Chapter 12 Financial Control Verified Test Bank

Chapter 12

Financial Control

Learning Objectives―Coverage by question type

LO1 – Understand and explain the nature and scope of financial control and its important roles both inside and outside organizations.

True / False Multiple Choice Exercises, Problems & Short Answer

1-6 1-4 1, 2

LO2 – Understand why organizations decentralize decision-making responsibility, the control and motivation issues that arise from this choice, and how organizations approach these control and motivation issues.

True / False Multiple Choice Exercises, Problems & Short Answer

7-10 5-8 3

LO3 – Understand why organizations use responsibility centers, the type of responsibility center that is appropriate in a given setting, the limitations of the responsibility center approach to evaluating performance, and what performance measures senior management uses to evaluate responsibility center performance.

True / False Multiple Choice Exercises, Problems & Short Answer

11-14 9-16 4, 11

LO4 – Be able to design and interpret appropriate performance measures to evaluate the performance of each type of responsibility center.

True / False Multiple Choice Exercises, Problems & Short Answer

15-19 17-26 5-7

LO5 – Understand why organizations use transfer prices and the types of transfer prices that organizations use.

True / False Multiple Choice Exercises, Problems & Short Answer

20-23 27-31 8, 9

LO6 – Be able to determine and compute the appropriate transfer price in a particular setting.

True / False Multiple Choice Exercises, Problems & Short Answer

None 32-35 10, 11

LO7 – Understand the nature and scope of return on investment and economic value added approaches to evaluating economic performance and be able to compute return on investment and residual income measures.

True / False Multiple Choice Exercises, Problems & Short Answer

24-26 36-49 12, 13

Chapter 12: Financial Control

True / False

LO1

Terms: Financial control

Difficulty: 1

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

Difficulty: 1

1. Financial measures identify what is wrong with an organization, not simply provide a signal that something needs attention.

Difficulty: 1

1. Nonfinancial measures can highlight falling sales and profits in an organization, but only financial measures can identify why this is occurring.

Difficulty: 1

1. Properly chosen nonfinancial measures anticipate and help to explain financial results in an organization.

Difficulty: 1

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

Difficulty: 1

1. Properly chosen nonfinancial measures anticipate and explain financial results.

Difficulty: 1

1. In a decentralized organization, front-line employees are trained to respond to changes in the business environment.

Difficulty: 1

1. The amount of decentralization in an organization reflects the organization's trust in its employees and other factors.

Difficulty: 1

1. For an organization to be successful, activities within sales, manufacturing, and customer service need to be coordinated.

Difficulty: 2

1. When an organization moves to decentralized decision making, control moves from results control to task control.

Difficulty: 1

1. A support department, such as human resources, should be evaluated as a cost center.

Difficulty: 1

1. A major problem faced by cost centers is assigning jointly earned revenues.

Difficulty: 1

1. A revenue center is like an independent business.

Difficulty: 1

1. The performance measures chosen should influence the employees' decision-making behavior.

Difficulty: 2

1. For the segment manager to be properly evaluated, common costs should not be allocated to the various segments, even if an arbitrary allocation is required.

Difficulty: 2

1. Contribution margin is the best measure of the controllable contribution of a profit center toward organizational profit.

Difficulty: 2

1. If a product line was eliminated, forecasted annual corporate profits in the short run would decrease by the amount of that product line's contribution margin.

Difficulty: 1

1. In general, managers are motivated to influence generated revenues when those revenues are included in their performance measures.

Difficulty: 2

1. Conventional segment margin income statements clearly capture the interactive effects among responsibility centers.

Difficulty: 1

1. A major goal of transfer pricing is to motivate the decision maker to act in the organization's best interests.

Difficulty: 2

1. Transfer prices based on actual costs provide no incentive to the supplying division to control costs.

Difficulty: 2

1. If external markets exist, then market-based transfer prices are the most appropriate.

Difficulty: 2

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

Difficulty: 1

1. Residual income equals reported accounting income less the economic cost of the investment used to generate that income.

