CHAPTER 12

FINANCIAL CONTROL

TRUE/FALSE

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

2. Financial measures identify what is wrong, not simply provide a signal that something
needs attention.
a. True
b. False

3. Financial measures can highlight falling sales and profits, but only nonfinancial measures
can identify why this is occurring.
a. True
b. False

4. Properly chosen nonfinancial measures anticipate and help to explain financial results.
a. True
b. False

5. In a centralized organization, front-line employees are trained to respond to changes in the

business environment.
a. True
b. False

6. The amount of decentralization reflects the organization’s trust in its employees.

a. True
b. False

7. When an organization moves to decentralized decision making, control moves from results
control to task control.
a. True
b. False

8. For an organization to be successful, activities within sales, manufacturing, and customer

service need to be coordinated.
a. True
b. False

9. Organizations use nonfinancial control to provide a summary measure of how well their
systems of operations control are working.
a. True
b. False

AKY 4E Test Bank Chapter 12 Page 1 Schoenebeck

10. Properly chosen nonfinancial measures anticipate and explain financial results.
a. True
b. False

11. A cost center should be evaluated solely on its ability to control and reduce costs.
a. True
b. False

12. A major problem faced by profit centers is assigning jointly earned revenues.
a. True
b. False

13. A cost center is like an independent business.

a. True
b. False

14. Performance measures should influence decision-making behavior.

a. True
b. False

15. For the segment manager to be properly evaluated, common costs should be allocated to
the various segments, even if an arbitrary allocation is required.
a. True
b. False

16. Contribution margin is the best measure of the controllable contribution of a profit center
toward organizational profit.
a. True
b. False

17. If a product line were eliminated, forecasted annual corporate profits would decrease by
the amount of that product line’s segment margin.
a. True
b. False

18. In general, managers are motivated to influence generated revenues when those revenues
are included in their performance measures.
a. True
b. False

19. Conventional segment margin income statements clearly capture the interactive effects
among responsibility centers.
a. True
b. False

AKY 4E Test Bank Chapter 12 Page 2 Schoenebeck

20. A major goal of transfer pricing is to motivate the decision maker to act in the
organization’s best interests.
a. True
b. False
21. Transfer prices based on actual costs provide no incentive to the supplying division to
control costs.
a. True
b. False
22. If external markets exist, then cost-based transfer prices are the most appropriate.
a. True
b. False
23. Negotiated transfer prices, and therefore production decisions, may reflect the negotiating
skills of the parties rather than economic considerations.
a. True
b. False
24. Return on investment (ROI) encourages segment managers to accept all capital projects
with returns greater than the company’s cost of capital.
a. True
b. False
25. The most widely accepted definition of productivity is the ratio of output over input.
a. True
b. False
26. Economic value added evaluates income relative to the level of investment required.
a. True
b. False
27. A sole ratio value can be extremely meaningful.
a. True
b. False
28. The net profit margin ratio for Wal-Mart, a discount store, is approximately 3%. This is
low compared to Microsoft’s 20% net profit margin ratio, and therefore, indicates Wal-
Mart is a poor investment.
a. True
b. False
29. In general, a grocery store would be expected to have a greater inventory turnover ratio
than a retailer such as Sears.
a. True
b. False
30. In general, a debt ratio of 90% indicates lower financial risk than a debt ratio of 60%.
a. True
b. False

AKY 4E Test Bank Chapter 12 Page 3 Schoenebeck

MULTIPLE CHOICE

31. Financial control highlights:

a. falling profits
b. poor quality
c. high prices
d. unsatisfactory service

32. 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

33. 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

34. 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 results include aggregate measures.
c. Nonfinancial results may help to identify the causes of financial results.
d. Financial results are lead indicators of future success.

