multiple Choice

Q 77Q 77

In 2020, Evans Corporation had an operating profit of $750,000 and a residual income of $300,000. If Evans' cost of capital is 15%, what is the amount of the invested capital?
A) $5,000,000.
B) $3,000,000.
C) $2,000,000.
D) $1,250,000.

Free

Multiple Choice

Q 78Q 78

The following information is available for Kiss Company:
What is Kiss Company's residual income?
A) $2,000.
B) $2,500.
C) $3,500.
D) $4,000.

Free

Multiple Choice

Q 79Q 79

The following information has been gathered for the Door Division:
What is the Door Division's residual income?
A) $1,800.
B) $2,700.
C) $3,600.
D) $5,400.

Free

Multiple Choice

Q 80Q 80

The following information has been gathered for the Brake Division:
What is the Brake Division's residual income?
A) $15,000.
B) $22,500.
C) $18,750.
D) $48,000.

Free

Multiple Choice

Q 81Q 81

The Labrador Falls Company has three divisions: A Division, B Division, and C Division.
What was A Division's residual income last year?
A) $12,000.
B) $22,500.
C) $30,000.
D) $48,000.

Free

Multiple Choice

Q 82Q 82

The Labrador Falls Company has three divisions: A Division, B Division, and C Division.
What was B Division's return on investment (ROI) last year?
A) 16.00%.
B) 20.00%.
C) 24.00%.
D) 33.75%.

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Multiple Choice

Q 83Q 83

The Labrador Falls Company has three divisions: A Division, B Division, and C Division.
What was A Division's residual income last year?
A) 8%.
B) 12%.
C) 18%.
D) 20%.

Free

Multiple Choice

Q 84Q 84

Which of the following items would not be an example of an economic value added (EVA) adjustment to eliminate accounting distortions?
A) Research & development costs.
B) Advertising expenditures.
C) Patent amortization.
D) Common stock.

Free

Multiple Choice

Q 85Q 85

Which of the following items would not require an adjustment to capital employed when using economic value added (EVA)?
A) Research & development costs.
B) Advertising expenditures.
C) Preferred stock.
D) Accounts Payable.

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Multiple Choice

Q 86Q 86

Economic value added (EVA) is a concept that is closely related to residual income. EVA is computed by:
A) subtracting the adjusted total cost of capital from the adjusted after-tax income.
B) subtracting adjusted after-tax income from total divisional investment.
C) dividing adjusted after-tax income by adjusted divisional investment.
D) dividing adjusted after-tax income by adjusted total cost of capital.

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Multiple Choice

Q 87Q 87

Economic value added (EVA) assumes that which of the following GAAP expenses would not result in an adjustment to either the income or the capital employed?
A) Research & development costs.
B) Use of process costing rather than job costing.
C) Advertising expenses.
D) Write-off of goodwill.

Free

Multiple Choice

Q 88Q 88

Which of the following statements regarding the use of historical costs and current costs to compute return on investment (ROI) is(are) true?
(A) Historical costs are based on the original costs to acquire a long-term asset, while current costs represent the costs to replace the long-term asset.
(B) For a specific multiple-period project, the return on investment (ROI) computed using current costs will generally be less than the ROI computed using historical costs.
A) Only (A) is true.
B) Only (B) is true.
C) Both of these are true.
D) Neither of these is true.

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Multiple Choice

Q 89Q 89

Level return on investments (ROI) over the life of a long-term project is more likely when ROI is computed using:
A) historical costs and net book values.
B) historical costs and gross book values.
C) current costs and net book values.
D) current costs and gross book values.

Free

Multiple Choice

Q 90Q 90

Using ending balances for the investment base in computing return on investment (ROI) might encourage managers to acquire assets:
A) early in the year and dispose of assets late in the year.
B) early in the year and dispose of assets early in the year.
C) late in the year and dispose of assets late in the year.
D) late in the year and dispose of assets early in the year.

Free

Multiple Choice

Q 91Q 91

Using beginning balances for the investment base in computing return on investment (ROI) might encourage managers to acquire assets:
A) early in the year and dispose of assets late in the year.
B) early in the year and dispose of assets early in the year.
C) late in the year and dispose of assets late in the year.
D) late in the year and dispose of assets early in the year.

