Question 1

The cost-plus approach is the best approach for establishing transfer prices for all companies.

Accepted Answer

The cost-plus approach may be suitable for some companies and industries, but it may not be the best approach for all. Other methods such as market-based pricing, negotiated pricing or dual pricing may be more appropriate in certain situations. The choice of the transfer pricing method depends on various factors such as the nature of the product or service, the market conditions, the corporate strategy, tax considerations, and regulatory requirements in different jurisdictions.

Question 2

Segments of an organization are often referred to as divisions.

Accepted Answer

Segments of an organization can be referred to as divisions.

Question 3

An investment center is an organizational segment in which the manager is responsible for costs,revenues,and investment in assets.

Accepted Answer

In an investment center, the manager has responsibility for managing all three aspects - costs, revenues, and investments in assets.

Question 4

The percent cost of capital is typically the company's percentage cost to obtain investment funds.

Accepted Answer

The percent cost of capital is indeed the company's percentage cost to obtain investment funds. This includes the cost of issuing stocks or bonds, taking out loans, or any other financing methods used by the company to raise capital.

Question 5

Most organizations use only residual income for performance measurement because of the weaknesses associated with using return on investment (ROI).

Accepted Answer

Organizations often use a combination of performance measurement tools, including both residual income and return on investment (ROI), to overcome the limitations of relying on a single metric. Each metric provides different insights, and using multiple metrics can give a more comprehensive view of performance.

Question 6

When using the net book value to calculate return on investment (ROI),division managers controlling newer assets with little accumulated depreciation have an advantage over division managers controlling older assets with more accumulated depreciation.

Accepted Answer

The net book value is lower for older assets due to more accumulated depreciation, which can actually lead to a higher ROI since ROI is calculated based on the net book value, making it easier for managers of older assets to show a higher return relative to the book value of their assets.

Question 7

The goal in establishing transfer pricing policies is to encourage managers to do what is in the best interest of the company,while also doing what is in the best interest of the division manager.

Accepted Answer

Transfer pricing policies are established to align the goals of the division manager with the goals of the overall company. Therefore, the policies should encourage both the division manager and the company to act in their best interests.

Question 8

Although economic value added (EVA)is similar to residual income,adjustments are made to the financial information to better reflect the economic results of the division.

Accepted Answer

Economic value added (EVA) adjusts financial information to better reflect the economic results of a division, whereas residual income does not make these adjustments.

Question 9

A profit center is an organizational segment in which the manager is responsible for costs and revenues,but not investments in assets.

Accepted Answer

A profit center manager is responsible for generating income and controlling costs, but does not have control over investments in assets such as buildings or equipment.

Question 10

Operating assets would include office buildings leased to other companies.

Accepted Answer

Operating assets are those used in the core operations of a business, while office buildings leased to other companies are considered investment or non-operating assets.

Question 11

The term decentralized organization refers to an organization that delegates decision-making and operational responsibilities to managers of each segment of the organization.

Accepted Answer

This definition accurately describes a decentralized organization.

Question 12

Operating income typically excludes items such as income tax expense,interest income,and interest expense.

Accepted Answer

Operating income is a measure of a company's profitability that excludes certain items such as income tax expense, interest income, and interest expense.

Question 13

Return on investment (ROI)can be calculated several different ways depending on the company.

Accepted Answer

ROI can be calculated using different formulas, such as dividing net profit by total investment or by subtracting the cost of investment from revenue and dividing by the cost of investment. The specific formula used may vary depending on the company and industry.

Question 14

Residual income is the dollar amount of division operating profit in excess of the division's cost of acquiring capital to purchase operating assets.

Accepted Answer

Residual income is calculated as the division's operating profit minus the cost of capital (or the division's required rate of return multiplied by its operating assets). This represents the amount of profit that remains after the division has covered its cost of capital, and is therefore a measure of its economic value added.

Question 15

Average operating assets are calculated by adding the beginning balance of operating assets from Period 1 to the ending balance of operating assets from Period 1 and multiplying by two.

Accepted Answer

Average operating assets are calculated by adding the beginning balance of operating assets from Period 1 to the ending balance of operating assets from Period 2 and dividing by 2 (not multiplying by 2).

Question 16

When residual income is used to evaluate division managers,the goal for each division manager is to increase residual income over time.

Accepted Answer

This statement is true. Residual income is the profits remaining after deducting the cost of capital from the net operating income. When residual income is used to evaluate division managers, they are incentivized to increase profits and reduce the cost of capital in order to increase residual income over time.

Question 17

Asset turnover is calculated as sales divided by average operating assets.

Accepted Answer

This is the correct formula for calculating asset turnover.

Question 18

A cost center is an organizational segment in which the manager is responsible for costs and revenues,but not investments in assets.

Accepted Answer

A cost center is an organizational segment where the manager is responsible only for costs, not for revenues or investments in assets.

Question 19

Return on investment (ROI)can be improved by decreasing operating profit margin.

Accepted Answer

ROI is calculated by dividing the net profit by the total investment. Decreasing operating profit margin means decreasing the net profit, which would decrease ROI. Therefore, the statement is false.

Question 20

Residual income is the portion of income produced by the division that is not related to its daily activities.

Accepted Answer

Residual income is the amount of net income generated in excess of the minimum rate of return on a company's investments or operations, not specifically unrelated to its daily activities.

Quiz 11: How Do Managers Evaluate Performance in Decentralized Organizations