ch12_tb

CHAPTER 12FINANCIAL CONTROL

TRUE/FALSE

1. Financial control involves the use of financial measures to assess organizational and management performance.a. Trueb. False

2. Financial measures identify what is wrong, not simply provide a signal that something needs attention.a. Trueb. False

3. Financial measures can highlight falling sales and profits, but only nonfinancial measures can identify why this is occurring.a. Trueb. False

4. Properly chosen nonfinancial measures anticipate and help to explain financial results.a. Trueb. False

5. In a centralized organization, front-line employees are trained to respond to changes in the business environment.a. Trueb. False

6. The amount of decentralization reflects the organization’s trust in its employees.a. Trueb. False

7. When an organization moves to decentralized decision making, control moves from results control to task control.a. Trueb. False

8. For an organization to be successful, activities within sales, manufacturing, and customer service need to be coordinated.a. Trueb. False

9. Organizations use nonfinancial control to provide a summary measure of how well their systems of operations control are working.a. Trueb. False

AKY 4E Test Bank Chapter 12 Schoenebeck

10. Properly chosen nonfinancial measures anticipate and explain financial results.a. Trueb. False

11. A cost center should be evaluated solely on its ability to control and reduce costs.a. Trueb. False

12. A major problem faced by profit centers is assigning jointly earned revenues.a. Trueb. False

13. A cost center is like an independent business.a. Trueb. False

14. Performance measures should influence decision-making behavior.a. Trueb. False

15. For the segment manager to be properly evaluated, common costs should be allocated to the various segments, even if an arbitrary allocation is required. a. Trueb. False

16. Contribution margin is the best measure of the controllable contribution of a profit center toward organizational profit.a. Trueb. False

17. If a product line were eliminated, forecasted annual corporate profits would decrease by the amount of that product line’s segment margin.a. Trueb. False

18. In general, managers are motivated to influence generated revenues when those revenues are included in their performance measures.a. Trueb. False

19. Conventional segment margin income statements clearly capture the interactive effects among responsibility centers.a. Trueb. False


20. A major goal of transfer pricing is to motivate the decision maker to act in the organization’s best interests.a. Trueb. False

21. Transfer prices based on actual costs provide no incentive to the supplying division to control costs.a. Trueb. False

22. If external markets exist, then cost-based transfer prices are the most appropriate.a. Trueb. False

23. Negotiated transfer prices, and therefore production decisions, may reflect the negotiating skills of the parties rather than economic considerations.a. Trueb. False

24. Return on investment (ROI) encourages segment managers to accept all capital projects with returns greater than the company’s cost of capital. a. Trueb. False

25. The most widely accepted definition of productivity is the ratio of output over input.a. Trueb. False

26. Economic value added evaluates income relative to the level of investment required.a. Trueb. False

27. A sole ratio value can be extremely meaningful.a. Trueb. False

28. The net profit margin ratio for Wal-Mart, a discount store, is approximately 3%. This is low compared to Microsoft’s 20% net profit margin ratio, and therefore, indicates Wal-Mart is a poor investment.a. Trueb. False

29. In general, a grocery store would be expected to have a greater inventory turnover ratio than a retailer such as Sears.a. Trueb. False

30. In general, a debt ratio of 90% indicates lower financial risk than a debt ratio of 60%.a. Trueb. False


MULTIPLE CHOICE

31. Financial control highlights:a. falling profits b. poor qualityc. high pricesd. unsatisfactory service

32. All of the following are reasons that financial control may be an ineffective scorecard EXCEPT that:a. it fails to identify the causes or drivers of performanceb. it focuses on financial measures while ignoring other important attributes of

performancec. it focuses on long-term rather than short-term performance measuresd. it is an aggregate, rather than a detailed measure of performance

33. Performance measures for financial control include all of the following EXCEPT:a. reduced cycle timesb. ROI ( return on investment) and economic value addedc. profitd. cost

34. Which of the following statements is FALSE regarding financial and nonfinancial measures of performance?a. Nonfinancial measures may help to anticipate and explain financial results.b. Financial results include aggregate measures.c. Nonfinancial results may help to identify the causes of financial results.d. Financial results are lead indicators of future success.

