CHAPTER 24
PERFORMANCE EVALUATION FOR
DECENTRALIZED OPERATIONS
DISCUSSION QUESTIONS
1. In a centralized operation, all major planning and operating decisions are made by top management.
In a decentralized operation, managers of separate divisions or units are delegated operating
responsibility. The division (unit) managers are responsible for planning and controlling the
operations of their divisions. Divisions are often structured around products, customers, or
regions.
2. The department manager of a profit center has responsibility for and authority over costs and
revenues, while the manager of an investment center has responsibility for and authority over
controlling investments in assets as well as costs and revenues.
3. Payroll: Number of checks issued. Accounts payable: Number of invoices paid. Accounts
receivable: Number of sales invoice payments collected. Database administration: Number of
reports generated.
4. The major shortcoming of using income from operations as a measure of investment center
performance is that it ignores the amount of investment committed to each center. Since
investment center managers also control the amount of assets invested in their centers, they
should be held accountable for the use of invested assets.
5. A division of a decentralized company could be considered the least profitable, even though
it earned the largest amount of income from operations, when its rate of return on investment
is the lowest. In this situation, the division would be considered the least profitable per dollar
invested in the division because it generated less profit out of each dollar of assets invested.
6. By dividing income from operations by the amount of invested assets, each division is placed
on a comparable basis of income from operations per dollar invested.
7. The balanced scorecard attempts to identify the underlying nonfinancial drivers, or causes, of
financial performance related to innovation and learning, customer service, and internal processes.
In this way, the financial performance may be improved. For example, customer satisfaction is
often measured by the number of repeat customers. By increasing the number of repeat customers,
sales and income from operations can be increased.
8. The objective of transfer pricing is to encourage each division manager to work in the best
interests of the company. Thus, transfer prices should encourage managers to transfer goods
between divisions if the overall company income can be increased.
9. When unused capacity exists in the supplying division, the negotiated price approach is
preferred over the market price approach.
10. When using the negotiated price approach to transfer pricing, the transfer price should be less
than the market price but greater than the supplying division’s variable cost per unit.
24-1
© 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
, CHAPTER 24 Performance Evaluation for Decentralized
Operations
PRACTICE EXERCISES
PE 24–1A
$326,000 over budget ($252,000 + $74,000)
PE 24–1B
$250,000 under budget ($198,000 + $52,000)
PE 24–2A
Northeast Division Service Charge for Travel Department:
$195,750 = 1,800 billed reservations × ($435,000 ÷ 4,000 reservations)
Pacific Division Service Charge for Travel Department:
$239,250 = 2,200 billed reservations × ($435,000 ÷ 4,000 reservations)
PE 24–2B
Retail Division Service Charge for Computer Technology Department:
$118,800 = 1,125 billed hours × ($264,000 ÷ 2,500 hours billed)
Commercial Division Service Charge for Computer Technology Department:
$145,200 = 1,375 billed hours × ($264,000 ÷ 2,500 hours billed)
PE 24–3A
Northeast Pacific
Division Division
Sales……………………………………………………… $1,155,000 $1,204,000
Cost of goods sold…………………………………… 590,800 658,000
Gross profit…………………………………………… $ 564,200 $ 546,000
Selling expenses……………………………………… 231,000 252,000
Income from operations before service
department charges………………………………… $ 333,200 $ 294,000
Service department charges………………………… 195,750 239,250
Income from operations……………………………… $ 137,450 $ 54,750
24-2
© 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
, CHAPTER 24 Performance Evaluation for Decentralized
Operations
PE 24–3B
Retail Commercial
Division Division
Sales……………………………………………………… $945,000 $966,000
Cost of goods sold…………………………………… 504,000 559,300
Gross profit…………………………………………… $441,000 $406,700
Selling expenses……………………………………… 156,800 175,000
Income from operations before service
department charges………………………………… $284,200 $231,700
Service department charges………………………… 118,800 145,200
Income from operations……………………………… $165,400 $ 86,500
PE 24–4A
a. Profit Margin = $96,000 ÷ $1,200,000 = 8.0%
