Alcatraz Division of XYZ Corp. sells 80,000 units of part X to the outside market.

Part X sells for $40, has a variable cost of $22, and a fixed cost
per unit of $10. Alcatraz has a capacity to produce 100,000 units per period. Capone Division currently purchases 10,000 units of part
X from Alcatraz for $40. Capone has been approached by an outside supplier willing to supply the parts for $36. What is the effect on
XYZ's overall profit if Alcatraz ACCEPTS the outside price and Capone continues to buy inside?
a. no change
b. $140,000 decrease in XYZ profits
c. $80,000 decrease in XYZ profits
d. $40,000 increase in XYZ profits

c 46. If the investment turnover decreased by 20% and ROS decreased by 30%, the ROI would
a. increase by 30%.
b. decrease by 20%.
c. decrease by 44%.
d. none of the above.

c 47. If the investment turnover increased by 10% and ROS increased by 20%, the ROI would
a. increase by 10%.
b. increase by 20%.
c. increase by 30%.
d. increase by 32%.

b 48. Durand Division has the following results for the year:

Revenues $470,000
Net income 130,000

Total divisional assets are $625,000. The company's minimum required rate of return is 12 percent. Residual income for Durand is
a. $3,760.
b. $55,000.
c. $73,600.
d. cannot be determined without further information.

c 49. Durand Division has the following results for the year:

Revenues $470,000
Net income 130,000

Total divisional assets are $625,000. The company's minimum required rate of return is 12 percent. Return on investment for Durand
is
a. 9.0%.
b. 18.3%.
c. 20.8%.
d. 27.7%.

d 50. Durand Division has the following results for the year:

Revenues $470,000
Net income 130,000

Total divisional assets are $625,000. The company's minimum required rate of return is 12 percent. Return on sales for Durand is
a. 9.0%.
b. 18.3%.
c. 20.8%.
d. 27.7%.

True-False

F 1. Multinational companies cannot use transfer prices.

T 2. Long-term debt is seldom considered in determining divisional ROI.

F 3. The measure most commonly used for evaluating divisional performance is investment turnover.

T 4. Allocating all common assets, liabilities, and costs to divisions does not affect the ROI of the company as a whole.

T 5. Using residual income as a criterion for evaluating divisional performance requires that the company establish a minimum desired rate of
return on investment.

F 6. Return on investment is the product of return on sales and inventory turnover.

F 7. Return on investment for a multidivision company will be lower than the ROI for the division with the lowest ROI.

T 8. Transfer prices equal to market prices are least appropriate when the selling division has excess productive capacity.

F 9. Multinational companies must use transfer prices based on actual costs.

F 10. Return on investment is defined as net income divided by stockholders' equity.

Problems
1. The following information is available about the status and operations of A-Klop Company, which has a minimum required ROI of 15%.
ANSWER EACH ITEM INDEPENDENTLY OF THE OTHERS.
Division Division
A B
---------- ----------
Divisional investment $ 500,000 $1,500,000
Divisional profit $ 150,000 $ 540,000
Divisional sales $1,000,000 $3,600,000

a. Compute ROI for Division A.

b. Compute residual income for Division B.

c. Division A could increase its profit by $40,000 by increasing its investment by $150,000. Compute its total residual income.

d. Division A could increase its return on sales by one percentage point, while keeping the same total sales and investment. Compute its ROI.

e. Division B could reduce its investment so that its asset turnover increased by one time, while holding total sales constant. Compute its ROI.

SOLUTION:

a. ROI for A: 30% ($150,000/$500,000)

b. RI for B: $315,000 [$540,000 - ($1,500,000 x 15%)]

c. RI for A: $92,500 [$150,000 + $40,000 - 15% x ($500,000 + $150,000)]

d. ROI for A: 32% [$150,000/$1,000,000 = 15% ROS + 1% = 16%, turnover = 2 ($1,000,000/$500,000), so 16% x 2 = 32%]

e. ROI for B: 51% [$3,600,000/1,500,000 = 2.4 times + 1 = 3.4 times x ROS of 15% ($540,000/$3,600,000) = 51%]

2. Division A of Getz Company expects the following results. ANSWER EACH QUESTION INDEPENDENTLY.
To Division B To Outsiders
------------- ------------
Sales (40,000 x $10) $400,000
(40,000 x $12) $480,000
Variable costs at $6 240,000 240,000
-------- --------
Contribution margin $160,000 $240,000
Fixed costs, all common, allocated
on the basis of relative units 120,000 120,000
-------- --------
Profit $ 40,000 $120,000
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