Question 1

All of the following are false about transfer pricing except:

Accepted Answer

A) using negotiated transfer pricing is always the best approach. 
B) the cost approach can base the transfer price on either the variable cost or full absorption cost. 
C) using the cost approach is always the best approach. 
D) companies should always use the selling division's variable cost as the transfer price. 
E) None of the answer choices is correct.

Question 2

Exhibit 11-2
Manford Inc.has two divisions -Refrigerators and Dish Washer.
 $\begin{array}{c}
\text {Manford Company}\
\text {Segmented Income Statements}\
\text {For the Current Fiscal Year Ended December 31}\\\begin{array}{lcc}
&\text { Refrigerator } & \text { Dish Washer } \
&\text { Division } & \text { Division } \
 \text { Sales } & \$ 10,000,000 & \$ 5,400,000 \
 \text { Cost of goods sold } & 4,200,000 & 2,660,000 \
 \text { Gross margin } & 5,800,000 & 2,740,000 \
 \text { Allocated overhead (from corporate) } & 940,000 & 740,000 \
 \text { Selling and administrative expenses } & 780,000 & 360,000 \
 \text { Operating income } & 4,080,000 & 1,640,000 \
\text { Income tax expense }(45 \%) & 1,836,000 & 738,000 \
 \text { Net income } & \$ 2.244,000 & \$ 902.000 \
\end{array}
\end{array}$
-Refer to Exhibit 11-2.Using the segmented income statements,what is the profit margin ratio for the Refrigerator Division (to the nearest hundredth of a percent)?

Accepted Answer

A) 22.44% 
B) 40.80% 
C) 58.00% 
D) 42.00% 
E) None of the answer choices is correct.

Question 3

Segments of an organization are often referred to as divisions.

Accepted Answer

A) True 
 B)False

Question 4

Which of the following best describes an advantage of decentralization from the company's perspective?

Accepted Answer

A) Decentralization allows decisions to be made more quickly at the division level. 
B) Managers at the division level might make decisions that are in their best interest even if the decision is not in the best interest of the company as a whole. 
C) Decentralization allows top-level management at a corporate headquarters to work with division managers in making day-to-day decisions at the division level. 
D) Decentralization allows for the duplication of administrative services. 
E) None of the answer choices is correct.

Question 5

Car Deals Inc.has two divisions: New Cars and Used Cars.The following segmented financial information is for the most recent fiscal year:
 $\begin{array}{lrr}&\begin{array}{c}
\text { New Cars } \
\text { Division }
\end{array} & \begin{array}{c}
\text { Used Cars } \
\text { Division }
\end{array} \
\text { Sales } & \$ 9,000,000 & \$ 18,000,000 \
\text { Cost of goods sold } & 3,300,000 & 8,700,000 \
\text { Allocated overhead } & 1,050,000 & 2,550,000 \
\text { Selling and administrative expenses } & 585,000 & 630,000
\end{array}$ 
The New Cars division had average operating assets totaling $17,400,000 for the year,and the Used Cars division had average operating assets of $22,800,000.Assume the cost of capital rate is 15 percent,and the company's tax rate is 40 percent. 
a.Prepare a segmented income statement,including the profit margin ratio for each division at the bottom of the segmented income statement.
b.Calculate return on investment (ROI)for each division.
c.Calculate residual income for each division.
c.What does this information tell you about each division?
d.Summarize the answers to parts a,b,and

Accepted Answer

The answer of Car Deals Inc.has two divisions: New Cars...

Question 6

Exhibit 11-1
Ashville Company has two divisions - Bikes and Trikes.
 $\begin{array}{c}
\text { Ashville Company}\
\text {  Segmented Income Statements}\
\text {  For the Current Fiscal Year Ended December 31}\\\begin{array}{lrr}
&\text { Bikes Division } & \text { Trikes Division }\
\text { Sales } & \$ 2,400,000 & \$ 1,000,000 \
\text { Cost of goods sold } & 1,400,000 & 530,000 \
 \text { Gross margin } & 1,000,000 & 470,000 \
\text { Allocated overhead (from corporate) } & 270,000 & 170,000 \
\text { Selling and administrative expenses } & 190,000 & 140,000 \
\text { Operating income } & 540,000 & 160,000 \
\text { Income tax expense (40\%) } & \mathbf{2 1 6 , 0 0 0} & \underline{64,000} \
\text { Net income } & \$ 324,000 & \$ 96,000
\end{array}\end{array}$
-Refer to Exhibit 11-1.Using the segmented income statements,what is the profit margin ratio for the Bikes Division (to the nearest tenth of a percent)?

