Financial and Managerial Accounting 13th Edition Chapter 12 Solutions

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1. Uploaded By Qasim Mughal http://world-best-free.blogspot.com/ Chapter 12 Segment Reporting, Decentralization, and the Balanced Scorecard Solutions to Questions 12-1 In a decentralized organization, decision-making authority isn't confined to a few top executives, but rather is spread throughout the organization with lower-level managers and other employees empowered to make decisions. 12-2 The benefits of decentralization include: (1) by delegating day-to-day problem solving to lower-level managers, top management can concentrate on bigger issues such as overall strategy; (2) empowering lower-level managers to make decisions puts decision-making authority in the hands of those who tend to have the most detailed and up-to-date information about day-to-day operations; (3) by eliminating layers of decision-making and approvals, organizations can respond more quickly to customers and to changes in the operating environment; (4) granting decision-making authority helps train lower-level managers for higher-level positions; and (5) empowering lower-level managers to make decisions can increase their motivation and job satisfaction. 12-3 The manager of a cost center has control over cost, but not revenue or the use of investment funds. A profit center manager has control over both cost and revenue. An investment center manager has control over cost and revenue and the use of investment funds. 12-4 A segment is any part or activity of an organization about which a manager seeks cost, revenue, or profit data. Examples of segments include departments, operations, sales territories, divisions, and product lines. 12-5 Under the contribution approach, costs are assigned to a segment if and only if the costs are traceable to the segment (i.e., could be avoided if the segment were eliminated). Common costs are not allocated to segments under the contribution approach. 12-6 A traceable cost of a segment is a cost that arises specifically because of the existence of that segment. If the segment were eliminated, the cost would disappear. A common cost, by contrast, is a cost that supports more than one segment, but is not traceable in whole or in part to any one of the segments. If the departments of a company are treated as segments, then examples of the traceable costs of a department would include the salary of the department's supervisor, depreciation of machines used exclusively by the department, and the costs of supplies used by the department. Examples of © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 118 Managerial Accounting, 13th Edition
2. common costs would include the salary of the general counsel of the entire company, the lease cost of the headquarters building, corporate image advertising, and periodic depreciation of machines shared by several departments. 12-7 The contribution margin is the difference between sales revenue and variable expenses. The segment margin is the amount remaining after deducting traceable fixed expenses from the contribution margin. The contribution margin is useful as a planning tool for many decisions, particularly those in which fixed costs don't change. The segment margin is useful in assessing the overall profitability of a segment. 12-8 If common costs were allocated to segments, then the costs of segments would be overstated and their margins would be understated. As a consequence, some segments may appear to be unprofitable and managers may be tempted to eliminate them. If a segment were eliminated because of the existence of arbitrarily allocated common costs, the overall profit of the company would decline and the common cost that had been allocated to the segment would be reallocated to the remaining segments—making them appear less profitable. 12-9 There are often limits to how far down an organization a cost can be traced. Therefore, costs that are traceable to a segment may become common as that segment is divided into smaller segment units. For example, the costs of national TV and print advertising might be traceable to a specific product line, but be a common cost of the geographic sales territories in which that product line is sold. 12-10 Margin refers to the ratio of net operating income to total sales. Turnover refers to the ratio of total sales to average operating assets. The product of the two numbers is the ROI. 12-11 Residual income is the net operating income an investment center earns above the company's minimum required rate of return on operating assets. 12-12 If ROI is used to evaluate performance, a manager of an investment center may reject a profitable investment opportunity whose rate of return exceeds the company's required rate of return but whose rate of return is less than the investment center's current ROI. The residual income approach overcomes this problem because any project whose rate of return exceeds the company's minimum required rate of return will result in an increase in residual income. 12-13 A company's balanced scorecard should be derived from and support its strategy. Because different companies have different strategies, their balanced scorecards should be different. 12-14 The balanced scorecard is constructed to support the company's strategy, which is a theory about what actions will further the company's goals. Assuming that the company has financial goals, measures of financial performance must be included in the balanced scorecard as a check on the reality of the theory. If the internal business processes improve, but the financial outcomes do not improve, the theory may be flawed and the strategy should be changed. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 119 Managerial Accounting, 13th Edition