Free

Multiple Choice

Q 92Q 92

One division of the Marvin Educational Enterprises has depreciable assets costing $4,000,000. The cash flows from these assets for the past three years have been:
The current (i.e., replacement) costs of these assets were expected to increase 25% each year. Marvin used the straight-line depreciation method and the assets had an estimated useful life of 10 years with no salvage value. For return on investment (ROI) calculations, Marvin uses end-of-year balances.
What is the ROI using historical cost and gross book value?
A) Option A
B) Option B
C) Option C
D) Option D

Free

Multiple Choice

Q 93Q 93

One division of the Marvin Educational Enterprises has depreciable assets costing $4,000,000. The cash flows from these assets for the past three years have been:
The current (i.e., replacement) costs of these assets were expected to increase 25% each year. Marvin used the straight-line depreciation method and the estimated useful life is 10-years with no salvage value. For return on investment (ROI) calculations, Marvin uses end-of-year balances.
What is the ROI using historical cost and net book value?
A) Option A
B) Option B
C) Option C
D) Option D

Free

Multiple Choice

Q 94Q 94

One division of the Marvin Educational Enterprises has depreciable assets costing $4,000,000. The cash flows from these assets for the past three years have been:
The current (i.e., replacement) costs of these assets were expected to increase 25% each year. Marvin used the straight-line depreciation method and the estimated useful life is 10-years with no salvage value. For return on investment (ROI) calculations, Marvin uses end-of-year balances.
What is the ROI using current costs and gross book value?
A) Option A
B) Option B
C) Option C
D) Option D

Free

Multiple Choice

Q 95Q 95

One division of the Marvin Educational Enterprises has depreciable assets costing $4,000,000. The cash flows from these assets for the past three years have been:
The current (i.e., replacement) costs of these assets were expected to increase 25% each year. Marvin used the straight-line depreciation method and the estimated useful life is 10-years with no salvage value. For return on investment (ROI) calculations, Marvin uses end-of-year balances.
What is the ROI using current costs and net book value?
A) Option A
B) Option B
C) Option C
D) Option D

Free

Multiple Choice

Q 96Q 96

One division of the Marvin Educational Enterprises has depreciable assets costing $4,000,000. The cash flows from these assets for the past three years have been:
The current (i.e., replacement) costs of these assets were expected to increase 25% each year. Marvin used the straight-line depreciation method and the estimated useful life is 10-years with no salvage value. For return on investment (ROI) calculations, Marvin uses end-of-year balances.
What is the residual income for each year, assuming the cost of capital is 15% and Marvin uses historical costs and gross book values to compute residual income?
A) Option A
B) Option B
C) Option C
D) Option D

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Multiple Choice

Q 97Q 97

One division of the Marvin Educational Enterprises has depreciable assets costing $4,000,000. The cash flows from these assets for the past three years have been:
The current (i.e., replacement) costs of these assets were expected to increase 25% each year. Marvin used the straight-line depreciation method and the estimated useful life is 10-years with no salvage value. For return on investment (ROI) calculations, Marvin uses end-of-year balances.
What is the residual income for each year, assuming the cost of capital is 15% and Marvin uses historical costs and net book values to compute residual income?
A) Option A
B) Option B
C) Option C
D) Option D

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Multiple Choice

Q 98Q 98

The Jones Company purchased assets costing $200,000 which will be depreciated over 5 years using straight-line depreciation and no salvage value. Jones also purchased land and other assets, which are not depreciable, at a cost of $200,000. It is estimated that in 5 years, the value of these assets will be unchanged. Assume that annual cash profits are $80,000 and, for return on investment (ROI) calculations, the company uses end-of-year asset values.
What is the ROI for each year using net book value?
A) Option A
B) Option B
C) Option C
D) Option D

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Multiple Choice

Q 99Q 99

The Jones Company purchased assets costing $200,000 which will be depreciated over 5 years using straight-line depreciation and no salvage value. Jones also purchased land and other assets, which are not depreciable, at a cost of $200,000. It is estimated that in 5 years, the value of these assets will be unchanged. Assume that annual cash profits are $80,000 and, for return on investment (ROI) calculations, the company uses end-of-year asset values.
What is the ROI for each year using gross book value?
A) Option A
B) Option B
C) Option C
D) Option D

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Multiple Choice

Q 100Q 100

The Jones Company purchased assets costing $200,000 which will be depreciated over 5 years using straight-line depreciation and no salvage value. Jones also purchased land and other assets, which are not depreciable, at a cost of $200,000. It is estimated that in 5 years, the value of these assets will be unchanged. Assume that annual cash profits are $80,000 and, for return on investment (ROI) calculations, the company uses end-of-year asset values.
If sales each year average $840,000, what will be the asset turnover using gross book value?
A) 3.0.
B) 2.6.
C) 2.1.
D) 1.9.