35. In a centralized organization:

a. local-division managers have greater control over their business segments
b. there are few deviations from the standardized way of doing things
c. front-line employees are trained to respond to changes in the business environment
d. decisions are made by the managers most familiar with the problems and
opportunities

36. In a decentralized organization:

a. local-division managers must receive 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 senior executives

37. 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

AKY 4E Test Bank Chapter 12 Page 4 Schoenebeck

38. 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

39. 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

40. According to the text, performance measures for responsibility centers should:
a. be broad enough to motivate desired performance
b. evaluate performance under a manager’s control
c. evaluate performance that a manager can influence
d. All of the above are correct.

41. 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.

42. 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

43. A cost center is a business segment:

a. that usually evaluates employee performance by comparing the work performed to a
standard
b. in which intraperiod cost comparisons can be misleading if the output mix and
product-mix level 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

44. 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

AKY 4E Test Bank Chapter 12 Page 5 Schoenebeck

45. 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

46. 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

47. 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.
48. For a profit center, the __________ is the best measure of the controllable contribution of
the center towards organizational profit and other organizational costs.
a. contribution margin
b. segment margin
c. segment income
d. net income
49. All of the following are true regarding a unit’s segment margin EXCEPT that:
a. it is an estimate of the unit’s short-term effect on organizational income
b. if that unit had been eliminated, corporate profits would have decreased by this
amount
c. it results from netting revenues and costs that are proportional to volume
d. it is the best measure of financial performance for segment management
50. 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.
51. Building depreciation should 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

AKY 4E Test Bank Chapter 12 Page 6 Schoenebeck

THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 52 THROUGH 55.
The management accountant for the Casey & Grant Book Store has prepared the following
segmented income statement for the most current year.
Cookbook Travel Book Classics Total
Sales $60,000 $100,000 $40,000 $200,000
Variable expenses 36,000 65,000 20,000 121,000
Contribution margin 24,000 35,000 20,000 79,000
Other costs 18,000 21,000 8,000 47,000
Segment margin 6,000 14,000 12,000 32,000
Allocated avoidable costs 2,000 1,000 3,000 6,000
Segment income 4,000 13,000 9,000 26,000
Allocated corporate costs 7,000 7,000 7,000 21,000
Corporate profit $(3,000) $ 6,000 $ 2,000 $ 5,000

52. If the cookbook product line 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

53. If the travel book line had been discontinued, the short-term effect on corporate profits
would be a decrease of:
a. $35,000
b. $14,000
c. $13,000
d. $6,000

54. Assume that the classics 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:
a. $20,000
b. $12,000
c. $9,000
d. $2,000

55. Assume an advertising campaign could increase revenues for any of the products by
$15,000. To maximize corporate profits, the __________ product line should receive the
advertising dollars.
a. classics
b. travel book
c. cookbook
d. From the information given, the correct product line cannot be determined.

AKY 4E Test Bank Chapter 12 Page 7 Schoenebeck

56. 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

57. 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
58. 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
59. 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

60. 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

61. 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 parties

AKY 4E Test Bank Chapter 12 Page 8 Schoenebeck

THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 62 THROUGH 65.
The Jordan Company manufacturers only one type of shoe and has two divisions, the Sole
Division and the Assembly Division. The Sole Division manufactures soles and then "sells"
them to the Assembly Division, which completes the shoes and sells them to retailers. The
market price for the Assembly Division to purchase a pair of soles is $20. Fixed costs are per
pair at 100,000 units.

Sole's costs per pair of soles are:

Direct materials $4
Direct labor $3
Variable overhead $2
Division fixed costs $1

Assembly's costs per completed pair of shoes are:

Direct materials $5
Direct labor $1
Variable overhead $1
Division fixed costs $9

62. 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. $14.40
b. $12.60
c. $16.20
d. $28.80

63. 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 $60 per pair to
customers.
Scenario A: Negotiated transfer price of $15 per pair of soles
Scenario B: Market-based transfer price
a. $500,000 more net income under Scenario A
b. $500,000 of net income using Scenario B
c. $100,000 of net income using Scenario A
d. None of the above is correct.