b. Investment Turnover = $1,200,000 ÷ $400,000 = 3.0
c. Rate of Return on Investment = 8.0% × 3.0 = 24%
PE 24–4B
a. Profit Margin = $36,000 ÷ $720,000 = 5.0%
b. Investment Turnover = $720,000 ÷ $180,000 = 4.0
c. Rate of Return on Investment = 5.0% × 4.0 = 20%
PE 24–5A
Income from operations…………………………………………………………………… $90,000
Less: Minimum acceptable income from operations as a
percent of assets ($450,000 × 10%)…………………………………………………… 45,000
Residual income…………………………………………………………………………… $45,000
PE 24–5B
Income from operations…………………………………………………………………… $420,000
Less: Minimum acceptable income from operations as a
percent of assets ($910,000 × 8%)……………………………………………………… 72,800
Residual income…………………………………………………………………………… $347,200
24-3
© 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
, CHAPTER 24 Performance Evaluation for Decentralized
Operations
PE 24–6A
Increase in South (Supplying) (Transfer Price – Variable Cost per Unit)
=
Division’s Income from Operations × Units Transferred
Increase in South (Supplying)
= ($52 – $42) × 30,000 units = $300,000
Division’s Income from Operations
Increase in North (Purchasing) (Market Price – Transfer Price)
= × Units Transferred
Division’s Income from Operations
Increase in North (Purchasing)
= ($60 – $52) × 30,000 units = $240,000
Division’s Income from Operations
PE 24–6B
Increase in Pembroke (Supplying) (Transfer Price – Variable Cost per Unit)
= × Units Transferred
Division’s Income from Operations
Increase in Pembroke (Supplying)
= ($82 – $75) × 15,000 units = $105,000
Division’s Income from Operations
Increase in Multinomah (Purchasing) (Market Price – Transfer Price)
= × Units Transferred
Division’s Income from Operations
Increase in Multinomah (Purchasing)
= ($90 – $82) × 15,000 units = $120,000
Division’s Income from Operations
24-4
© 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
PERFORMANCE EVALUATION FOR
DECENTRALIZED OPERATIONS
DISCUSSION QUESTIONS
1. In a centralized operation, all major planning and operating decisions are made by top management.
In a decentralized operation, managers of separate divisions or units are delegated operating
responsibility. The division (unit) managers are responsible for planning and controlling the
operations of their divisions. Divisions are often structured around products, customers, or
regions.
2. The department manager of a profit center has responsibility for and authority over costs and
revenues, while the manager of an investment center has responsibility for and authority over
controlling investments in assets as well as costs and revenues.
3. Payroll: Number of checks issued. Accounts payable: Number of invoices paid. Accounts
receivable: Number of sales invoice payments collected. Database administration: Number of
reports generated.
4. The major shortcoming of using income from operations as a measure of investment center
performance is that it ignores the amount of investment committed to each center. Since
investment center managers also control the amount of assets invested in their centers, they
should be held accountable for the use of invested assets.
5. A division of a decentralized company could be considered the least profitable, even though
it earned the largest amount of income from operations, when its rate of return on investment
is the lowest. In this situation, the division would be considered the least profitable per dollar
invested in the division because it generated less profit out of each dollar of assets invested.
6. By dividing income from operations by the amount of invested assets, each division is placed
on a comparable basis of income from operations per dollar invested.
7. The balanced scorecard attempts to identify the underlying nonfinancial drivers, or causes, of
financial performance related to innovation and learning, customer service, and internal processes.
In this way, the financial performance may be improved. For example, customer satisfaction is
often measured by the number of repeat customers. By increasing the number of repeat customers,
sales and income from operations can be increased.
8. The objective of transfer pricing is to encourage each division manager to work in the best
interests of the company. Thus, transfer prices should encourage managers to transfer goods
between divisions if the overall company income can be increased.
9. When unused capacity exists in the supplying division, the negotiated price approach is
preferred over the market price approach.
10. When using the negotiated price approach to transfer pricing, the transfer price should be less
than the market price but greater than the supplying division’s variable cost per unit.
