Exam 11: Responsibility Accounting, Investment Centres, and Transfer Pricing

The Magellan Division of Global Corporation, which has income of $250,000 and an asset investment of $1,562,500, is studying an investment opportunity that will cost $450,000 and yield a profit of $67,500. Assuming that Global uses an imputed interest charge of 14%, would the investment be attractive to: 1-Divisional management if ROI is used to evaluate divisional performance? 2-Divisional management if RI is used to evaluate divisional performance? 3-The management of Global Corporation? Attractive to Magellan: ROI Attractive to Magellan: RI Attractive to Global 1 Yes Yes Yes 2 Yes No No 3 Yes No Yes 4 No Yes Yes 5 No Yes No

Which of the following elements is not used in the calculation of economic value added for an investment centre?

Kattan Inc. reported a sales margin of 11%, a capital turnover of 5, and investment capital in the amount of $30,000,000. On the basis of this information, the company's sales revenue is:

Division A transfers a profitable subassembly to Division B, where it is assembled into a final product. A is located in a European country that has a high tax rate; B is located in an Asian country that has a low tax rate. Ideally, (1) what type of before-tax income should each division report from the transfer and (2) what type of transfer price should Division A set for the subassembly? Division A Division B Transfer Price Set Income Income by A 1 Low Low Low 2 Low High Low 3 Low High High 4 High Low High 5 High High Low

Capital turnover shows:

The following selected data relate to the Cape Breton Division of Eastern Enterprises Inc. (EEI): Sales revenue \ 5,680,000 Uncontrollable fixed costs traceable to the division 1,460,000 Allocated corporate overhead 690,000 Controllable fixed costs traceable to the division 1,220,000 Variable costs 50\% of revenue Required: A. Compute the following for the Cape Breton Division: 1. Segment contribution margin. 2. Controllable profit margin. 3. Segment profit margin. 4. Which of the three preceding measures should be used when evaluating the Cape Breton Division as an investment of EEI's resources? Why? 5. Assume that management made the decision to prepare a segmented income statement that reflected Cape Breton's five operating departments. Would all $1,220,000 of the controllable fixed costs be easily traced to the departments? Briefly explain. 6. Which of the five-dollar amounts presented in the body of the problem would be used in computing the income before taxes of Eastern Enterprises Inc.?

A division's return on investment may be improved by increasing:

Return on investment (ROI) and residual income (RI) are popular measures of divisional performance. Like any measure, there are disadvantages or weaknesses that are an inherent part of these tools. Briefly discuss a major weakness associated with each tool.

Richmond Corporation has no excess capacity. If the firm desires to implement the general transfer-pricing rule, opportunity cost would be equal to:

Hayes Division, which is located in a remote area in Northern Ontario, has been stagnant over the past five years, neither growing nor contracting in size and profitability. Investments in new property, plant, and equipment have been minimal. Would the division's use of total assets (valued at net book value) when measuring ROI result in (1) using numbers that are consistent with those on the balance sheet and (2) a rising ROI over time? Consistent with Numbers on the Balance Sheet? Produce a Rising Return on Investment Over Time? 1 Yes Yes 2 Yes No 3 No Yes 4 No No 5 Yes Need more information to judge

The following data pertain to Coronation Computer Sales for 2012: Sales Revenue \ 2,000,000 Cost of goods sold 1,650,000 Operating expenses 300,000 Average invested capital 500,000 Required: A. Calculate the company's sales margin, capital turnover, and ROI for 2012. B. If the sales and average invested capital remain the same, to what level would total costs and expenses have to be reduced in 2013 to achieve a 10% ROI? C. Assume that costs and expenses are reduced, as calculated in requirement "B." Calculate the firm's new sales margin. D. Suggest two possible actions that will improve the company's capital turnover.

Jeeves St. Laurent is an upscale men's clothing store that operates throughout British Columbia. The company, which has three divisions (Kelowna, Victoria, and Vancouver), reported the following information for the year just ended (in thousands): Kelowna Victoria Vancouver Sales revenue \ 8,000 \ 7,000 \ 6,000 Divisional contribution margin 7,400 5,400 3,400 Profit margin controllable by division 1,600 2,000 1,000 manager 900 600 300 Jeeves St. Laurent also reported $800 of common fixed expenses that top management wants to allocate to the divisions on the basis of sales revenue. As the company's CEO notes, "Each division helped to incur a portion of these costs and, as a result, each should absorb its fair share." The firm has adopted various responsibility accounting procedures to evaluate the division personnel. Required: A. Compute the company's total sales revenue. B. Calculate the amount of variable operating expense incurred by the Victoria Division. C. Calculate the fixed costs controllable by Kelowna's management. D. Calculate the fixed costs traceable to the Vancouver Division but controllable by others. E. Jeeves St. Laurent desires to promote a division manager to the corporate office to oversee selected operations. In determining which individual to promote, should Jeeves St. Laurent's top management focus on the profit margin controllable by the division manager or the overall divisional profit margin? Briefly explain.