Difficulty: 1

1. Return on investment is the ratio of income to investment, with varying definitions of income and investment.

Difficulty: 1

1. The financial measure, economic value added, evaluates income relative to the level of investment required.

Difficulty: 1

1. Measure of financial control highlight:

A) falling profits.

B) poor quality.

C) high prices.

D) unsatisfactory service.

Difficulty: 2

1. 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 performance.

B) it focuses on financial measures while ignoring other important attributes of performance.

C) it focuses on long-term rather than short-term performance measures.

D) it is an aggregate, rather than a detailed measure of performance.

Difficulty: 2

1. Performance measures for financial control include all of the following except:

A) reduced cycle times.

B) ROI (return on investment) and economic value added.

C) profit.

D) cost.

Difficulty: 2

1. 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 measures include aggregate measures.

C) Nonfinancial measures may help to identify the causes of financial results.

D) Financial measures are lead indicators of future success.

Difficulty: 1

1. In a decentralized organization:

A) local-division managers have less control over their business segments.

B) there are few deviations from the standardized way of doing things.

C) front-line employees are not trained to respond to changes in the business environment.

D) decisions are made by the managers most familiar with the problems and opportunities.

Difficulty: 1

1. In a centralized organization:

A) local-division managers do not need higher approval for most business decisions.

B) company-wide standard operating procedures are common.

C) local-division managers have an opportunity to gain decision-making experience.

D) decisions are made by local division managers.

Difficulty: 2

1. A decentralized organization does all the following except it:

A) encourages local success rather than organizational success.

B) trains employees in skills needed for decision making.

C) assigns responsibility to front-line employees.

D) adapts to the local business environment.

Difficulty: 2

1. The most likely result of decentralization is to give local-division managers the responsibility for:

A) evaluating strategic goals.

B) allocating joint costs.

C) operating decisions.

D) financial control.

Difficulty: 1

1. All of the following are true of responsibility centers except that they:

A) operate like a small business.

B) promote the interests of the larger organization.

C) coordinate activities with other responsibility centers.

D) are best used in a centralized organization.

Difficulty: 1

1. All of the following would likely be classified as cost centers except:

A) maintenance department at local grocery store.

B) your university's computer center.

C) surgical department of hospital.

D) All of the above are cost centers.

Difficulty: 3

1. 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 decisions.

B) poor local decisions.

C) conditions that no one can control.

D) All of the above are correct.

Difficulty: 2

1. Measuring performance based on cost per unit will motivate performance that includes keeping ________ under control.

A) only costs

B) costs and on-time delivery

C) costs and the amount of defects

D) only quality

Difficulty: 1

1. A cost center is a business segment:

A) that usually evaluates employee performance by comparing the center's actual costs with target or standard costs for the amount and type of work done.

B) in which interperiod cost comparisons can be misleading if the output level and production mix are constant.

C) that usually includes individual stores within a department-store chain.

D) that should be evaluated solely on its ability to control and reduce costs.

Difficulty: 2

1. All of the following are true of a revenue center except that it:

A) controls service quality and units sold.

B) controls the acquisition cost of the product or service sold.

C) may control price, product mix, and promotional activities.

D) may incur sales and marketing costs.

Difficulty: 2

1. When responsibility centers are treated as profit centers:

A) the segment manager has responsibility for pricing and product selection, but not for purchasing and promotion.

B) the corporate office makes most of the operating and pricing decisions.

C) the information technology group of a manufacturing firm would typically be treated as a profit center.

D) there are usually problems associated with assigning jointly earned revenues.

Difficulty: 1

1. A fully-owned subsidiary of a multinational firm reports return on investment four times a year. This is an example of:

A) a revenue center.

B) a cost center.

C) an investment center.

D) a profit center.

Difficulty: 2

1. Segment margin includes:

A) all costs traceable to the segment.

B) the segment's share of allocated corporate costs.

C) the segment's share of allocated unavoidable costs.

D) All of the above are correct.

Difficulty: 1

1. Managers of profit centers are responsible for:

A) costs and investments.

B) revenues and costs.

C) costs, revenues, and investments.

D) costs.

Difficulty: 2

1. Segment margin is calculated as follows:

A) Revenues less fixed costs.

B) Revenues less expenses.