Accepted Answer

A) 13.5 
B) 41.7% 
C) 22.5% 
D) 58.3% 
E) None of the answer choices is correct.

Question 7

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

A) True 
 B)False

Question 8

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

Accepted Answer

A) True 
 B)False

Question 9

Exhibit 11-5
Sports Products Inc.sells skis and snowboards.Below is some financial information for each division at Sports Products for the most recent fiscal year.
 $\begin{array}{lrr}&\text { Skis } & \text { Snowboards } \
&\text { Division } & \text { Division } \
\text { Income Statement Information }\
\text { Marketing expenses } & \$ 200,000 & \$ 150,000 \
\text { Operating income } & 750,000 & 600,000 \
\text { Income tax expense (30\% tax rate) } & 225,000 & 180,000\\
\text { Balance Sheet Information }\
\text { Average operating assets }&\$ 1,100,000 & \$ 525,000 \
\text { Non-interest bearing current liabilities }& 100,000 & 75,000\\
\text { Percent cast of capital }&18\%&18\%
\end{array}$ To calculate economic value added (EVA),management requires adjustments for marketing and non-interest bearing current liabilities as outlined below.
Marketing will be capitalized and amortized over several years resulting in an increase to average operating assets of $125,000 for the Skis division and $82,500 for the Snowboards division.On the income statement,marketing expenses for the year will be added back to operating income,then marketing amortization expense for one year will be deducted.The current year amortization expense will total $60,000 for the Ski division and $45,000 for the Snowboards division.
Non-interest bearing liabilities will be deducted from average operating assets.
-Refer to Exhibit 11-5.After the EVA adjustments to average operating assets,what would be the amount of average operating assets (adjusted)for the Snowboards Division?

Accepted Answer

A) $450,000 
B) $495,000 
C) $557,500 
D) $532,500 
E) None of the answer choices is correct.

Question 10

Exhibit 11-3
Dillon Company has the following information available for one of its divisions:
 $\begin{array}{lr}
\text { Average operating assets } & \$ 4,000,000 \
\text { Sales } & \$ 4,800,000 \
\text { Return on investment (ROI) } & 30 \%
\end{array}$
-Refer to Exhibit 11-3.If Dillon's cost of capital is 25%,what is the division's residual income?

Accepted Answer

A) $ 200,000 
B) $800,000 
C) $440,000 
D) $1,200,000 
E) None of the answer choices is correct.

Question 11

Exhibit 11-2
Manford Inc.has two divisions -Refrigerators and Dish Washer.
 $\begin{array}{c}
\text {Manford Company}\
\text {Segmented Income Statements}\
\text {For the Current Fiscal Year Ended December 31}\\\begin{array}{lcc}
&\text { Refrigerator } & \text { Dish Washer } \
&\text { Division } & \text { Division } \
 \text { Sales } & \$ 10,000,000 & \$ 5,400,000 \
 \text { Cost of goods sold } & 4,200,000 & 2,660,000 \
 \text { Gross margin } & 5,800,000 & 2,740,000 \
 \text { Allocated overhead (from corporate) } & 940,000 & 740,000 \
 \text { Selling and administrative expenses } & 780,000 & 360,000 \
 \text { Operating income } & 4,080,000 & 1,640,000 \
\text { Income tax expense }(45 \%) & 1,836,000 & 738,000 \
 \text { Net income } & \$ 2.244,000 & \$ 902.000 \
\end{array}
\end{array}$
-Refer to Exhibit 11-2.Assume the Dish Washer Division has average operating assets totaling $6,560,000 for the year and the company's cost of capital rate is 15 percent.What is the residual income for the Dish Washer division?

Accepted Answer

A) $656,000 
B) $4,744,000 
C) $246,000 
D) $2,084,000 
E) None of the answer choices is correct.