64. 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. $800,000
b. $900,000
c. $1,280,000
d. $1,800,000

AKY 4E Test Bank Chapter 12 Page 9 Schoenebeck

65. If the Assembly Division sells 100,000 pairs of shoes at a price of $60 a pair to customers,
what is the operating income of both divisions together?
a. $4,400,000
b. $3,400,000
c. $3,000,000
d. indeterminable

66. 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 jointly-used assets such as buildings
c. how to determine the value of the assets
d. what method to use to depreciate the assets

67. All of the following equations represent return on investment (ROI) EXCEPT:
a. efficiency x productivity
b. operating income / investment
c. return on sales x inventory turnover
d. (operating income / sales) x (sales / investment)

68. 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

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

a. increasing sales
b. decreasing operating assets
c. decreasing operating income
d. decreasing asset turnover

70. 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

71. Assume an organization’s cost of capital is 10% and Department X currently has a 15%
return on investment (ROI). The manager of Department X, who is evaluated on ROI,
would MOST likely accept an investment that is expected to return:
a. more than 10%
b. more than 15%
c. more than 10% but less than 15%
d. less than 15%

AKY 4E Test Bank Chapter 12 Page 10 Schoenebeck

THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 72 THROUGH 74.
Randall Company makes and distributes outdoor play equipment. Last year sales were
$12,000,000, operating income was $3,000,000, and the assets used were $15,000,000.

72. Return on sales, the efficiency component of return on investment (ROI), is:
a. 20%
b. 80%
c. 25%
d. 125%

73. Asset turnover, the productivity component of return on investment (ROI), is:
a. 20%
b. 80%
c. 25%
d. 125%

74. The return on investment (ROI) is:

a. 20%
b. 80%
c. 25%
d. 125%

75. 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 $50,000 indicates the segment earned $50,000 for the company
c. of $10,000 indicates the segment’s actual earnings exceeded the company’s cost of
capital by $10,000
d. is considered an inferior method of evaluating investment center performance

76. The text discusses how Quaker Oats used 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

77. 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

AKY 4E Test Bank Chapter 12 Page 11 Schoenebeck

78. All of the following are true regarding productivity EXCEPT:
a. that an example of raw material productivity is 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

79. Assume an organization’s cost of capital is 10% and Division X has operating income of
$1.5 million and uses $10 million of capital. The economic value added for Division X is:
a. $100,000
b. $150,000
c. $500,000
d. $850,000

80. All of the following are true regarding common size statements EXCEPT that they:
a. help to identify trends over time
b. allow comparison of financial components of similar organizations
c. express balance sheet amounts as a percent of total assets
d. express income statement amounts as a percent of net income

81. The text showed that Nortel’s sales fell over 40% between 2000 and 2001, but the cost of
sales as a common-size percentage increased dramatically because:
a. revenues were falling at a faster rate than Nortel could shed fixed costs
b. assets acquired were purchased for more than book value
c. intangible assets decreased due to the write-down or write-off of many bad
investments
d. common stockholders’ equity increased to reflect the financing of investments

82. Ratios:
a. need to be compared to other information, such as company ratios from prior years,
to be useful
b. on their own, provide enough information for decision makers to make well-informed
decisions
c. must use amounts from the same financial statement
d. have a set formula so there is consistency in calculations and they can be easily
compared to ratios of competitors

83. Which of the following statements is true regarding profitability ratios?

a. The current ratio measures a company’s ability to meet short-term obligations – a
profitability ratio.
b. A return on assets of 15% indicates that for every dollar invested in assets, the
company is generating 15 cents in net income.
c. If the industry average for the net profit margin ratio were 10%, then a company ratio
of 5% would be considered favorable.
d. A decreasing trend for the return on common equity ratio is considered favorable.

