Chapter 11
1. The practice of delegating decision-making authority to lower levels of management in a company is called
centralization.
a. True
b. False
2. In a decentralized company, overall profit margins can mask inefficiencies within the various subdivisions.
a. True
b. False
3. Decentralization is usually achieved by creating units called divisions.
a. True
b. False
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4. A production department within the factory, such as assembly, is an example of a profit center.
a. True
b. False
5. In a decentralized company, central management is able to focus on strategic planning and decision making.
a. True
b. False
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6. Turnover is the most common measure of performance for an investment center.
a. True
b. False
7. Return on investment (ROI) can be calculated by multiplying margin times turnover.
a. True
b. False
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8. Turnover is the ratio of sales to average operating assets.
a. True
b. False
9. Decreasing inventories leads to a reduction in return on investment (ROI).
a. True
b. False
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10. Residual income is sometimes used to overcome the tendency of ROI to discourage investments that are profitable for
the company, but that lower the division’s ROI.
a. True
b. False
11. Unlike ROI, residual income does not encourage a short-run orientation.
a. True
b. False
12. Economic value added (EVA) is similar to ROI in that it links net income to capital employed.
a. True
b. False
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13. A key feature of economic value added (EVA) is that it emphasizes after-tax operating income and the actual cost of
capital.
a. True
b. False
14. Residual income is the difference between operating income and the product of the hurdle rate and the company’s
average operating assets.
a. True
b. False
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15. In calculating residual income, the minimum rate of return is set by top management and is the same as the hurdle rate
used for return on investment.
a. True
b. False
16. The use of residual income encourages managers to accept any project that earns above the minimum rate.
a. True
b. False
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17. The direct comparison of the performance of two different investment centers is difficult using residual income
because residual income is an absolute measure.
a. True
b. False
18. Economic value added is just a specific way of calculating residual income.
a. True
b. False
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19. The net income reduced by the total annual cost of capital is equal to the economic value added.
a. True
b. False
20. Basically, EVA is residual income with the cost of capital equal to the actual cost of capital for the firm (as opposed to
some minimum rate of return desired by the company for other reasons).
a. True
b. False
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21. Using EVA to calculate residual income, the dollar cost of capital employed is the actual percentage cost of capital
multiplied by the total capital employed.
a. True
b. False
22. In terms of operating income for the company as a whole, the transfer price set by the buying and selling divisions
nets out.
a. True
b. False
23. If there is a competitive outside market for the transferred product, then the best transfer price is the cost-based
transfer price.
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a. True
b. False
24. In negotiated transfer pricing, the buying division sets the ceiling (maximum possible transfer price) for the bargaining
range.
a. True
b. False
25. In negotiated transfer pricing, the selling division sets the ceiling (maximum possible transfer price) for the bargaining
range.
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a. True
b. False
26. The selling division would never agree to a transfer price below its full manufacturing cost.
a. True
b. False
27. A transfer price is the price charged for a component by the selling division to the buying division of the same
company.
a. True
b. False
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28. The price charged for the transferred good affects the costs of the buying division and the revenues of the selling
division.
a. True
b. False
29. Transfer pricing is a complex issue.
a. True
b. False
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30. When the selling division can sell and the buying division can buy externally at the market price, the company as a
whole will be in the same position whether or not a market price transfer takes place internally.
a. True
b. False
31. Several transfer pricing policies are used in practice. These transfer pricing policies include market price, cost-based
transfer prices, and negotiated transfer prices.
a. True
b. False
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32. The selling division is forced to transfer a product internally when a cost-based transfer pricing policy is set by top
management.
a. True
b. False
33. When a product is transferred at market price, the transfer will optimize both divisional and company-wide profits.
a. True
b. False
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34. In _______________ decision making, decisions are made at the very top level, and lower-level managers are charged
with implementing these decisions.
35. ________________ decision making allows managers at lower levels to make and implement key decisions pertaining
to their areas of responsibility.
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36. Decentralization usually is achieved by creating units called ___________.
37. A ____________________ is a segment of the business whose manager is accountable for specific sets of activities.
38. When a manager is responsible for only costs it is known as a(n) _______________.
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39. A(n) ________________ is when a manager is responsible only for sales.
40. An ______________________ is when a manager is responsible for revenues, costs and investments.
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41. Typically, investment centers are evaluated on the basis of __________________.
42. _____________________ refers to earnings before non-operating revenue, expenses, interest and taxes.
43. _____________ is the ratio of operating income to sales.
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44. _________________ is found by dividing sales by average operating assets.
45. _______________ indicate the minimum ROI necessary to accept an investment.