Exam 19: Strategic Performance Measurement: Investment Centers and Transfer Pricing

Consider the following data for three divisions of a company, X, Y, and Z: Divisional: X Y Z Sales \ 1,800,000 \ 900,000 \ 4,800,000 Operating Income 252,000 108,000 240,000 Investment in assets 630,000 540,000 3,000,000 The return on sales (ROS) for Division X is:

The two approaches for estimating Economic Value Added (EVA®) are:

All of the following are possible transfer pricing methods used in practice except:

The return on investment (ROI) ratio measures:

A segment of an organization is referred to as an investment center if it has:

The most likely result of using a negotiated transfer price is that:

Under the notion of controllability, it is appropriate to evaluate the profitability of each investment center based on each center's:

Selected data from Division A of Green Company are as follows: Sales \ 500,000 Average investment \ 300,000 Operating income \ 60,000 Minimum rate of return 15\% If the minimum rate of return was 10%, Division A's residual income (RI) would be:

Consider the following data for three divisions of a company, X, Y, and Z: Divisional: X Y Z Sales \ 1,800,000 \ 900,000 \ 4,800,000 Operating Income 252,000 108,000 240,000 Investment in assets 630,000 540,000 3,000,000 The asset turnover (AT) for Division X is (rounded):

When the Bronx Company formed three divisions a year ago, the president told the division managers an annual bonus would be given to the most profitable division.The bonus would be based on either the return on investment (ROI) or residual income (RI) of the division.Investment is to be measured using gross book value (GBV) or net book value (NBV).The following data are available: Division Gross Book Value (GBV) Operating Income A \ 500,000 \ 53,500 B \ 480,000 \ 52,000 C \ 300,000 \ 33,300 All the assets are long-lived assets that were purchased 15 years ago and have 15 years of useful life remaining.A zero terminal disposal price is predicted.Bronx's minimum rate of return (cost of capital) used for computing RI is 10%. Required: Which method for computing profitability would each manager likely choose? Show supporting calculations.Round percentage answers to 2 decimal places, e.g., 0.1234 as 12.34%.Where applicable, assume straight-line depreciation.

Expropriation occurs when the government in which a foreign company's investment assets are located:

Max Ltd. produces kitchen tools, and operates several divisions as investment centers. Division M produces a product that it sells to other companies for $16 per unit. It is currently operating at full capacity of 45,000 units per year. Variable manufacturing cost is $9 per unit, and variable marketing cost is $3 per unit. The company wishes to create a new division, Division N, to produce an innovative new tool that requires the use of Division B's product (or one very similar). Division N will produce 30,000 units per year. Currently, Division N can purchase a product equivalent to Division M's from Company X for $15 per unit. However, Max Ltd. is considering transferring the necessary product from Division M. Required: 1. Assume the transfer price is $12 per unit: a. How would this price affect the purchasing costs of Division N? b. How would this price affect the profits of Division M? c. How would this price affect Max Ltd. as a whole? 2. What if the transfer price were $13 per unit?

The basic objective of the residual income (RI) approach to performance measurement of a business unit considered an investment center is to have the investment center maximize its:

Which one of the following is an advantage of both Return on Investment (ROI) and Residual Income (RI)?

Which one of the following statements pertaining to the return on investment (ROI) as a performance measure is incorrect?

Consider the following data for three divisions of a company, X, Y, and Z: Divisional: X Y Z Sales \ 1,800,000 \ 900,000 \ 4,800,000 Operating Income 252,000 108,000 240,000 Investment in assets 630,000 540,000 3,000,000 The return on investment (ROI) for Division Y is:

T-shirts R Us Inc. operates two divisions that each manufactures t-shirts for universities. Each division has its own manufacturing facility. The historical-cost accounting system reports the following financial data for 2019. Atlantic Coast Division Income Statement (000s) Revenues \ 600 Operating Costs 470 Operating Income \ 130 Big-10 Division Income Statement (000s) Revenues \ 600 Operating Costs Operating Income \ 200 T-shirts R Us Inc. estimates the useful life of each manufacturing facility to be 15 years. The company uses straight line depreciation, with a depreciation charge of $70,000 per year for each division and no salvage value at the end of 15 years. The manufacturing facility is the only long-lived asset of either division. Current assets are $300,000 in each division. At the end of 2019 the Atlantic Coast Division is 4 years old and the Big-10 Division is 6 years old. An index of construction costs, replacement cost, and liquidation values for manufacturing facilities used in the production of t-shirts for the 7-year period that T-shirts R Us Inc. has been operating, are as follows: $\text { Liquidation Value }$ Replacement Year Cost Index Cost Atlantic Coast Big 10 2013 80 \ 1,000,000 \ 800,000 \ 800,000 2014 82 1,000,000 800,000 800,000 2015 84 1,100,000 700,000 700,000 2016 89 1,150,000 700,000 600,000 2017 94 1,200,000 800,000 600,000 2018 96 1,250,000 900,000 600,000 2019 100 1,300,000 1,000,000 500,000 Required: Round answers to 2 decimal places where appropriate. 1. Compute return on investment (ROI) for each division using net book value (NBV). Interpret the results. 2. Compute return on investment (ROI) for each division, incorporating current-cost estimates as follows, using: (a) Gross book values (GBV) under historical cost; (b) GBV at historical cost restated to current cost using the index of construction costs; (c) NBV of long-lived assets restated at current cost using the index of construction costs (the facility was constructed the year before the first year of use); (d) Current replacement cost; and (e) Current liquidation value. 3. Which of the measures calculated in (2) above would you choose for (a) performance evaluation of each division manager, and (b) deciding which division is most profitable for the overall firm? What are the strategic advantages and disadvantages to the firm of each measure for both (a) and (b)?

A fellow student of yours who has just completed a course in management accounting recently made the following comment to you regarding the establishment of transfer prices for transnational transfers of goods and services within the same company: "In the process of preparing consolidated financial statements, all profit and loss attributable to internal transfers of goods and services are removed. The amount of profit a company reports is therefore affected only by transactions with external parties. Therefore, the subject of transfer pricing may be important for motivational purposes or some other managerial objective, but the choice of a transfer pricing system has no effect on the bottom line, even when transfers are made between units of a company operating in different countries." Required: Critically analyze and respond to the above assertion.

The following results pertain to an investment center. Sales \ 1,500,000 Variable costs 800,000 Traceable fixed costs 100,000 Average investment 1,000,000 Divisional cost of capital (discount rate) 10\% How much is the return on investment (ROI) for this investment center?

Which of the following statements regarding the calculation of Economic Value Added (EVA®) is not true?