35. In a centralized organization:a. local-division managers have greater control over their business segmentsb. there are few deviations from the standardized way of doing thingsc. front-line employees are trained to respond to changes in the business environmentd. decisions are made by the managers most familiar with the problems and

opportunities

36. In a decentralized organization:a. local-division managers must receive higher approval for most business decisionsb. company-wide standard operating procedures are commonc. local-division managers have an opportunity to gain decision-making experienced. decisions are made by senior executives

37. A decentralized organization does all the following EXCEPT it:a. encourages local success rather than organizational successb. trains employees in skills needed for decision makingc. assigns responsibility to front-line employeesd. adapts to the local business environment


38. All of the following are true of responsibility centers EXCEPT that they:a. operate like a small businessb. promote the interests of the larger organizationc. coordinate activities with other responsibility centersd. are best used in a centralized organization

39. The MOST likely result of decentralization is to give local-division managers the responsibility for:a. evaluating strategic goalsb. allocating joint costsc. operating decisionsd. financial control

40. According to the text, performance measures for responsibility centers should:a. be broad enough to motivate desired performanceb. evaluate performance under a manager’s controlc. evaluate performance that a manager can influenced. All of the above are correct.

41. A local unit is evaluated as a profit center but the corporate office controls many facets of the operation. If local-unit performance is poor, it may reflect:a. poor corporate decisionsb. poor local decisionsc. conditions that no one can controld. All of the above are correct.

42. Measuring performance based on cost per unit will motivate performance that includes keeping __________ under control.a. only costs b. costs and on-time deliveryc. costs and the amount of defectsd. only quality

43. A cost center is a business segment:a. that usually evaluates employee performance by comparing the work performed to a

standardb. in which intraperiod cost comparisons can be misleading if the output mix and

product-mix level are constantc. that usually includes individual stores within a department-store chaind. that should be evaluated solely on its ability to control and reduce costs

44. All of the following are true of a revenue center EXCEPT that it:a. controls service quality and units soldb. controls the acquisition cost of the product or service soldc. may control price, product mix, and promotional activitiesd. may incur sales and marketing costs


45. When responsibility centers are treated as profit centers:a. the segment manager has responsibility for pricing and product selection, but not for

purchasing and promotionb. the corporate office makes most of the operating and pricing decisionsc. the information technology group of a manufacturing firm would typically be treated

as a profit centerd. there are usually problems associated with assigning jointly earned revenues

46. A fully-owned subsidiary of a multinational firm reports return on investment four times a year. This is an example of:a. a revenue centerb. a cost centerc. an investment centerd. a profit center

47. Segment margin includes:a. all costs traceable to the segmentb. the segment’s share of allocated corporate costsc. the segment’s share of allocated unavoidable costsd. All of the above are correct.

48. For a profit center, the __________ is the best measure of the controllable contribution of the center towards organizational profit and other organizational costs.a. contribution marginb. segment marginc. segment incomed. net income

49. All of the following are true regarding a unit’s segment margin EXCEPT that: a. it is an estimate of the unit’s short-term effect on organizational incomeb. if that unit had been eliminated, corporate profits would have decreased by this

amountc. it results from netting revenues and costs that are proportional to volumed. it is the best measure of financial performance for segment management

50. Caution should be taken when interpreting a segment margin income statement because:a. revenues may be based on transfer pricesb. the interactive effects among responsibility centers are generally not clearly capturedc. expenses may be a result of subjective allocation of jointly incurred costsd. All of the above are correct.

51. Building depreciation should be allocated to individual cost centers: a. based on the square footage each cost center usesb. based on the number of employees utilized by each individual centerc. only if the allocation serves some decision-making purposed. never, because it is a non-cash cost that should not be allocated


THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 52 THROUGH 55.The management accountant for the Casey & Grant Book Store has prepared the following segmented income statement for the most current year.

Cookbook Travel Book Classics TotalSales $60,000 $100,000 $40,000 $200,000Variable expenses 36,000 65,000 20,000 121,000Contribution margin 24,000 35,000 20,000 79,000Other costs 18,000 21,000 8,000 47,000Segment margin 6,000 14,000 12,000 32,000Allocated avoidable costs 2,000 1,000 3,000 6,000Segment income 4,000 13,000 9,000 26,000Allocated corporate costs 7,000 7,000 7,000 21,000

Corporate profit $(3,000 ) $ 6,000 $ 2,000 $ 5,000

52. If the cookbook product line had been eliminated prior to this year, the company would have reported: a. greater corporate profitsb. the same amount of corporate profitsc. less corporate profitsd. resulting profits cannot be determined

53. If the travel book line had been discontinued, the short-term effect on corporate profits would be a decrease of:a. $35,000b. $14,000c. $13,000d. $6,000

54. Assume that the classics product line has been discontinued and long-term capacity has had time to adjust. The projected long-term effect of this action on annual corporate profits would be a decrease of:a. $20,000b. $12,000c. $9,000d. $2,000

55. Assume an advertising campaign could increase revenues for any of the products by $15,000. To maximize corporate profits, the __________ product line should receive the advertising dollars.a. classicsb. travel bookc. cookbookd. From the information given, the correct product line cannot be determined.