For the period just ended, Bax Corporation's Delta Division reported profit of $31.9 million and invested capital of $220 million. If the imputed interest rate is 12%, which of the following choices correctly denotes Delta's ROI and residual income? $\begin{array}{|l|c|l|c|}\hline & \text { Return on Investment } & & \text { Residual Income } \\\hline 1 & 12.0\%& & \$(5.5) \text { million } \\\hline 2 & 12.0 \% & & \$ \text { 5.5 million } \\\hline 3 & 14.5 \% & & \$(5.5) \text { million } \\\hline 4 & 14.5 \% & & \$ 5.5 \text { million } \\\hline 5 & 14.5 \% & & \text { \$26.4 million } \\\hline\end{array}$

Although the general rule for transfer prices is the outlay cost plus opportunity cost, many companies instead use negotiated prices to price their goods and services. When are negotiated transfer prices used? Are such prices consistent or inconsistent with responsibility accounting? Explain.

The Painting Department in an automobile plant is an example of a(n):

Beatnick Inc., with operations throughout Europe, will soon allocate corporate overhead to the firm's various responsibility centres. Which of the following is definitely not a cost object in this situation?

Iris Company is in the process of evaluating allocation bases so that selected costs can be charged to responsibility centres. Would the number of employees likely be a good base to use to allocate the costs of Human Resources, Building and Grounds, and Repairs and Maintenance to user centres respectively? Human Resources Buildings and Grounds Repairs and Maintenance 1 Yes Yes Yes 2 Yes No Yes 3 Yes No No 4 No Yes Yes 5 No Yes No

Kasten Incorporated operates a chain of retail stores throughout the Northwest that specializes in the sale of sports equipment. The following costs relate to Store No. 19 located in Burnaby, British Columbia: 1. Salary of store manager: $58,000 2. Allocated corporate overhead: $55,000 3. Cost of goods sold: $2,560,000 4. Landscaping and grounds costs (yearly contract): $6,800 5. Hourly wages of sales clerks: $343,000 6. Local advertising (negotiated by store manager): $76,000 7. Property taxes: $25,800 8. Sales commissions: $221,000 Required: Which of the preceding costs would be used in computing: A. Store No. 19's segment contribution margin? B. Store No. 19's controllable profit margin? C. Store No. 19's segment profit margin? D. The net income of Kasten, Inc.?

Walker Incorporated has a division based in Prince Edward Island (PEI) that produces electronic components with a very strong domestic market for Circuit No. 222. The variable production cost is $140 per unit, and the division can sell its entire output for $190 per unit. Walker is subject to a 30% income tax rate. Alternatively, the PEI Division can ship the circuit to a division that is located in Nova Scotia, to be used in the manufacture of a global positioning system (GPS). Information about the global positioning system and Nova Scotia's costs follow. Selling price: $380 per unit Circuit shipping and handling fees to Mississippi: $10 per unit Labor, overhead, and additional material costs of GPS: $120 per unit Required: A. Assume that the transfer price for the circuit was $160. How would PEI's divisional manager likely react to a corporate decision to transfer the circuits to Nova Scotia? Why? B. Calculate the income for the PEI Division, the Nova Scotia Division, and the income for the company as a whole if the transfer took place at $160 per circuit. C. Assuming that transfers took place at a price higher than $160, would the revised price increase, decrease, or have no effect on Walker's income? Briefly explain. D. Assume that Walker moved its GPS production facility to a division located in Germany, which is subject to a 45% tax rate. The transfer took place at $180. Shipping fees (absorbed by the overseas division) doubled to $20; the German division paid an import duty equal to 10% of the transfer price; and labour, overhead, and additional material costs were $150 per GPS. If the German selling price of the GPS amounted to $450, calculate the income for the PEI Division, the Nova Scotia Division, and the income for Walker as a whole. E. Suppose that Canadian and German tax authorities allowed some discretion in how transfer prices were set. Given the difference in tax rates, should Walker attempt to generate the majority of its income in PEI or Germany? Why?

If the head of a hotel's food and beverage operation is held accountable for revenues and costs, the food and beverage operation would be considered a(n):