24-1
© 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
, CHAPTER 24 Performance Evaluation for Decentralized
Operations
PRACTICE EXERCISES
PE 24–1A
$326,000 over budget ($252,000 + $74,000)
PE 24–1B
$250,000 under budget ($198,000 + $52,000)
PE 24–2A
Northeast Division Service Charge for Travel Department:
$195,750 = 1,800 billed reservations × ($435,000 ÷ 4,000 reservations)
Pacific Division Service Charge for Travel Department:
$239,250 = 2,200 billed reservations × ($435,000 ÷ 4,000 reservations)
PE 24–2B
Retail Division Service Charge for Computer Technology Department:
$118,800 = 1,125 billed hours × ($264,000 ÷ 2,500 hours billed)
Commercial Division Service Charge for Computer Technology Department:
$145,200 = 1,375 billed hours × ($264,000 ÷ 2,500 hours billed)
PE 24–3A
Northeast Pacific
Division Division
Sales……………………………………………………… $1,155,000 $1,204,000
Cost of goods sold…………………………………… 590,800 658,000
Gross profit…………………………………………… $ 564,200 $ 546,000
Selling expenses……………………………………… 231,000 252,000
Income from operations before service
department charges………………………………… $ 333,200 $ 294,000
Service department charges………………………… 195,750 239,250
Income from operations……………………………… $ 137,450 $ 54,750
24-2
© 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
, CHAPTER 24 Performance Evaluation for Decentralized
Operations
PE 24–3B
Retail Commercial
Division Division
Sales……………………………………………………… $945,000 $966,000
Cost of goods sold…………………………………… 504,000 559,300
Gross profit…………………………………………… $441,000 $406,700
Selling expenses……………………………………… 156,800 175,000
Income from operations before service
department charges………………………………… $284,200 $231,700
Service department charges………………………… 118,800 145,200
Income from operations……………………………… $165,400 $ 86,500
PE 24–4A
a. Profit Margin = $96,000 ÷ $1,200,000 = 8.0%
b. Investment Turnover = $1,200,000 ÷ $400,000 = 3.0
c. Rate of Return on Investment = 8.0% × 3.0 = 24%
PE 24–4B
a. Profit Margin = $36,000 ÷ $720,000 = 5.0%
b. Investment Turnover = $720,000 ÷ $180,000 = 4.0
c. Rate of Return on Investment = 5.0% × 4.0 = 20%
PE 24–5A
Income from operations…………………………………………………………………… $90,000
Less: Minimum acceptable income from operations as a
percent of assets ($450,000 × 10%)…………………………………………………… 45,000
Residual income…………………………………………………………………………… $45,000
PE 24–5B
Income from operations…………………………………………………………………… $420,000
Less: Minimum acceptable income from operations as a
percent of assets ($910,000 × 8%)……………………………………………………… 72,800
Residual income…………………………………………………………………………… $347,200
24-3
© 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
, CHAPTER 24 Performance Evaluation for Decentralized
Operations
PE 24–6A
Increase in South (Supplying) (Transfer Price – Variable Cost per Unit)
=
Division’s Income from Operations × Units Transferred
Increase in South (Supplying)
= ($52 – $42) × 30,000 units = $300,000
Division’s Income from Operations
Increase in North (Purchasing) (Market Price – Transfer Price)
= × Units Transferred
Division’s Income from Operations
Increase in North (Purchasing)
= ($60 – $52) × 30,000 units = $240,000
Division’s Income from Operations
PE 24–6B
Increase in Pembroke (Supplying) (Transfer Price – Variable Cost per Unit)
= × Units Transferred
Division’s Income from Operations
Increase in Pembroke (Supplying)
= ($82 – $75) × 15,000 units = $105,000
Division’s Income from Operations
Increase in Multinomah (Purchasing) (Market Price – Transfer Price)
= × Units Transferred
Division’s Income from Operations
Increase in Multinomah (Purchasing)
= ($90 – $82) × 15,000 units = $120,000
Division’s Income from Operations
24-4
© 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