AKY 4E Test Bank Chapter 12 Page 12 Schoenebeck

84. Which of the following statements is true regarding asset use (productivity) ratios?
a. The dividend payout ratio indicates the proportion of net income paid out in
dividends – a productivity ratio.
b. A total asset turnover of 2.0 indicates that for every dollar invested in assets, the
company is generating $2 in net income.
c. If the industry average for the inventory turnover ratio is 4 times, then a company
ratio of 6 times indicates a company is turning over inventory faster than the industry
average. This would be considered favorable.
d. A decreasing trend for accounts receivable turnover indicates receivables are being
collected in fewer days and is considered favorable.

85. Which of the following statements is true regarding liquidity ratios?

a. The debt ratio measures the proportion of assets financed by debt – a liquidity ratio.
b. The current ratio measures the ability to meet all debt obligations – both short term
and long term.
c. A decreasing trend for free cash flow indicates a strong cash position and a better
ability to meet current obligations.
d. The times-interest-earned ratio may not be a good indicator of the organization’s
ability to pay interest since interest is paid with cash and not income.

86. Which of the following statements is true regarding financial leverage ratios?
a. Return on common equity is a solvency ratio.
b. A 1.5 debt-to-equity ratio indicates a greater proportion of company assets are being
financed with equity rather than with debt.
c. If the industry average for the debt ratio is 60%, then a company ratio of 90%
indicates the proportion of total assets financed by debt is greater than average for the
industry.
d. A decreasing trend for the debt-to-equity ratio indicates greater financial risk.

87. Using the information below, return on common equity equals:

BALANCE SHEET December 31, 2005

Accounts payable $20,000
Bonds payable $100,000
Common stock $30,000
Retained earnings $50,000
INCOME STATEMENT 2005
Net income $20,000

a. 10%
b. 25%
c. 11%
d. 67%

AKY 4E Test Bank Chapter 12 Page 13 Schoenebeck

88. Use the information below to select the correct response:

Cash $ 10,000
Accounts receivable $ 15,000
Inventory $ 25,000
Equipment, net $150,000
Accounts payable $ 20,000
Bonds payable $ 80,000
Common stock $ 30,000
Retained earnings $ 70,000

a. The quick ratio equals 0.25.

b. The current ratio equals 0.10.
c. The debt ratio equals 20%.
d. The debt-to-equity ratio equals 100%.

89. Two companies are identical except for the fact that Company D uses the double-
declining-balance method of depreciation and Company S uses the straight-line method of
depreciation. Assume this is the first year of business for both companies. For Company D,
the ratio that will be greater is:
a. the current ratio
b. the net profit margin ratio
c. the total asset turnover ratio
d. the dividend yield ratio

90. Lucy Company and Fred Company are identical except that Lucy Company uses the LIFO
inventory costing method and Fred Company uses the FIFO inventory costing method. In a
period of rising prices, the ratio that will be greater for Lucy Company is:
a. the current ratio
b. the inventory turnover ratio
c. the net profit margin ratio
d. the accounts receivable turnover ratio

91. All of the following are limitations to ratio analysis EXCEPT that:
a. information to calculate the ratios may come from two different financial statements
b. ratios are based on historical results
c. companies choose different accounting methods for depreciation and inventory
costing
d. interpretation may be difficult due to the effect of unknown economic or competitive
forces

AKY 4E Test Bank Chapter 12 Page 14 Schoenebeck

EXERCISE/PROBLEM

92. 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.

(C / D / Both) a. Freedom for managers at lower organizational levels to make

decisions
(C / D / Both) b. Best suited to organizations within stable environments
(C / D / Both) c. Greater responsiveness to user needs
(C / D / Both) d. Use the most efficient technologies
(C / D / Both) e. Maximum constraints and minimum freedom for managers at lowest
levels
(C / D / Both) f. Maximization of benefits over costs
(C / D / Both) g. Minimization of duplicate functions
(C / D / Both) h. Standard operating procedures
(C / D / Both) i. Requires trust in employees at all levels
(C / D / Both) j. Primarily task control rather than results control