56. If a company subscribes to the controllability principle, then it would be best to evaluate product line management on:a. contribution marginb. corporate profitc. segment incomed. segment margin

57. The primary goal of transfer pricing is to:a. motivate the decision maker to act in the organization’s best interestsb. obtain a high transfer price for the supplying unitc. obtain a high transfer price for the receiving unitd. agree on a price for external sales

58. All of the following are true of market-based transfer prices EXCEPT that they:a. may lead to goods/services being purchased externallyb. provide an independent valuationc. exist for all transferred products and servicesd. provide the proper economic incentives

59. All of the following are true of cost-based transfer prices EXCEPT that they:a. provide no incentive to the supplying division to control costs when actual costs are

usedb. may use standard costs to help maintain operating efficiencyc. promote the optimal level of transactions for the overall organizationd. don’t give proper guidance when operating capacity is constrained

60. The MOST likely result of a negotiated transfer price is that it:a. takes away the ultimate responsibility of the resulting transfer price from the two

partiesb. may reflect the relative negotiating skills of the two partiesc. generally results in transferring more than the optimum number of unitsd. reflects purely economic considerations

61. An administered transfer price: a. is most often used for infrequent transactionsb. retains the accountability of both partiesc. reflects pure economic considerationsd. provides an arbitrary distribution of revenues and costs between the parties


THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 62 THROUGH 65.The Jordan Company manufacturers only one type of shoe and has two divisions, the Sole Division and the Assembly Division. The Sole Division manufactures soles and then "sells" them to the Assembly Division, which completes the shoes and sells them to retailers. The market price for the Assembly Division to purchase a pair of soles is $20. Fixed costs are per pair at 100,000 units.

Sole's costs per pair of soles are: Direct materials $4Direct labor $3Variable overhead $2Division fixed costs $1

Assembly's costs per completed pair of shoes are:Direct materials $5Direct labor $1Variable overhead $1Division fixed costs $9

62. If the cost-based transfer price is 180% of variable costs , what is the transfer price per pair of soles from the Sole Division to the Assembly Division?a. $14.40b. $12.60c. $16.20d. $28.80

63. Calculate and compare the difference in overall corporate net income between Scenario A and Scenario B if the Assembly Division sells 100,000 pairs of shoes for $60 per pair to customers.

Scenario A: Negotiated transfer price of $15 per pair of solesScenario B: Market-based transfer price

a. $500,000 more net income under Scenario Ab. $500,000 of net income using Scenario Bc. $100,000 of net income using Scenario Ad. None of the above is correct.

64. Assume the transfer price for a pair of soles is 180% of full costs of the Sole Division and 100,000 of soles are produced and transferred to the Assembly Division. The Sole Division's operating income is:a. $800,000b. $900,000c. $1,280,000d. $1,800,000


65. If the Assembly Division sells 100,000 pairs of shoes at a price of $60 a pair to customers, what is the operating income of both divisions together?a. $4,400,000b. $3,400,000c. $3,000,000d. indeterminable

66. Problems of using investment centers include all of the problems associated with profit centers plus all of the following EXCEPT:a. how to identify the assets used by each investment centerb. how to assign jointly-used assets such as buildingsc. how to determine the value of the assetsd. what method to use to depreciate the assets

67. All of the following equations represent return on investment (ROI) EXCEPT:a. efficiency x productivityb. operating income / investmentc. return on sales x inventory turnoverd. (operating income / sales) x (sales / investment)

68. To discover where to make improvements in productivity, managers might do all of the following EXCEPT:a. calculate the ratio of output over inputb. compare return on sales to a competitor’s return on salesc. use trend analysisd. compare the asset turnover ratio for this accounting period to an industry norm

69. Return on investment (ROI) can be increased by:a. increasing salesb. decreasing operating assetsc. decreasing operating incomed. decreasing asset turnover

70. The MAJOR criticism of using return on investment (ROI) for financial control is that it:a. gives managers an incentive to reject projects with an ROI greater than the

company’s required rate of return but less than the department’s current ROI b. usually uses the blended rate of capital as the required rate of return c. encourages competition among segment managersd. is a measure of overall performance

71. Assume an organization’s cost of capital is 10% and Department X currently has a 15% return on investment (ROI). The manager of Department X, who is evaluated on ROI, would MOST likely accept an investment that is expected to return:a. more than 10% b. more than 15%c. more than 10% but less than 15%d. less than 15%


THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 72 THROUGH 74.Randall Company makes and distributes outdoor play equipment. Last year sales were $12,000,000, operating income was $3,000,000, and the assets used were $15,000,000.