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Multiple Choice

Q 101Q 101

Seaside Enterprises has the following data for its three divisions for the year:
Required:
a. Compute divisional operating income for each of the divisions. Assume taxes are 30%.
b. Calculate the gross margin ratio for each division.
c. Calculate the operating margin ratio for each division.
d. Calculate the profit margin ratio for each division.

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Q 102Q 102

La Mesa Foods has the following data for its two divisions for the year:
Required:
a. Compute divisional operating income for each of the divisions. Assume taxes are 30%.
b. Calculate the gross margin ratio for each division.
c. Calculate the operating margin ratio for each division.
d. Calculate the profit margin ratio for each division.

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Q 103Q 103

Nue Wines has the following data for its three divisions for the year:
Required:
a. Compute divisional operating income for each of the divisions. Assume taxes are 35%.
b. Calculate the profit margin ratio for each division.
c. Calculate the asset turnover for each division.

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Q 104Q 104

La Mesa Stores has the following data for its two divisions for the year:
Required:
a. Compute divisional operating income for each of the divisions. Assume taxes are 35%.
b. Calculate the profit margin ratio for each division.
c. Calculate the asset turnover for each division.

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Q 105Q 105

The Calculating Fashion Company has two operating divisions: North and South. The following information was collected from its financial statements.
Required:
Compute the following ratios for each division:
a. Profit margin
b. Asset turnover
c. Return on investment (ROI)

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Q 106Q 106

The Calculating Fashion Company has two operating divisions: North and South. The following information was collected from its financial statements.
Required:
The South Division has a goal to increase its ROI to 30% by the end of next year. Compute the increase (decrease) required in each of the following items in order to achieve this goal.
a. Operating assets
b. Total costs
c. Sales

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Q 107Q 107

You are the manager of an operating division of a manufacturing company. Your division has $4,500,000 in assets, and your budgeted income statement for the current year follows:
Your company uses a performance evaluation and bonus plan, which is based on return on investment (ROI) computed with end-of-year gross asset balances.
In October, you discover that you can purchase a new machine for $3,250,000, which will enable you to expand the output of your division and save costs. The machine would have a salvage value of $250,000 and would be depreciated over 3 years using the straight-line method. It will increase output by 10% while reducing cash fixed costs by 5%. If you accept the machine, it will be installed in late December, but no depreciation will be taken on the new machine this year.
If you do buy this machine, you will have to dispose of the machine you are now using, which you just purchased last January. That machine cost you $2,500,000 but has no salvage value. $750,000 of the depreciation on the income statement is depreciation for this machine. In the ROI calculations, the company includes any gains or losses for equipment disposal in income for the year. You may safely ignore all taxes for this analysis.
Required:
a. What is your division's ROI this year if you do not acquire the new machine?
b. What is your division's ROI this year if you do acquire the new machine?
c. What is your division's expected ROI next year if the machine is acquired and meets expectations?

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Q 108Q 108

The ArtMart Company has three divisions: X Division, Y Division, and Z Division. Operating results for the three divisions for last year were as follows:
Corporate headquarters is offering an investment opportunity to each of the divisions. The opportunity will yield an operating income of $35,000, based on an average operating investment of $246,000.
Required:
a. If the divisions are being evaluated using return on investment (ROI), what will be the decision (accept or reject) of each division regarding this opportunity? Support your answer with the appropriate calculations.
b. If the divisions are being evaluated using residual income, what will be the decision (accept or reject) of each division regarding this opportunity? Support your answer with the appropriate calculations.

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Q 109Q 109

The following information is available about the status and operations for Division A of Boxwood Company, which has a minimum required ROI of 20%. Answer each item independently of the others.
Required:
a. Compute the ROI for Division A.
b. Division A could increase its profit by $16,000 by increasing its investment by $60,000. Compute its new ROI.
c. Division A could increase its profit margin ratio by one percentage point (for example: from 12% to 13%), without increasing total sales or investment. Compute its new ROI.
d. Division A could reduce its investment so that its asset turnover increased by one time, while holding total sales and profit constant. Compute its new ROI.

