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# Solution to Chapter 13

E13‐24,25,26,27,29 13‐34,35,46

EXERCISE 13-24 (10 MINUTES)
=

=

=

8%

Capital turnover =

=

=

2.5

Return on investment =

=

=

20%

Sales margin

EXERCISE 13-25 (15 MINUTES)
There are an infinite number of ways to improve the division's ROI to 25 percent. Here are
two of them:
1.

Improve the sales margin to 10 percent by increasing income to \$12,500,000:
ROI

=

sales margin × capital turnover

=
=

10% × 2.5 = 25%

Since sales revenue remains unchanged, this implies a cost reduction of \$2,500,000 at
the same volume.
2.

Improve the turnover to 3.125 by decreasing average invested capital to \$40,000,000:
ROI

=

sales margin × capital turnover

=
=

8% × 3.125 = 25%

Since sales revenue remains unchanged, this implies that the firm can divest itself of
some productive assets without affecting sales volume.

McGraw-Hill/Irwin
Managerial Accounting, 8/e
11-1

 2009 The McGraw-Hill Companies, Inc.

000 Therefore.000 – £3.000 Income = £6.000.000.000 – expenses = £450.EXERCISE 13-26 (5 MINUTES) Residual income = investment center income – = \$10. Sales margin = = £  £  = 5% *Income = £300.000 in order to raise the firm's ROI to 15 percent.000 Income = sales revenue – expenses = £450.000 2.000 Expenses = £5. expenses must be reduced to £5. Inc.000 = £450.5% × 2 = 15% McGraw-Hill/Irwin Managerial Accounting.000 – (\$50.000 × 11%) = \$4. .500.000.000. 8/e 11-2  2009 The McGraw-Hill Companies.300.000. Sales margin = = £  £  ROI = sales margin × capital turnover = 7.000 = £6.400.550.000 – £2. 3.000 EXERCISE 13-27 (15 MINUTES) 1. Capital turnover = £  = £  ROI = = £  = 2 £  ROI = 15% = = 10% = £  Income = 15% × £3.550.

...................... McGraw-Hill/Irwin Managerial Accounting.......... 8/e 11-3 \$ 4..EXERCISE 13-29 (30 MINUTES) 1...............................600..... Inc.. Average balance (\$49.....................................................................000 24..............000 3.............. \$25................... Less: imputed interest charge: Average productive assets .................. Income from operations before income taxes.......200........ .....................600.000 \$24................. Average investment in productive assets: Balance on 12/31/x1 ......................230...................... Residual income ............................000 ROI = = = 20% b........000 \$ 1.............920... a...........000....200................ Beginning balance plus ending balance.....15 Imputed interest rate ..............................................................200.......05).............................. \$24....000 ÷ 2) ..000 \$49.........000  2009 The McGraw-Hill Companies.... Balance on 1/1/x1 (\$25.... Imputed interest charge ......690...................000 ÷ 1.....000 × .................200.....

3 percent to 22. Management may have rejected the investment because bonuses are based in part on the ROI performance measure. = forgone contribution margin If the Fabrication Division has excess capacity. Yes. .. there is no opportunity cost associated with a transfer. Therefore: Transfer price = outlay cost + = \$450 McGraw-Hill/Irwin Managerial Accounting.EXERCISE 13-29 (CONTINUED) 2. Fairmont’s management probably would have accepted the investment if residual income were used. 8/e 11-4 + opportunity cost 0 = \$450  2009 The McGraw-Hill Companies. management would accept any and all investments that would increase residual income (i.1 percent) as well as its actual 20x1 ROI (20 percent). press the CTRL key and click on the following link: BUILD A SPREADSHEET EXERCISE 13-34 (10 MINUTES) 1. The investment opportunity would have lowered Fairmont’s 20x1 ROI because the project's expected return (18 percent) was lower than the division's historical returns (19.e. If residual income were used as a performance measure (and as a basis for bonuses). In the electronic version of the solutions manual. 3. Transfer price = outlay cost = \$450* + opportunity cost + \$120† = \$570 *Outlay cost = unit variable production cost †Opportunity cost = \$570 – \$450 = \$120   2. Inc. a dollar amount rather than a percentage) including the investment opportunity it had in 20x1.

.........................     McGraw-Hill/Irwin Managerial Accounting......... Total unit variable cost ............................... Total incremental cost ........................ but the incremental cost drops to \$600 per unit (\$450 transfer price + \$150 variable cost incurred in the Assembly Division)... The Assembly Division's manager is likely to reject the special offer because the Assembly Division's incremental cost on the special order exceeds the division's incremental revenue: Incremental revenue per unit in special order ............................. 8/e 11-5  2009 The McGraw-Hill Companies......................................... Now the Assembly Division manager will have an incentive to accept the special order since the Assembly Division's incremental revenue on the special order exceeds the incremental cost................... The incremental revenue is still \$700 per unit.............. Unit variable cost incurred in Assembly Division .................. Profit per unit in special order ............. \$700 \$700 \$450 150 600 \$100 The transfer price could be set in accordance with the general rule.. Incremental cost to company per unit in special order: Unit variable cost incurred in Fabrication Division ............................EXERCISE 13-35 (25 MINUTES) 1............ ....... 3................................ Incremental cost to Assembly Division per unit in special order: Transfer price ...... since the Fabrication Division has excess capacity... 2............................ since the company's incremental revenue on the special order exceeds the company's incremental cost: Incremental revenue per unit in special order ...... \$561 150 711 \$ (11) The Assembly Division manager's likely decision to reject the special order is not in the best interests of the company as a whole................ Inc...................... Loss per unit in special order ......... as follows: Transfer price = outlay cost = \$450 + opportunity cost + 0* = \$450 *Opportunity cost is zero.... Additional variable cost..............

2.. The reason: Tampa will lose \$40 on each satellite positioning system produced and sold. Put simply. Ideally...340 1. \$1.. Contribution margin .. Sell Externally Produce Diode.. the \$1. 4...500 2. Transfer price paid to Birmingham… Income (loss)…………………………………… \$2. Birmingham will suffer a \$50 drop in sales revenue and profit on each unit it sends to Tampa.....500 transfer price would probably be deemed too high.PROBLEM 13-46 (25 MINUTES) 1.. Currently.. Although Tampa is receiving a \$50 “price break” on each unit purchased from Birmingham. Although top management desires to introduce the positioning system....550 each. Top management’s intervention/price-lowering decision would undermine the authority and autonomy of Birmingham’s and Tampa’s divisional managers.800 1. . Observe that the transfer price is ignored in this evaluation—one that looks at the firm as a whole. thereby creating a “wash” on the part of the overall entity. McGraw-Hill/Irwin Managerial Accounting. the two divisional managers (or their representatives) should negotiate a mutually agreeable price..000 + \$1. the division is selling all the units it produces at \$1.. Sell Positioning System \$1. Birmingham would record the transfer price as revenue whereas Tampa would record the transfer price as a cost.....340... 8/e 11-6 Produce Diode. MTI would benefit more if it sells the diode reducer externally.. Inc.. Transfer.. Less: Variable manufacturing costs………. MTI uses a responsibility accounting system.. Sales revenue…………………………………..840 \$ (40) 3.340 \$ 460  2009 The McGraw-Hill Companies......... With transfers taking place at \$1..000...800 \$1.....550 \$2. The Birmingham divisional manager will likely be opposed to the transfer.. it should not lower the price to make the transfer attractive to Tampa.....500.000 \$ 550 2.... Less: Variable cost:: \$1. awarding bonuses based on divisional performance....   Sales revenue..