72. Return on sales, the efficiency component of return on investment (ROI), is:a. 20%b. 80%c. 25%d. 125%

73. Asset turnover, the productivity component of return on investment (ROI), is:a. 20%b. 80%c. 25%d. 125%

74. The return on investment (ROI) is:a. 20%b. 80%c. 25%d. 125%

75. Economic value added:a. encourages segment managers to accept only new capital projects with a return on

investment (ROI) that exceed the current ROIb. of $50,000 indicates the segment earned $50,000 for the company c. of $10,000 indicates the segment’s actual earnings exceeded the company’s cost of

capital by $10,000d. is considered an inferior method of evaluating investment center performance

76. The text discusses how Quaker Oats used economic value added to evaluate the practice of trade loading, which is a practice of loading up the supply line with product to last several months. This application of economic value added would focus on:a. comparing the profit changes caused by trade loading with changes in customer

satisfactionb. the effect on partners in the distribution channel caused by abandoning trade loadingc. the difference in prices caused by trade loadingd. comparing the benefits and costs of trade loading with the required investment in

inventory

77. A measure of operations efficiency generally divides: a. output by inputb. standard revenues by standard costsc. sales by cost of goods soldd. sales by investment


78. All of the following are true regarding productivity EXCEPT:a. that an example of raw material productivity is weight of the final product to the

weight of the raw materialsb. that the most widely accepted definition of productivity is the ratio of operating

income over salesc. that an example of machine productivity is a machine's output per hourd. machine productivity is an effective method of relating process results with financial

results

79. Assume an organization’s cost of capital is 10% and Division X has operating income of $1.5 million and uses $10 million of capital. The economic value added for Division X is:a. $100,000b. $150,000c. $500,000d. $850,000

80. All of the following are true regarding common size statements EXCEPT that they: a. help to identify trends over timeb. allow comparison of financial components of similar organizationsc. express balance sheet amounts as a percent of total assetsd. express income statement amounts as a percent of net income

81. The text showed that Nortel’s sales fell over 40% between 2000 and 2001, but the cost of sales as a common-size percentage increased dramatically because:a. revenues were falling at a faster rate than Nortel could shed fixed costsb. assets acquired were purchased for more than book valuec. intangible assets decreased due to the write-down or write-off of many bad

investmentsd. common stockholders’ equity increased to reflect the financing of investments

82. Ratios:a. need to be compared to other information, such as company ratios from prior years,

to be usefulb. on their own, provide enough information for decision makers to make well-informed

decisionsc. must use amounts from the same financial statementd. have a set formula so there is consistency in calculations and they can be easily

compared to ratios of competitors

83. Which of the following statements is true regarding profitability ratios?a. The current ratio measures a company’s ability to meet short-term obligations – a

profitability ratio.b. A return on assets of 15% indicates that for every dollar invested in assets, the

company is generating 15 cents in net income.c. If the industry average for the net profit margin ratio were 10%, then a company ratio

of 5% would be considered favorable.d. A decreasing trend for the return on common equity ratio is considered favorable.


84. Which of the following statements is true regarding asset use (productivity) ratios?a. The dividend payout ratio indicates the proportion of net income paid out in

dividends – a productivity ratio.b. A total asset turnover of 2.0 indicates that for every dollar invested in assets, the

company is generating $2 in net income.c. If the industry average for the inventory turnover ratio is 4 times, then a company

ratio of 6 times indicates a company is turning over inventory faster than the industry average. This would be considered favorable.

d. A decreasing trend for accounts receivable turnover indicates receivables are being collected in fewer days and is considered favorable.

85. Which of the following statements is true regarding liquidity ratios?a. The debt ratio measures the proportion of assets financed by debt – a liquidity ratio.b. The current ratio measures the ability to meet all debt obligations – both short term

and long term. c. A decreasing trend for free cash flow indicates a strong cash position and a better

ability to meet current obligations. d. The times-interest-earned ratio may not be a good indicator of the organization’s

ability to pay interest since interest is paid with cash and not income.

86. Which of the following statements is true regarding financial leverage ratios?a. Return on common equity is a solvency ratio.b. A 1.5 debt-to-equity ratio indicates a greater proportion of company assets are being

financed with equity rather than with debt. c. If the industry average for the debt ratio is 60%, then a company ratio of 90%

indicates the proportion of total assets financed by debt is greater than average for the industry.

d. A decreasing trend for the debt-to-equity ratio indicates greater financial risk.