93. The management accountant for the Chocolate S’more Company has prepared the
following segmented income statement.
Chocolate Other Candy Fudge Total
Sales $40,000 $25,000 $35,000 $100,000
Variable expenses 26,000 15,000 19,000 60,000
Contribution margin 14,000 10,000 16,000 40,000
Other costs 2,000 3,000 2,000 7,000
Segment margin 12,000 7,000 14,000 33,000
Allocated avoidable costs 3,000 3,000 2,000 8,000
Segment income 9,000 4,000 12,000 25,000
Allocated corporate costs 5,000 5,000 5,000 15,000
Corporate profit $4,000 $(1,000) $7,000 $10,000

Required:
a. Do you recommend dropping the Other Candy product line? Why or why not?
b. If the Chocolate product line had been discontinued, the short-term effect on
corporate profits would be a decrease of what amount?
c. Assume that the Fudge 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?

AKY 4E Test Bank Chapter 12 Page 15 Schoenebeck

94. 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.

(M / C / N / A / All) a. Bargaining between selling and buying units

(M / C / N / A / All) b. Objective and provides the proper economic incentives
(M / C / N / A / All) c. 145% of full costs
(M / C / N / A / All) d. Avoids confrontation and generally used when a transaction
occurs frequently
(M / C / N / A / All) e. Internal product transfers are required
(M / C / N / A / All) f. Prices listed in a trade journal
(M / C / N / A / All) g. Prices do not reflect pure economic considerations nor
accountability considerations
(M / C / N / A / All) h. Goal is to motivate decision makers to act in the organization’s
best interest
(M / C / N / A / All) i. Provide no incentive to the supplying division
(M / C / N / A / All) j. Reflects support of the controllability principle

95. The Crandon Mill 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 boardfeet 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?

AKY 4E Test Bank Chapter 12 Page 16 Schoenebeck

96. Bedtime Bedding 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. The information related to manufacturing for the most
recent year is as follows:

Cover Assembly
Division Division
Manufacturing costs of division $6,000,000 $1,500,000
Sales to external parties $4,000,000 $7,200,000
Market value of covers transferred from
the Cover Division to the Assembly $6,000,000
Division

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.

97. Department income totals $10,000, investment in the department is $100,000, 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 $10,000 investment for a $900 return.
Would the department manager be more likely to accept the project if department
performance was evaluated using ROI or economic value added? Why?

98.
Cash $ 25,000
Accounts receivable $ 15,000
Inventory $ 60,000
Equipment, net $300,000
Accounts payable $ 50,000
Bonds payable $180,000
Common stock $ 40,000
Retained earnings $ 130,000

Required:
Use the information above to calculate the following ratios:
a. the quick ratio;
b. the current ratio;
c. the debt ratio; and
d. the debt-to-equity ratio.

AKY 4E Test Bank Chapter 12 Page 17 Schoenebeck

CRITICAL THINKING/ESSAY

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

100. Discuss at least two inefficiencies of financial control.

101. Describe a profit center. What are some of the problems faced by profit centers?

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

103. Is segment margin an appropriate measure of financial performance for segment

management? Why?

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

105. A division reports a 20% ROI, an 8% return on sales, and a 2.50 asset turnover ratio. How
can the manager of this division determine whether these results are favorable or not?

106 Ratio values standing by themselves have little to no meaning. Describe at least two
different ways to make ratios more useful.

AKY 4E Test Bank Chapter 12 Page 18 Schoenebeck

 CHAPTER 12
FINANCIAL CONTROL

TRUE/FALSE MULTIPLE CHOICE

LO1 1. a LO1 31. a LO5 61. d

LO1 2. b LO1 32. c LO6 62. c
LO1 3. a LO1 33. a LO6 63. d
LO1 4. a LO1 34. d LO6 64. a
LO2 5. b LO2 35. b LO6 65. b

LO2 6. a LO2 36. c LO7 66. d

LO2 7. b LO2 37. a LO7 67. c
LO3 8. a LO2 38. d LO7 68. b
LO3 9. b LO2 39. c LO7 69. b
LO3 10. a LO3 40. d LO7 70. a