C) Revenues less direct costs.

D) Revenues less variable costs

Difficulty: 3

1. Caution should be taken when interpreting a segment margin income statement because:

A) revenues may be based on transfer prices.

B) the interactive effects among responsibility centers are generally not clearly captured.

C) expenses may be a result of subjective allocation of jointly incurred costs.

D) All of the above are correct.

Difficulty: 1

1. Human resources costs might be allocated to individual cost centers:

A) based on the square footage each cost center uses.

B) based on the number of employees utilized by each individual center.

C) only if the allocation serves some decision-making purpose.

D) never, because it is a non-cash cost that should not be allocated.

Difficulty: 2

1. If the Produce department had been eliminated prior to this year, the company would have reported:

A) greater corporate profits.

B) the same amount of corporate profits.

C) less corporate profits.

D) resulting profits cannot be determined.

Difficulty: 2

1. If the Fish & Meat department had been discontinued, the short-term effect on corporate profits would be a decrease of:

A) $55,000.

B) $34,000.

C) $31,000.

D) $24,000.

Difficulty: 2

1. Assume that the Sundries department has been discontinued and long-term capacity of the company has had time to adjust.

The projected long-term effect of this action on annual corporate profits would be a decrease of:

A) $40,000.

B) $32,000.

C) $29,000.

D) $22,000.

Difficulty: 2

1. Assume an advertising campaign could increase revenues for any of the products by $15,000. To maximize corporate profits, the ____________ department should receive the advertising dollars.

Assume the cost of the advertising campaign is less than the revenues it generates.

A) Sundries

B) Fish & Meat

C) Produce

D) From the information given, the correct product line cannot be determined.

Difficulty: 2

1. If a company subscribes to the controllability principle, then it would be best to evaluate product line management on:

A) contribution margin.

B) corporate profit.

C) segment income.

D) segment margin.

Difficulty: 1

1. The primary goal of transfer pricing is to:

A) motivate the decision maker to act in the organization's best interests.

B) obtain a high transfer price for the supplying unit.

C) obtain a high transfer price for the receiving unit.

D) agree on a price for external sales.

Difficulty: 2

1. All of the following are true of market-based transfer prices except that they:

A) may lead to goods/services being purchased externally.

B) provide an independent valuation.

C) exist for all transferred products and services.

D) provide the proper economic incentives.

Difficulty: 2

1. 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 used.

B) may use standard costs to help maintain operating efficiency.

C) promote the optimal level of transactions for the overall organization.

D) don't give proper guidance when operating capacity is constrained.

Difficulty: 2

1. 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 parties.

B) may reflect the relative negotiating skills of the two parties.

C) generally results in transferring more than the optimum number of units.

D) reflects purely economic considerations.

Difficulty: 2

1. An administered transfer price:

A) is most often used for infrequent transactions.

B) retains the accountability of both parties.

C) reflects pure economic considerations.

D) provides an arbitrary distribution of revenues and costs between the responsibility centers.

Difficulty: 2

1. 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) $28.80

B) $25.20

C) $32.40

D) $57.60

Difficulty: 3

1. 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 $120 per pair to customers.

Scenario A: Negotiated transfer price of $30 per pair of soles

Scenario B: Market-based transfer price

A) $1,000,000 more net income under Scenario A

B) $1,000,000 of net income using Scenario B

C) $ 200,000 of net income using Scenario A

D) None of the above is correct.

Difficulty: 2

1. 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) $1,600,000.

B) $1,800,000.

C) $2,560,000.

D) $3,600,000.

Difficulty: 2

1. If the Assembly Division sells 100,000 pairs of shoes at a price of $120 a pair to customers, what is the operating income of both divisions together?

A) $8,800,000

B) $6,800,000

C) $6,000,000

D) indeterminable

Difficulty: 2

1. 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 center.

B) how to assign the responsibility for jointly-used assets such as buildings.

C) how to determine the value of the assets used by each investment center.

D) what method to use to depreciate the assets.

Difficulty: 2

1. All of the following equations represent return on investment (ROI) except:

A) Efficiency × Productivity.

B) Operating income / Investment.

C) Return on sales × Inventory turnover.