87. Using the information below, return on common equity equals:

BALANCE SHEET December 31, 2005Accounts payable $20,000Bonds payable $100,000Common stock $30,000Retained earnings $50,000INCOME STATEMENT 2005Net income $20,000

a. 10%b. 25%c. 11%d. 67%


88. Use the information below to select the correct response:

Cash $ 10,000Accounts receivable $ 15,000Inventory $ 25,000Equipment, net $150,000Accounts payable $ 20,000Bonds payable $ 80,000Common stock $ 30,000Retained earnings $ 70,000

a. The quick ratio equals 0.25.b. The current ratio equals 0.10.c. The debt ratio equals 20%.d. The debt-to-equity ratio equals 100%.

89. Two companies are identical except for the fact that Company D uses the double-declining-balance method of depreciation and Company S uses the straight-line method of depreciation. Assume this is the first year of business for both companies. For Company D, the ratio that will be greater is:a. the current ratiob. the net profit margin ratioc. the total asset turnover ratiod. the dividend yield ratio

90. Lucy Company and Fred Company are identical except that Lucy Company uses the LIFO inventory costing method and Fred Company uses the FIFO inventory costing method. In a period of rising prices, the ratio that will be greater for Lucy Company is:a. the current ratiob. the inventory turnover ratioc. the net profit margin ratiod. the accounts receivable turnover ratio

91. All of the following are limitations to ratio analysis EXCEPT that:a. information to calculate the ratios may come from two different financial statementsb. ratios are based on historical resultsc. companies choose different accounting methods for depreciation and inventory

costingd. interpretation may be difficult due to the effect of unknown economic or competitive

forces


EXERCISE/PROBLEM

92. For each of the following activities, characteristics, and applications, identify whether they are found in a (C)entralized organization, a (D)ecentralized organization, or (Both) types of organizations.

(C / D / Both) a. Freedom for managers at lower organizational levels to make decisions

(C / D / Both) b. Best suited to organizations within stable environments(C / D / Both) c. Greater responsiveness to user needs(C / D / Both) d. Use the most efficient technologies(C / D / Both) e. Maximum constraints and minimum freedom for managers at lowest

levels(C / D / Both) f. Maximization of benefits over costs(C / D / Both) g. Minimization of duplicate functions(C / D / Both) h. Standard operating procedures(C / D / Both) i. Requires trust in employees at all levels(C / D / Both) j. Primarily task control rather than results control

93. The management accountant for the Chocolate S’more Company has prepared the following segmented income statement.

Chocolate Other Candy Fudge TotalSales $40,000 $25,000 $35,000 $100,000Variable expenses 26,000 15,000 19,000 60,000Contribution margin 14,000 10,000 16,000 40,000Other costs 2,000 3,000 2,000 7,000Segment margin 12,000 7,000 14,000 33,000Allocated avoidable costs 3,000 3,000 2,000 8,000Segment income 9,000 4,000 12,000 25,000Allocated corporate costs 5,000 5,000 5,000 15,000Corporate profit $4,000 $(1,000 ) $7,000 $10,000

Required:a. Do you recommend dropping the Other Candy product line? Why or why not?b. If the Chocolate product line had been discontinued, the short-term effect on

corporate profits would be a decrease of what amount?c. Assume that the Fudge product line has been discontinued and long-term capacity has

had time to adjust. The projected long-term effect of this action on annual corporate profits would be a decrease of what amount?

d. Assume that an advertising campaign could increase revenues for any of the products by $15,000. To maximize corporate profits, which product line should receive the advertising dollars? Why?

e. How would you change the format of the segment margin statement above to make it more understandable?


94. For each of the following, identify whether it BEST relates to (M)arket-based, (C)ost-based, (N)egotiated, (A)dministered, or (All) types of transfer pricing.

(M / C / N / A / All) a. Bargaining between selling and buying units(M / C / N / A / All) b. Objective and provides the proper economic incentives(M / C / N / A / All) c. 145% of full costs(M / C / N / A / All) d. Avoids confrontation and generally used when a transaction

occurs frequently(M / C / N / A / All) e. Internal product transfers are required (M / C / N / A / All) f. Prices listed in a trade journal(M / C / N / A / All) g. Prices do not reflect pure economic considerations nor

accountability considerations(M / C / N / A / All) h. Goal is to motivate decision makers to act in the organization’s

best interest(M / C / N / A / All) i. Provide no incentive to the supplying division(M / C / N / A / All) j. Reflects support of the controllability principle

95. The Crandon Mill has two divisions. The Cutting Division prepares timber at its sawmills. The Assembly Division prepares the cut lumber into finished wood for the furniture industry. During the year, the Cutting Division prepared 60,000 cords of wood at a cost of $660,000. All the lumber was transferred to the Assembly Division where additional operating costs of $6 per cord were incurred. The 600,000 boardfeet of finished wood were sold for $2,500,000.

