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113. James Webb is the general manager of the Industrial Product Division, and his
performance is measured using the residual income (RI) method. Webb is reviewing the followed
forecasted information for his division for the coming year:
Category Amount (thousands)
Current assets (e.g., inventory) $1,800
Revenue 30,000
Plant and equipment (net book value) 17,200
If the imputed interest charge (i.e., divisional cost of capital) is 15% and Webb wants to achieve
an RI target of $2 million, what will costs have to be in order to achieve the target?
114. Parkside Inc. has three divisions (Entertainment, Plastics, and Video Card), each of which
is considered an investment center for performance-evaluation purposes. The Entertainment
Division manufactures video arcade equipment using products produced by the other two
divisions, as follows:
1. The Entertainment Division purchases plastic components from the Plastics Division that are
considered unique (i.e., they are made exclusively for the Entertainment Division). In addition, the
Plastics Division makes less-complex plastic components that it sells externally, to other
producers.
2. The Entertainment Division purchases, for each unit it produces, a video card from Parkside's
Video Card Division, which also sells this video card externally (to other producers).
The per-unit manufacturing costs associated with each of the above two items, as incurred by
the Plastic Components Division and the Video Card Division, respectively, are:
Plastic
Components Video
Cards
Direct material $1.25 $2.40
Direct labor 2.35 3.00
Variable overhead 1.00 1.50
Fixed overhead 0.40 2.25
Total cost $5.00 $9.15
The Plastics Division sells its commercial products at full cost plus a 25% markup and believes
the proprietary plastic component made for the Entertainment Division would sell for $6.25/unit
on the open market. The market price of the video card used by the Entertainment Division is
$10.98/unit. A per-unit transfer price from the Video Cards Division to the Entertainment Division
at full cost, $9.15, would:
115. Parkside Inc. has three divisions (Entertainment, Plastics, and Video Card), each of which
is considered an investment center for performance-evaluation purposes. The Entertainment
Division manufactures video arcade equipment using products produced by the other two
divisions, as follows:
1. The Entertainment Division purchases plastic components from the Plastics Division that are
considered unique (i.e., they are made exclusively for the Entertainment Division). In addition, the
Plastics Division makes less-complex plastic components that it sells externally, to other
producers.
2. The Entertainment Division purchases, for each unit it produces, a video card from Parkside's
Video Card Division, which also sells this video card externally (to other producers).
The per-unit manufacturing costs associated with each of the above two items, as incurred by
the Plastic Components Division and the Video Card Division, respectively, are:
Plastic
Components Video
Cards
Direct material $1.25 $2.40
Direct labor 2.35 3.00
Variable overhead 1.00 1.50
Fixed overhead 0.40 2.25
Total cost $5.00 $9.15
Assume that the Entertainment Division is able to purchase a large quantity of video cards from
an outside source at $8.70/unit. The Video Cards Division, having excess capacity, agrees to
lower its transfer price to $8.70/unit. This action would likely:
116. Parkside Inc. has three divisions (Entertainment, Plastics, and Video Card), each of which
is considered an investment center for performance-evaluation purposes. The Entertainment
Division manufactures video arcade equipment using products produced by the other two
divisions, as follows:
1. The Entertainment Division purchases plastic components from the Plastics Division that are
considered unique (i.e., they are made exclusively for the Entertainment Division). In addition, the
Plastics Division makes less-complex plastic components that it sells externally, to other
producers.
2. The Entertainment Division purchases, for each unit it produces, a video card from Parkside's
Video Card Division, which also sells this video card externally (to other producers).
The per-unit manufacturing costs associated with each of the above two items, as incurred by
the Plastic Components Division and the Video Card Division, respectively, are:
Plastic
Components Video
Cards
Direct material $1.25 $2.40
Direct labor 2.35 3.00
Variable overhead 1.00 1.50
Fixed overhead 0.40 2.25
Total cost $5.00 $9.15
Assume that the Plastics Division has excess capacity and it has negotiated a transfer price of
$5.60 per plastic component with the Entertainment Division. This price will likely:
117. Alice and Jon Harrison operate two full-service dry cleaning outlets in the St. Louis
metropolitan area. One of the outlets generates over $800,000 revenue per year and has more
than a million dollar investment in state-of-the-art equipment. The other outlet is older,
generates $20,000 revenue per month, and has 20-25 year-old equipment currently worth
approximately $85,000. Both outlets are profitable with growing market bases. (The ratio
between operating income and sales for each unit, based on historical-cost accounting numbers,
is roughly the same.) Managers at each location are currently paid a base salary, and receive a
year-end bonus which is five percent of total operating profit produced by both outlets combined.
Alice has just finished a workshop on investment center performance evaluation, and wants to
change the evaluation and reward structure, hoping to motivate the two managers to produce
greater revenue and profit.
Required:
What type of evaluation mechanisms should she propose for the two managers?
118. Ellie Jackson is upset by the new transfer pricing system recently implemented at
Monson Company. As manager of the first of three sequential production departments, she can't
see the value of a transfer pricing system for her department. "We can't sell what we produce to
any outside buyer. And we're never pushed for capacity, so I don't think transfer pricing will do
anything but make my life more complicated." You are Ellie's boss.
Required:
Explain how transfer pricing can help Ellie evaluate her department's operations and allow you to
more effectively evaluate her management abilities.
119. Consider the following data for three divisions of a company, X, Y, and Z:
Divisional
Sales
Operating income
Investment (assets)
Required:
Calculate return on investment (ROI), return on sales (ROS), and asset turnover (AT) for each
division. Round your answers to two decimal places where appropriate.
120. Selected data from an investment center's accounting records reveal the following:
Sales $700,000
Average investment $350,000
Operating income $50,000
Minimum rate of return 12%
Required:
1. Calculate return on investment (ROI) for this investment center (show separately the two
major components of the ROI calculation). Round all computations to two decimal places.
2. Calculate residual income (RI) for this investment center.
121. Accounting records from Division A, Alpha Manufacturing Company indicate the
following:
Divisional Sales $1,500,000
Average Investment $1,000,000
Divisional operating income $169,500
Minimum Rate of Return 14%
Required:
1. Compute the return on sales (ROS) for Division A. (Round answer to one decimal point.)
2. Compute the asset turnover (AT) for Division A.
3. Compute return on investment (ROI) for this division, using answers to parts (1) and (2).
(Round answer to two decimal points.)
4. Compute residual income (RI) for Division A.
5. Describe how Alpha Manufacturing would determine whether or not to invest in any particular
project in the future.
122. 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, for both calculations, is to be measured using either gross book value (GBV) or net
book value (NBV) of divisional assets. 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) value is predicted. Bronx's minimum rate of
return (cost of capital) used for computing RI, for all three divisions, 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., 0.12344 = 12.34%). Where
applicable, assume straight-line depreciation.