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Q 110Q 110

The following information is available about the status and operations for Division B of Boxwood Company, which has a minimum required ROI of 20%. Answer each item independently of the others.
Required:
a. Compute the ROI for Division B.
b. Division B could increase its profit by $25,000 by increasing its investment by $100,000. Compute its new ROI.
c. Division B could increase its profit margin ratio by one percentage point (for example: from 13% to 14%), without increasing total sales or investment. Compute its new ROI.
d. Division B could reduce its investment so that its asset turnover increased by one time, while holding total sales and profit constant. Compute its new ROI.

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Q 111Q 111

Radner Industries is a division of a major corporation. Last year the division had total sales of $23,380,000, net operating income of $2,828,980, and average operating assets of $7,000,000. The company's minimum required rate of return is 12%.
Required:
a. What is the division's margin?
b. What is the division's turnover?
c. What is the division's return on investment (ROI)?

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Q 112Q 112

Danali Fabrication is a division of a major corporation. Last year the division had total sales of $21,120,000, net operating income of $2,006,400, and average operating assets of $6,000,000. The company's minimum required rate of return is 12%.
Required:
What is the division's return on investment (ROI)?

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Q 113Q 113

The following information is available about the Appliance Division of Rainier Company.
Rainier requires a return of 9% from all divisions.
Required:
a. Compute the ROI for the Appliance Division.
b. Compute the residual income for the Appliance Division.

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Q 114Q 114

Bleu Stone is a division of a major corporation. The following data are for the latest year of operations:
Required:
a. What is the division's margin?
b. What is the division's turnover?
c. What is the division's return on investment (ROI)?
d. What is the division's residual income?

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Q 115Q 115

Bleu Stone is a division of a major corporation. The following data are for the latest year of operations:
Required:
a. What is the division's return on investment (ROI)?
b. What is the division's residual income?

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Q 116Q 116

Edmonson Corporation had net operating income of $150,000 and average operating assets of $500,000. The company requires a return on investment of 19%.
Required:
a. Calculate the company's current return on investment and residual income.
b. The company is investigating an investment of $400,000 in a project that will generate annual net operating income of $78,000. What is the return on investment of the project? What is the residual income of the project? Should the company invest in this project?

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Q 117Q 117

The following information is available about the Charger Division of Weston Company. Weston requires a return of 8% from all divisions.
Required:
a. Compute the ROI for the Charger Division.
b. Compute the residual income for the Charger Division.

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Q 118Q 118

The following information is available about the status and operations for Division A of Abad Company, which has a minimum required ROI of 20%. Answer each item independently of the others.
Required:
a. Compute the ROI for Division A.
b. Compute the residual income for Division A.
c. Division A could increase its profit by $8,000 by increasing its investment by $30,000. Compute its total residual income.
d. Division A could increase its profit margin ratio by one percentage point (for example: from 12% to 13%), without increasing total sales or investment. Compute its new ROI.
e. Division A could reduce its investment so that its asset turnover increased by one time, while holding total sales and profit constant. Compute its new ROI.

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Q 119Q 119

The following information is available about the status and operations for Division B of Abad Company, which has a minimum required ROI of 20%. Answer each item independently of the others.
Required:
a. Compute the ROI for Division B.
b. Compute the residual income for Division B.
c. Division B could increase its profit by $10,000 by increasing its investment by $40,000. Compute its total residual income.
d. Division B could increase its profit margin ratio by one percentage point (for example: from 10% to 11%), without increasing total sales or investment. Compute its new ROI.
e. Division B could reduce its investment so that its asset turnover increased by one time, while holding total sales and profit constant. Compute its new ROI.

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Q 120Q 120

Big Sky Industries is a division of a major corporation. The following data are for the latest year of operations:
Required:
a. What is the division's margin?
b. What is the division's turnover?
c. What is the division's return on investment (ROI)?
d. What is the division's residual income?

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Q 121Q 121

Big Sky Industries is a division of a major corporation. The following data are for the latest year of operations:
Required:
a. What is the division's return on investment (ROI)?
b. What is the division's residual income?

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Q 122Q 122

Raisin Corporation uses residual income to evaluate the performance of its divisions. The minimum required rate of return for performance evaluation purposes is 19%. The Processed Foods Division had average operating assets of $410,000 and net operating income of $86,000 in June.
Required:
What was the Processed Foods Division's residual income in June?