Required:

a. Determine the operating income for each division if the transfer price from Cutting to Assembly is at cost, $11 a cord.

b. Determine the operating income for each division if the transfer price is $9 per cord.

c. Since the Cutting Division sells all of its wood internally to the Assembly Division, does the manager care what price is selected? Why? Should the Cutting Division be a cost center or a profit center under the circumstances?


96. Bedtime Bedding Company manufactures pillows. The Cover Division makes covers and the Assembly Division makes the finished pillows. The covers can be sold separately for $5.00. The pillows sell for $6.00. The information related to manufacturing for the most recent year is as follows:

Cover Division

Assembly Division

Manufacturing costs of division $6,000,000 $1,500,000Sales to external parties $4,000,000 $7,200,000Market value of covers transferred from the Cover Division to the Assembly Division

$6,000,000

Required:a. Compute the operating income for each division and the company as a whole. Use

market value as the transfer price.b. Are all managers happy with this concept? Explain.

97. Department income totals $10,000, investment in the department is $100,000, and the company’s cost of capital is 8%.

Required:a. Calculate the return on investment (ROI).b. Calculate economic value added. c. Assume there is a capital project that requires a $10,000 investment for a $900 return.

Would the department manager be more likely to accept the project if department performance was evaluated using ROI or economic value added? Why?

98.Cash $ 25,000Accounts receivable $ 15,000Inventory $ 60,000Equipment, net $300,000Accounts payable $ 50,000Bonds payable $180,000Common stock $ 40,000Retained earnings $ 130,000

Required:Use the information above to calculate the following ratios:

a. the quick ratio;b. the current ratio;c. the debt ratio; and d. the debt-to-equity ratio.


CRITICAL THINKING/ESSAY

99. What is financial control and how does it relate to nonfinancial measures?

100. Discuss at least two inefficiencies of financial control.

101. Describe a profit center. What are some of the problems faced by profit centers?

102. What types of revenues and costs are used to calculate segment margin?

103. Is segment margin an appropriate measure of financial performance for segment management? Why?

104. Why are transfer prices used? What is a market-based transfer price?

105. A division reports a 20% ROI, an 8% return on sales, and a 2.50 asset turnover ratio. How can the manager of this division determine whether these results are favorable or not?

106 Ratio values standing by themselves have little to no meaning. Describe at least two different ways to make ratios more useful.


CHAPTER 12FINANCIAL CONTROL

TRUE/FALSE

LO1 1. aLO1 2. bLO1 3. aLO1 4. aLO2 5. b

LO2 6. aLO2 7. bLO3 8. aLO3 9. bLO3 10. a

LO3 11. bLO3 12. aLO3 13. bLO3 14. aLO4 15. b

LO4 16. bLO4 17. aLO4 18. aLO4 19. bLO5 20. a

LO5 21. aLO5 22. bLO5 23. aLO7 24. bLO7 25. a

LO7 26. aLO8 27. bLO8 28. bLO8 29. aLO8 30. b

MULTIPLE CHOICE

LO1 31. aLO1 32. cLO1 33. aLO1 34. dLO2 35. b

LO2 36. cLO2 37. aLO2 38. dLO2 39. cLO3 40. d

LO3 41. dLO3 42. aLO3 43. aLO3 44. bLO3 45. d

LO3 46. cLO4 47. aLO4 48. bLO4 49. cLO4 50. d

LO4 51. cLO4 52. cLO4 53. bLO4 54. cLO4 55. a

LO4 56. dLO5 57. aLO5 58. cLO5 59. cLO5 60. b

LO5 61. dLO6 62. cLO6 63. dLO6 64. aLO6 65. b

LO7 66. dLO7 67. cLO7 68. bLO7 69. bLO7 70. a

LO7 71. bLO7 72. cLO7 73. bLO7 74. aLO7 75. c

LO7 76. dLO7 77. aLO7 78. bLO7 79. cLO8 80. d

LO8 81. aLO8 82. aLO8 83. bLO8 84. cLO8 85. d

LO8 86. cLO8 87. bLO8 88. dLO8 89. cLO8 90. b

LO8 91. a


MULTIPLE CHOICE

56. The Classics product line has a 50% contribution margin, which is greater than the 40% CM of the Cookbook product line and the 35% CM of the Travel Book product line.