LO3 11. b LO3 41. d LO7 71. b

LO3 12. a LO3 42. a LO7 72. c
LO3 13. b LO3 43. a LO7 73. b
LO3 14. a LO3 44. b LO7 74. a
LO4 15. b LO3 45. d LO7 75. c

LO4 16. b LO3 46. c LO7 76. d

LO4 17. a LO4 47. a LO7 77. a
LO4 18. a LO4 48. b LO7 78. b
LO4 19. b LO4 49. c LO7 79. c
LO5 20. a LO4 50. d LO8 80. d

LO5 21. a LO4 51. c LO8 81. a

LO5 22. b LO4 52. c LO8 82. a
LO5 23. a LO4 53. b LO8 83. b
LO7 24. b LO4 54. c LO8 84. c
LO7 25. a LO4 55. a LO8 85. d

LO7 26. a LO4 56. d LO8 86. c

LO8 27. b LO5 57. a LO8 87. b
LO8 28. b LO5 58. c LO8 88. d
LO8 29. a LO5 59. c LO8 89. c
LO8 30. b LO5 60. b LO8 90. b

LO8 91. a

AKY 4E Test Bank Chapter 12 Page 19 Schoenebeck

MULTIPLE CHOICE

56. The Classics product line has a 50% contribution margin, which is greater than the 40%
CM of the Cookbook product line and the 35% CM of the Travel Book product line.
62. $9 x 1.8 = $16.20
63. The net income would be the same under both scenarios.
64. Revenue [($10 x 1.80) x 100,000)] - Costs ($10 x 100,000) = $800,000 Operating income
65. Revenues ($60 x 100,000) - Cost ($26 x 100,000) = $3,400,000 Operating income
72. $3,000,000 / $12,000,000 = 25%
73. $12,000,000 / $15,000,000 = 80%
74. $3,000,000 / $15,000,000 = 20% OR 25% x 80% = 20%
87. $20,000 net income / ($30,000 + $50,000) common equity = 25%
88. Debt to equity ratio = total liabilities ($20,000 + $80,000) / total equity ($30,000 +
$70,000) = 100%. Quick ratio = ($10,000 + $15,000) / current liabilities $20,000 = 1.25.
Current ratio = ($10,000 + $15,000 + $25,000) / current liabilities $20,000 = 2.50. Debt
ratio = total liabilities ($20,000 + $80,000) / total assets $200,000 = 50%.
89. Accumulated depreciation will be greater for Company D, resulting in lower total assets.
Sales divided by a lower total assets results in a greater asset turnover ratio for Company
D. Asset turnover ratio = sales / total assets.
90. Cost of sales is greater when using LIFO and ending inventory is less when using LIFO.
Therefore, cost of sales / inventory will be greater for Lucy Company.

AKY 4E Test Bank Chapter 12 Page 20 Schoenebeck

EXERCISE/PROBLEM

LO2
92. (C / D / Both) a. Freedom for managers at lower organizational levels to make
decisions
(C / D / Both) b. Best suited to organizations within stable environments
(C / D / Both) c. Greater responsiveness to user needs
(C / D / Both) d. Use the most efficient technologies
(C / D / Both) e. Maximum constraints and minimum freedom for managers at lowest
levels
(C / D / Both) f. Maximization of benefits over costs
(C / D / Both) g. Minimization of duplicate functions
(C / D / Both) h. Standard operating procedures
(C / D / Both) i. Requires trust in employees at all levels
(C / D / Both) j. Primarily task control rather than results control

LO4
93. a. No, I would not recommend dropping the Other Candy product line because the
$7,000 segment margin indicates that this product line contributes $7,000 toward
corporate costs and profits.

b. If the Chocolate product line were discontinued, corporate profits would immediately
decrease by $12,000, the amount reported for the segment margin.

c. If the Fudge product line were discontinued and long-term capacity has had time to
adjust, corporate profits would decrease by $12,000, the amount reported for the
segment income.

d. To maximize corporate profits, the Fudge product line should receive the advertising
dollars because it has a contribution margin of approximately 46%, the highest
contribution margin of the three product lines.

e. The current segment margin statement could be made more understandable if the
allocated corporate costs were only listed under the company total column, and they
were not part of the computation for each product line segment. It is obvious that the
corporate costs are arbitrarily allocated equally to each product line and arbitrary
allocations do not aid in decision making.