D) (Operating income / Sales) × (Sales / Investment).

Difficulty: 2

1. To discover where to make improvements in productivity, managers might do all of the following except:

A) calculate the ratio of output over input.

B) compare return on sales to a competitor's return on sales.

C) use trend analysis.

D) compare the asset turnover ratio for this accounting period to an industry norm.

Difficulty: 2

1. Return on investment (ROI) can be increased by:

A) increasing sales.

B) decreasing operating assets.

C) decreasing operating income.

D) decreasing asset turnover.

Difficulty: 2

1. 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 managers.

D) is a measure of overall performance.

Difficulty: 2

1. Assume an organization's cost of capital is 8% and Department A currently has a 12% return on investment (ROI). The manager of Department A, who is evaluated on ROI, would most likely accept an investment that is expected to return:

A) more than 8%.

B) more than 12%.

C) more than 8% but less than 12%.

D) less than 12%.

Difficulty: 2

1. Return on sales, the efficiency component of return on investment (ROI), is:

A) 20%.

B) 80%.

C) 25%.

D) 125%.

Difficulty: 2

1. Asset turnover, the productivity component of return on investment (ROI), is:

A) 20%.

B) 80%.

C) 25%.

D) 125%.

Difficulty: 2

1. The return on investment (ROI) is:

A) 20%.

B) 80%.

C) 25%.

D) 125%.

Difficulty: 2

1. Economic value added:

A) encourages segment managers to accept only new capital projects with a return on investment (ROI) that exceed the current ROI.

B) of $100,000 indicates the segment earned $100,000 for the company.

C) of $20,000 indicates the segment's actual earnings (adjusted for biasing effects of accounting conservatism) exceeded the company's cost of capital by $20,000.

D) is considered an inferior method of evaluating investment center performance.

Difficulty: 2

1. Super Foods, Inc. uses 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 satisfaction.

B) the effect on partners in the distribution channel caused by abandoning trade loading.

C) the difference in prices caused by trade loading.

D) comparing the benefits and costs of trade loading with the required investment in inventory.

Difficulty: 1

1. A measure of operations efficiency generally divides:

A) output by input.

B) standard revenues by standard costs.

C) sales by cost of goods sold.

D) sales by investment.

Difficulty: 2

1. All of the following are true regarding productivity except:

A) that an example of raw material productivity is the weight of the final product to the weight of the raw materials.

B) that the most widely accepted definition of productivity is the ratio of operating income over sales.

C) that an example of machine productivity is a machine's output per hour.

D) machine productivity is an effective method of relating process results with financial results.

Difficulty: 2

1. Assume an organization's cost of capital is 10% and Division Z has operating income of $3 million and uses $20 million of capital. The economic value added for Division Z is:

A) $ 200,000.

B) $ 300,000.

C) $1,000,000.

D) $1,700,000.

Difficulty: 2

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

Difficulty: 2

1. Discuss at least two inefficiencies of financial control.

Difficulty: 2

1. 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.

Difficulty: 2

1. Describe a cost center. What are some of the problems faced by cost centers?

Difficulty: 2

1. The management accountant for Sam's Skateboard Company has prepared the following segmented income statement for each of its three product lines.

Required:

a. Do you recommend dropping the Cruise product line? Why or why not?

b. If the Jammer product line had been discontinued, the short-term effect on corporate profits would be a decrease of what amount?

c. Assume that the Flight 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?

Difficulty: 2

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

Difficulty: 2

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

Difficulty: 2

1. 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.

Difficulty: 2

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

Difficulty: 2

1. Goodrest 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. Information related to manufacturing for the most recent year is as follows:

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.

Difficulty: 3

1. Master Milling, Inc. 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 board feet 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?

Difficulty: 2

1. Department income totals $200,000, investment in the department is $2,000,000, 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 $200,000 investment for a $18,000 return. Would the department manager be more likely to accept the project if department performance was evaluated using ROI or economic value added? Why?

Difficulty: 2

1. A division reports a 24.5% ROI, a 9.6% return on sales, and a 2.55 asset turnover ratio. How can the manager of this division determine whether these results are favorable or not?