62. $9 x 1.8 = $16.2063. The net income would be the same under both scenarios.64. Revenue [($10 x 1.80) x 100,000)] - Costs ($10 x 100,000) = $800,000 Operating income65. Revenues ($60 x 100,000) - Cost ($26 x 100,000) = $3,400,000 Operating income72. $3,000,000 / $12,000,000 = 25%73. $12,000,000 / $15,000,000 = 80%74. $3,000,000 / $15,000,000 = 20% OR 25% x 80% = 20%87. $20,000 net income / ($30,000 + $50,000) common equity = 25%88. Debt to equity ratio = total liabilities ($20,000 + $80,000) / total equity ($30,000 +

$70,000) = 100%. Quick ratio = ($10,000 + $15,000) / current liabilities $20,000 = 1.25. Current ratio = ($10,000 + $15,000 + $25,000) / current liabilities $20,000 = 2.50. Debt ratio = total liabilities ($20,000 + $80,000) / total assets $200,000 = 50%.

89. Accumulated depreciation will be greater for Company D, resulting in lower total assets. Sales divided by a lower total assets results in a greater asset turnover ratio for Company D. Asset turnover ratio = sales / total assets.

90. Cost of sales is greater when using LIFO and ending inventory is less when using LIFO. Therefore, cost of sales / inventory will be greater for Lucy Company.


EXERCISE/PROBLEM

LO292. (C / D / Both) a. Freedom for managers at lower organizational levels to make

decisions(C / D / Both) b. Best suited to organizations within stable environments(C / D / Both) c. Greater responsiveness to user needs(C / D / Both) d. Use the most efficient technologies(C / D / Both) e. Maximum constraints and minimum freedom for managers at lowest

levels(C / D / Both) f. Maximization of benefits over costs(C / D / Both) g. Minimization of duplicate functions(C / D / Both) h. Standard operating procedures(C / D / Both) i. Requires trust in employees at all levels(C / D / Both) j. Primarily task control rather than results control

LO493. a. No, I would not recommend dropping the Other Candy product line because the

$7,000 segment margin indicates that this product line contributes $7,000 toward corporate costs and profits.

b. If the Chocolate product line were discontinued, corporate profits would immediately decrease by $12,000, the amount reported for the segment margin.

c. If the Fudge product line were discontinued and long-term capacity has had time to adjust, corporate profits would decrease by $12,000, the amount reported for the segment income.

d. To maximize corporate profits, the Fudge product line should receive the advertising dollars because it has a contribution margin of approximately 46%, the highest contribution margin of the three product lines.

e. The current segment margin statement could be made more understandable if the allocated corporate costs were only listed under the company total column, and they were not part of the computation for each product line segment. It is obvious that the corporate costs are arbitrarily allocated equally to each product line and arbitrary allocations do not aid in decision making.


LO594. (M / C / N / A / All) a. Bargaining between selling and buying units

(M / C / N / A / All) b. Objective and provides the proper economic incentives(M / C / N / A / All) c. 145% of full costs(M / C / N / A / All) d. Avoids confrontation and generally used when a transaction

occurs frequently(M / C / N / A / All) e. Internal product transfers are required (M / C / N / A / All) f. Prices listed in a trade journal(M / C / N / A / All) g. Prices do not reflect pure economic considerations nor

accountability considerations(M / C / N / A / All) h. Goal is to motivate decision makers to act in the organization’s

best interest(M / C / N / A / All) i. Provides no incentive to the supplying division(M / C / N / A / All) j. Reflects support of the controllability principle

LO3,695. a.

Cutting AssemblyRevenue $660,000* $2,500,000Cost of services: Incurred $ 660,000 $ 360,000 Transferred-in 0 660,000 Total $ 660,000 $1,020,000

Operating income $ 0 $1,480,000

* 60,000 cords x $11 = $660,000

b.Cutting Assembly

Revenue $540,000* $2,500,000Cost of serviceIncurred $ 660,000 $ 360,000Transferred-in 0 540,000 Total $ 660,000 $ 900,000

Operating income $(120,000) $1,600,000

* 60,000 cords x $9 = $540,000

c. The manager of Cutting cares about the transfer price if the division is a profit center but not if it is a cost center. Under the circumstances, the division probably should be a cost center and it should not worry about the profit it pretends to make by selling to another division.


LO696. a.

Cover Division Assembly Division CompanyRevenue: External $ 4,000,000 $7,200,000 $11,200,000 Internal 6,000,000 0 0 Total $10,000,000 $7,200,000 $11,200,000Cost of goods: Incurred $ 6,000,000 $1,500,000 $ 7,500,000 Transferred-in 0 6,000,000 0 Total $ 6,000,000 $7,500,000 $ 7,500,000

Operating income $ 4,000,000 $ (300,000) $ 3,700,000

b. The Assembly manager is probably not happy because the division is showing a loss. The manager would probably argue for a transfer price at something less than market price. However, since the market is open and competitive, the market price can be justified. The division needs to either increase its price or reduce its costs if it expects to show a profit.