AKY 4E Test Bank Chapter 12 Page 21 Schoenebeck

LO5
94. (M / C / N / A / All) a. Bargaining between selling and buying units
(M / C / N / A / All) b. Objective and provides the proper economic incentives
(M / C / N / A / All) c. 145% of full costs
(M / C / N / A / All) d. Avoids confrontation and generally used when a transaction
occurs frequently
(M / C / N / A / All) e. Internal product transfers are required
(M / C / N / A / All) f. Prices listed in a trade journal
(M / C / N / A / All) g. Prices do not reflect pure economic considerations nor
accountability considerations
(M / C / N / A / All) h. Goal is to motivate decision makers to act in the organization’s
best interest
(M / C / N / A / All) i. Provides no incentive to the supplying division
(M / C / N / A / All) j. Reflects support of the controllability principle

LO3,6
95. a.
Cutting Assembly
Revenue $660,000* $2,500,000
Cost of services:
Incurred $ 660,000 $ 360,000
Transferred-in 0 660,000
Total $ 660,000 $1,020,000

Operating income $ 0 $1,480,000

* 60,000 cords x $11 = $660,000

b.
Cutting Assembly
Revenue $540,000* $2,500,000
Cost of service
Incurred $ 660,000 $ 360,000
Transferred-in 0 540,000
Total $ 660,000 $ 900,000

Operating income $(120,000) $1,600,000

* 60,000 cords x $9 = $540,000
c. The manager of Cutting cares about the transfer price if the division is a profit center
but not if it is a cost center. Under the circumstances, the division probably should
be a cost center and it should not worry about the profit it pretends to make by selling
to another division.

AKY 4E Test Bank Chapter 12 Page 22 Schoenebeck

LO6
96. a.
Cover Division Assembly Division Company
Revenue:
External $ 4,000,000 $7,200,000 $11,200,000
Internal 6,000,000 0 0
Total $10,000,000 $7,200,000 $11,200,000
Cost of goods:
Incurred $ 6,000,000 $1,500,000 $ 7,500,000
Transferred-in 0 6,000,000 0
Total $ 6,000,000 $7,500,000 $ 7,500,000

Operating income $ 4,000,000 $ (300,000) $ 3,700,000

b. The Assembly manager is probably not happy because the division is showing a loss.
The manager would probably argue for a transfer price at something less than market
price. However, since the market is open and competitive, the market price can be
justified. The division needs to either increase its price or reduce its costs if it expects
to show a profit.

LO7
97. a. ROI is 10% ($10,000 department income / $100,000 investment in the department).

b. Economic value added is $2,000 [$10,000 income - $8,000 ($100,000 x 8%)].

c. By accepting the proposed project, the department’s ROI will be reduced by 0.1% to
9.9%. The department manager being evaluated on ROI will probably reject the
$10,000 investment proposal even though the investment exceeds the company’s 8%
cost of capital. New ROI of 9.9% = $10,900 segment income / $110,000 investment
in the segment.

By accepting the proposed project, the economic value added will be increased to
$2,100, an increase of $100. The department manager being evaluated on economic
value added will probably choose to accept the investment since it increases
economic value added for the department. New economic value added is $2,100
[$10,900 actual income - $8,800 ($110,000 x 8%) cost of capital].

LO8
98. a. Quick ratio = ($25,000 + $15,000) / current liabilities $50,000 = 0.80

b. Current ratio = ($25,000 + $15,000 + $60,000) / current liabilities $50,000 = 2.00.

c. Debt ratio = total liabilities ($50,000 + $180,000) / total assets $400,000 = 57.5%.

d. Debt-to-equity ratio = total liabilities ($50,000 + $180,000) / total equity ($40,000 +

$130,000) = 135.3%.