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Q 123Q 123

The Parts Division of the Stein Corporation had average operating assets of $150,000 and net operating income of $27,800 in March. The company uses residual income to evaluate the performance of its divisions, with a minimum required rate of return of 17%.
Required:
What was the Parts Division's residual income in March?

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Q 124Q 124

Edinger Industries is a division of a major corporation. The following data are for the latest year of operations:
Required:
What is the division's residual income?

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Q 125Q 125

The following information is available about the status and operations for Division A of Triplex Company, which has a minimum required ROI of 10%. Answer each item independently of the others.
Required:
a. Compute the residual income for Division A.
b. Division A could increase its profit by $4,000 by increasing its investment by $30,000. Compute its new residual income.
c. Division A could increase its profit margin ratio by one percentage point (for example: from 12% to 13%), without increasing total sales or investment. Compute its new residual income.
d. Division A could reduce its investment so that its asset turnover increased by one time, while holding total sales and profit constant. Compute its new residual income.

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Q 126Q 126

The following information is available about the status and operations for Division B of Tallon Company, which has a minimum required ROI of 20%. Answer each item independently of the others.
Required:
a. Compute the residual income for Division B.
b. Division B could increase its profit by $25,000 by increasing its investment by $100,000. Compute its new residual income.
c. Division B could increase its profit margin ratio by one percentage point (for example: from 13% to 14%), without increasing total sales or investment. Compute its new residual income. (Round immediate calculations to three decimal places.)
d. Division B could reduce its investment so that its asset turnover increased by one time, while holding total sales and profit constant. Compute its new residual income.

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Q 127Q 127

The Augment Manufacturing Company has three divisions: X Division, Y Division, and Z Division. Operating results for the three divisions for last year were as follows:
Required:
a. What is the ROI for each of the three divisions?
b. What is the cost of capital for each of the three divisions?

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Q 128Q 128

The Butyl Division of the Swiss Corporation just started operations. It purchased depreciable assets costing $2,500,000 with an expected life of five years, after which the assets can be salvaged for $400,000. Depreciation is computed for the financial statements on a straight-line basis, using the salvage value. Annual operating cash flows are $1,300,000.
Required:
a. Compute the division's return on investment (ROI) for each year, using beginning of the year asset values, historical costs, and net book values.
b. Compute the division's return on investment (ROI) for each year, using end of the year asset values, historical costs, and net book values.

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Q 129Q 129

The Butyl Division of the Swiss Corporation just started operations. It purchased depreciable assets costing $2,500,000 with an expected life of five years, after which the assets can be salvaged for $400,000. Depreciation is computed for the financial statements on a straight-line basis, using the salvage value. Annual operating cash flows are $1,300,000 for year 1. Assume that all cash flows and asset prices increase by 12.5% per year.
Required:
a. Compute the division's ROI for the first three years, using end of the year asset values, current costs, and net book values.
b. Compute the division's ROI for the first three years, using end of the year asset values, current costs, and gross book values.

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Q 130Q 130

Three years ago, one division of the Calsone Enterprise Company purchased depreciable assets costing $2,000,000. The cash flows from these assets for the past three years have been:
Calsone uses the straight-line depreciation method and the assets had an estimated useful life of 10 years with no salvage value. For return on investment (ROI) calculations, Calsone uses end-of-year balances.
Required:
a. What was the ROI for each year using historical cost and gross book value?
b. What was the ROI for each year using historical cost and net book value?

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Q 131Q 131

Explain the difference between the gross margin ratio, the operating margin ratio, and the profit margin ratio.

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Q 134Q 134

How does the use of residual income overcome the limitations of using return on investment?

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Q 136Q 136

"I think that EVA is the best performance measure. I am going to recommend that we evaluate managers at all levels, including the chief executive officer (CEO), using it." Do you think this statement is appropriate? Explain.

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Q 137Q 137

Explain how using gross book value to measure the assets gives different results than using net book value. What happens to ROI over time under each of the two measures?

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Q 138Q 138

What is the problem with choosing a beginning, ending or average balance when measuring the investment base for performance evaluation?