LO797. a. ROI is 10% ($10,000 department income / $100,000 investment in the department).

b. Economic value added is $2,000 [$10,000 income - $8,000 ($100,000 x 8%)].

c. By accepting the proposed project, the department’s ROI will be reduced by 0.1% to 9.9%. The department manager being evaluated on ROI will probably reject the $10,000 investment proposal even though the investment exceeds the company’s 8% cost of capital. New ROI of 9.9% = $10,900 segment income / $110,000 investment in the segment.

By accepting the proposed project, the economic value added will be increased to $2,100, an increase of $100. The department manager being evaluated on economic value added will probably choose to accept the investment since it increases economic value added for the department. New economic value added is $2,100 [$10,900 actual income - $8,800 ($110,000 x 8%) cost of capital].

LO898. a. Quick ratio = ($25,000 + $15,000) / current liabilities $50,000 = 0.80

b. Current ratio = ($25,000 + $15,000 + $60,000) / current liabilities $50,000 = 2.00.

c. Debt ratio = total liabilities ($50,000 + $180,000) / total assets $400,000 = 57.5%.

d. Debt-to-equity ratio = total liabilities ($50,000 + $180,000) / total equity ($40,000 + $130,000) = 135.3%.


CRITICAL THINKING/ESSAY

LO199. What is financial control and how does it relate to nonfinancial measures?

Solution: Financial control involves the use of financial measures to assess organization and management performance.

Financial measures provide a signal that something is wrong, while nonfinancial measures identify what is wrong. For example, falling sales, a financial measure, indicates that something is wrong. However, the falling sales may result from poor quality, poor service, or high prices, which would be identified by the nonfinancial measures of the organization.

LO1100. Discuss at least two inefficiencies of financial control.

Solution: First, financial control focuses on financial measures that do not measure other important attributes such as product quality, employee satisfaction, and customer service. Because these elements and others are important to the organization’s long-term success, they also should be measured and monitored.

Financial control measures the effect of the overall level of performance and ignores the performance achieved on a more detailed level. For this reason, financial control does not suggest how to improve performance, but only serves as a signal of potential problems and opportunities.

Financial control is oriented to short-term performance and it only considers how well the organization has performed this quarter or this year. This preoccupation with short-term success is debilitating because little attention gets focused on long-term improvement.

LO3101. Describe a profit center. What are some of the problems faced by profit centers?

Solution: Profit centers are responsibility centers in which managers and other employees control both the revenues and the costs of the product or service provided. A profit center is like an independent business, except that senior management controls the level of investment in the responsibility center.

Problems faced by profit centers include deciding how to assign jointly-earned revenues and jointly-incurred costs, and deciding how to record the interactions such as transfers of goods and services between the various profit centers within the organization.


LO4102. What types of revenues and costs are used to calculate segment margin?

Solution: The revenues used to compute segment margin include those directly traceable to the segment. Also included is the segment’s allocation of jointly-earned revenues and revenues earned from other responsibility centers that may be based on transfer prices.

The costs used to compute segment margin include those directly traceable to the segment. Also included is the segment’s allocation of jointly-incurred costs and costs of items supplied internally to other responsibility centers that may be based on transfer prices.

Only those costs that are considered under the control of the segment manager should be included.

LO4103. Is segment margin an appropriate measure of financial performance for segment

management? Why?Solution: Yes, it is an appropriate measure because all of the revenues and costs used to compute segment margin are directly traceable to the segment and are essentially under the control of the segment manager.

LO5104. Why are transfer prices used? What is a market-based transfer price?

Solution: Transfer prices are used internally to value goods and services provided (transferred) by one division to another. A market-based transfer price transfers those goods from one division to another at their current market value.

LO7105. A division reports a 20% ROI, an 8% return on sales, and a 2.50 asset turnover ratio. How

can the manager of this division determine whether these results are favorable or not?Solution: Meaning is added when ratios are compared to past performance and trends are revealed. Also, ratios can be compared to industry averages and ratios of comparable organizations. To keep ratios in proper perspective, a background check into a company’s external environment should include information about general economic conditions, political events and political climate, and industry outlook. The trends or comparative differences help to determine if the division is doing well and they also provide signals of where to look for potential problems and opportunities.

LO8106. Ratio values standing by themselves have little to no meaning. Describe at least two

different ways to make ratios more useful.Solution: (1) Meaning is added when ratios are compared to past performance and trends are revealed. (2) To add meaning, compare ratios to other relevant information such as industry averages and ratios of peer companies. (3) To keep ratios in proper perspective, a background check into a company’s external environment should include information about general economic conditions, political events and political climate, and industry outlook.


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