AKY 4E Test Bank Chapter 12 Page 23 Schoenebeck

CRITICAL THINKING/ESSAY

LO1
99. What is financial control and how does it relate to nonfinancial measures?
Solution: Financial control involves the use of financial measures to assess organization
and management performance.

Financial measures provide a signal that something is wrong, while nonfinancial measures
identify what is wrong. For example, falling sales, a financial measure, indicates that
something is wrong. However, the falling sales may result from poor quality, poor service,
or high prices, which would be identified by the nonfinancial measures of the organization.

LO1
100. Discuss at least two inefficiencies of financial control.
Solution: First, financial control focuses on financial measures that do not measure other
important attributes such as product quality, employee satisfaction, and customer service.
Because these elements and others are important to the organization’s long-term success,
they also should be measured and monitored.

Financial control measures the effect of the overall level of performance and ignores the
performance achieved on a more detailed level. For this reason, financial control does not
suggest how to improve performance, but only serves as a signal of potential problems and
opportunities.

Financial control is oriented to short-term performance and it only considers how well the
organization has performed this quarter or this year. This preoccupation with short-term
success is debilitating because little attention gets focused on long-term improvement.

LO3
101. Describe a profit center. What are some of the problems faced by profit centers?
Solution: Profit centers are responsibility centers in which managers and other employees
control both the revenues and the costs of the product or service provided. A profit center
is like an independent business, except that senior management controls the level of
investment in the responsibility center.

Problems faced by profit centers include deciding how to assign jointly-earned revenues
and jointly-incurred costs, and deciding how to record the interactions such as transfers of
goods and services between the various profit centers within the organization.

AKY 4E Test Bank Chapter 12 Page 24 Schoenebeck

LO4
102. What types of revenues and costs are used to calculate segment margin?
Solution: The revenues used to compute segment margin include those directly traceable to
the segment. Also included is the segment’s allocation of jointly-earned revenues and
revenues earned from other responsibility centers that may be based on transfer prices.
The costs used to compute segment margin include those directly traceable to the segment.
Also included is the segment’s allocation of jointly-incurred costs and costs of items
supplied internally to other responsibility centers that may be based on transfer prices.
Only those costs that are considered under the control of the segment manager should be
included.

LO4
103. Is segment margin an appropriate measure of financial performance for segment
management? Why?
Solution: Yes, it is an appropriate measure because all of the revenues and costs used to
compute segment margin are directly traceable to the segment and are essentially under the
control of the segment manager.

LO5
104. Why are transfer prices used? What is a market-based transfer price?
Solution: Transfer prices are used internally to value goods and services provided
(transferred) by one division to another. A market-based transfer price transfers those
goods from one division to another at their current market value.

LO7
105. A division reports a 20% ROI, an 8% return on sales, and a 2.50 asset turnover ratio. How
can the manager of this division determine whether these results are favorable or not?
Solution: Meaning is added when ratios are compared to past performance and trends are
revealed. Also, ratios can be compared to industry averages and ratios of comparable
organizations. To keep ratios in proper perspective, a background check into a company’s
external environment should include information about general economic conditions,
political events and political climate, and industry outlook. The trends or comparative
differences help to determine if the division is doing well and they also provide signals of
where to look for potential problems and opportunities.

LO8
106. Ratio values standing by themselves have little to no meaning. Describe at least two
different ways to make ratios more useful.
Solution: (1) Meaning is added when ratios are compared to past performance and trends
are revealed. (2) To add meaning, compare ratios to other relevant information such as
industry averages and ratios of peer companies. (3) To keep ratios in proper perspective, a
background check into a company’s external environment should include information
about general economic conditions, political events and political climate, and industry
outlook.

AKY 4E Test Bank Chapter 12 Page 25 Schoenebeck