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Q 139Q 139

Financial data for Windsor, Inc. for last year appear below:
The company paid dividends of $104,000 last year. The "Investment in Pine Company" on the statement of financial position represents an investment in the stock of another company.
Required:
a. Compute the company's margin, turnover, and return on investment for last year.
b. The Board of Directors of Windsor, Inc. has set a minimum required return of 25%. What was the company's residual income last year?

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Q 140Q 140

Financial data for Beaker Company for last year appear below:
The company paid dividends of $2,100 last year. The "Investment in Cedar Company" on the statement of financial position represents an investment in the stock of another company.
Required:
a. Compute the company's margin, turnover, and return on investment for last year.
b. The Board of Directors of Beaker Company has set a minimum required return of 20%. What was the company's residual income last year?

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Q 141Q 141

Xi, Inc. is just starting up. The management team has decided from the beginning that decentralization was the preferred organizational style and has made this clear in all interviews and discussions with potential employees. Mr. Yang, the CEO, is unsure about the best way to evaluate his division managers. He has heard the terms return on investment, residual income, economic value added, and flexible budgets but wants to know the pros and cons of each.
Required:
Briefly describe ROI, residual income, EVA and other approaches to performance evaluation. Include in your discussion, where appropriate, how to calculate the measure and problem areas in the development of some of the results.

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Q 142Q 142

Mrs. Young is the manager of the Children's Toy division of Ferguson Corporation. Every year she just misses the cut off established by the company for the awarding of bonuses. She is concerned inasmuch as she believes she is running her division effectively and her income has been increasing slowly but steadily over the years she has been with the company.
She knows that the company uses ROI as the performance measure to evaluate divisions and begins to study the formula to see what she should do to improve the ROI for her division.
Required:
Briefly discuss several ways to improve ROI.

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Q 143Q 143

Decentralization is lauded as important to good management. But it is not without its problems.
Required:
Identify the advantages and disadvantages of decentralization? How do ROI, Residual Income, and EVA affect these issues?

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Q 144Q 144

Mallory, Inc. has the following data available for two of its divisions for last year:
The tax rate for Mallory, Inc. is 18%.
Required:
(1) Compute the following for each division:
(a) Profit margin.
(b) Asset turnover.
(c) ROI.
(d) Residual income.
(e) EVA (assume there are no current liabilities).
(2) Briefly discuss which division appears most successful and why?

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Q 145Q 145

Roxie, Inc. has used a decentralized form of organizational structure for the past five years. The controller, Ms. Hamburg, has noticed that some of the divisions are still using fixed assets that are fully depreciated and that there has been little acquisition activity in these divisions. Coupled with this are very high ROIs, especially when compared to the other divisions that seem to have a regular program of disposition and replacement of fixed assets.
She takes her concerns and observations to the Financial Vice President who says he will review her findings and look into the problem.
Required:
1) What are the potential negative effects of decentralization?
2) Specifically discuss the issues involved in suboptimization.

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Q 146Q 146

Suade Inc. manufactures furniture and is organized into three large divisions: bedroom, living room, and dining room furniture. The following information presents operating revenues, operating incomes and invested assets of the company over the last three years. (all amounts in 000s)
The following table shows the number of managers covered by the current compensation package of Suade Inc.:
The current compensation package is an annual bonus award. The managers share in the bonus pool. The pool is calculated as 12% of the annual residual income of the company. The residual income is defined as operating income minus an interest charge of 15% of invested assets.
Required:
(1) Use asset turnover, profit margin ratio, and ROI to explain the differences in profitability of the three divisions.
(2) Compute the bonus amount to be paid during each year. Also, compute the (average) individual executive bonus amounts.
(3) If the bonus was calculated by divisional residual income what would be the bonus amounts?
(4) Discuss the benefits and problems of basing the bonus on residual income of a company compared to using divisional residual income.

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Q 147Q 147

The High Seas, Inc. manufactures water vessels and is organized into three large divisions: jet skis, fishing boats, and yachts. The following information presents operating revenues, operating incomes, and invested assets of the company over the last three years:
The following table shows the number of managers covered by the current compensation package of The High Seas, Inc.:
The current compensation package is an annual bonus award. The managers share in the bonus pool. The pool is calculated as 10% of the annual residual income of the company. The residual income is defined as operating income minus an interest charge of 14% of invested assets.
Required:
(1) Compute the bonus amount to be paid during each year. Also, compute the (average) individual executive bonus amounts.
(2) If the bonus was calculated by divisional residual income, what would be the bonus amounts?

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