Question 12

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

Accepted Answer

A) True 
 B)False

Question 13

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

Accepted Answer

A) True 
 B)False

Question 14

Exhibit 11-5
Sports Products Inc.sells skis and snowboards.Below is some financial information for each division at Sports Products for the most recent fiscal year.
 $\begin{array}{lrr}&\text { Skis } & \text { Snowboards } \
&\text { Division } & \text { Division } \
\text { Income Statement Information }\
\text { Marketing expenses } & \$ 200,000 & \$ 150,000 \
\text { Operating income } & 750,000 & 600,000 \
\text { Income tax expense (30\% tax rate) } & 225,000 & 180,000\\
\text { Balance Sheet Information }\
\text { Average operating assets }&\$ 1,100,000 & \$ 525,000 \
\text { Non-interest bearing current liabilities }& 100,000 & 75,000\\
\text { Percent cast of capital }&18\%&18\%
\end{array}$ To calculate economic value added (EVA),management requires adjustments for marketing and non-interest bearing current liabilities as outlined below.
Marketing will be capitalized and amortized over several years resulting in an increase to average operating assets of $125,000 for the Skis division and $82,500 for the Snowboards division.On the income statement,marketing expenses for the year will be added back to operating income,then marketing amortization expense for one year will be deducted.The current year amortization expense will total $60,000 for the Ski division and $45,000 for the Snowboards division.
Non-interest bearing liabilities will be deducted from average operating assets.
-Refer to Exhibit 11-5.What is the EVA for the Skis division?

Accepted Answer

A) $522,500,000 
B) $420,500 
C) $386,700 
D) $436,650 
E) None of the answer choices is correct.

Question 15

Titus Inc.has two divisions - Southeast and Northwest.
 $\begin{array}{c}
\text { Titus Inc.}\
\text { Segmented Income Statements}\
\text { For the Current Fiscal Year Ended December 31}\\
\begin{array}{lcc}
&\text { Southeast } & \text { Northwest } \
&\text { Division }&\text { Division }\
 \text { Sales } & \$ 4,400,000 & \$ 2,600,000 \
 \text { Cost of goods sold } & 2,400,000 & 1,500,000 \
 \text { Gross margin } & 2,000,000 & 1,100,000 \
 \text { Allocated overhead (from corporate) } & 600,000 & 370,000 \
\text { Selling and administrative expenses } & 430,000 & 340,000 \
 \text { Operating income } & 830,000 & 390,00 \
\text { Income tax expense }(35 \%) & 290,500 & 136,500 \
 \text { Net income } & \$ 539.500 & \$ 253.500 \
\end{array}
\end{array}$ 
(1)Using the segmented income statements presented,determine the profit margin ratio for each division.
(2)Assume the Southeast division had average operating assets totaling $6,000,000 for the year,and the Northwest division had average operating assets totaling $1,800,000.Calculate return on investment (ROI)for each division.
(3)Assume Titus has a cost of capital rate of nine percent.Calculate residual income for each division.

Accepted Answer

The answer of Titus Inc.has two divisions - Southeast and...

Question 16

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

A) True 
 B)False

Question 17

All of the following are true about Economic Value Added (EVA)except:

Accepted Answer

A) EVA requires compliance with GAAP. 
B) EVA was trademarked. 
C) EVA uses operating income after taxes. 
D) EVA does not require compliance with GAAP. 
E) None of the answer choices is correct.

Question 18

All of the following statements are true about return on investment (ROI)except:

Accepted Answer

A) Breaking out ROI into two ratios provides information that helps division managers identify areas for improvement. 
B) ROI can be improved by decreasing the operating profit margin. 
C) ROI can be calculated using the gross book value method. 
D) ROI can be improved by increasing asset turnover. 
E) None of the answer choices is correct.

Question 19

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

A) True 
 B)False

Question 20

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

Accepted Answer

A) True 
 B)False

Exam 11: How Do Managers Evaluate Performance in Decentralized Organizations

All of the following are false about transfer pricing except:

Segments of an organization are often referred to as divisions.

Which of the following best describes an advantage of decentralization from the company's perspective?

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.

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

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

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

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.

All of the following are true about Economic Value Added (EVA) except:

All of the following statements are true about return on investment (ROI) except:

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.

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