3. Exercise 12-1 (15 minutes) Total Weedban Greengrow Sales*..................................... $300,000 $90,000 $210,000 Variable expenses**................ 183,000 36,000 147,000 Contribution margin................. 117,000 54,000 63,000 Traceable fixed expenses....... 66,000 45,000 21,000 Product line segment margin. . 51,000 $ 9,000 $ 42,000 Common fixed expenses not traceable to products............ 33,000 Net operating income.............. $ 18,000 * Weedban: 15,000 units × $6.00 per unit = $90,000. Greengrow: 28,000 units × $7.50 per unit = $210,000. ** Weedban: 15,000 units × $2.40 per unit = $36,000. Greengrow: 28,000 units × $5.25 per unit = $147,000. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 120
4. Exercise 12-2 (10 minutes) 1. Net operating income Margin = Sales $600,000 = = 8% $7,500,000 2. Sales Turnover = Average operating assets $7,500,000 = = 1.5 $5,000,000 3. ROI = Margin × Turnover = 8% × 1.5 = 12% © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 121 Managerial Accounting, 13th Edition
5. Exercise 12-3 (10 minutes) Average operating assets....................... £2,800,000 Net operating income.............................. £ 600,000 Minimum required return: 18% × £2,800,000................................ 504,000 Residual income...................................... £ 96,000 © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 122
6. Exercise 12-4 (45 minutes) 1. MPC's previous manufacturing strategy was focused on high-volume production of a limited range of paper grades. The goal of this strategy was to keep the machines running constantly to maximize the number of tons produced. Changeovers were avoided because they lowered equipment utilization. Maximizing tons produced and minimizing changeovers helped spread the high fixed costs of paper manufacturing across more units of output. The new manufacturing strategy is focused on low-volume production of a wide range of products. The goals of this strategy are to increase the number of paper grades manufactured, decrease changeover times, and increase yields across non-standard grades. While MPC realizes that its new strategy will decrease its equipment utilization, it will still strive to optimize the utilization of its high fixed cost resources within the confines of flexible production. In an economist's terms the old strategy focused on economies of scale while the new strategy focuses on economies of scope. 2. Employees focus on improving those measures that are used to evaluate their performance. Therefore, strategically-aligned performance measures will channel employee effort towards improving those aspects of performance that are most important to obtaining strategic objectives. If a company changes its strategy but continues to evaluate employee performance using measures that do not support the new strategy, it will be motivating its employees to make decisions that promote the old strategy, not the new strategy. And if employees make decisions that promote the new strategy, their performance measures will suffer. Some performance measures that would be appropriate for MPC's old strategy include: equipment utilization percentage, number of tons of paper produced, and cost per ton produced. These performance measures would not support MPC's new strategy because they would discourage increasing the range of paper grades produced, increasing the number of changeovers performed, and decreasing the batch size produced per run. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 123 Managerial Accounting, 13th Edition
7. Exercise 12-4 (continued) 3. Students' answers may differ in some details from this solution. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 124 Sales Contribution margin per ton Financial Time to fill an order Customer satisfaction with breadth of product offerings Number of new customers acquired Customer Average change- over time Number of different paper grades produced Average manufacturing yield Internal Business Process Number of employees trained to support the flexibility strategy Learning and Growth + – + + – + + + +
8. Exercise 12-4 (continued) 4. The hypotheses underlying the balanced scorecard are indicated by the arrows in the diagram. Reading from the bottom of the balanced scorecard, the hypotheses are: ° If the number of employees trained to support the flexibility strategy increases, then the average changeover time will decrease and the number of different paper grades produced and the average manufacturing yield will increase. ° If the average changeover time decreases, then the time to fill an order will decrease. ° If the number of different paper grades produced increases, then the customer satisfaction with breadth of product offerings will increase. ° If the average manufacturing yield increases, then the contribution margin per ton will increase. ° If the time to fill an order decreases, then the number of new customers acquired, sales, and the contribution margin per ton will increase. ° If the customer satisfaction with breadth of product offerings increases, then the number of new customers acquired, sales, and the contribution margin per ton will increase. ° If the number of new customers acquired increases, then sales will increase. Each of these hypotheses can be questioned. For example, the time to fill an order is a function of additional factors above and beyond changeover times. Thus, MPC's average changeover time could decrease while its time to fill an order increases if, for example, the shipping department proves to be incapable of efficiently handling greater product diversity, smaller batch sizes, and more frequent shipments. The fact that each of the hypotheses mentioned above can be questioned does not invalidate the balanced scorecard. If the scorecard is used correctly, management will be able to identify which, if any, of the hypotheses are invalid and modify the balanced scorecard accordingly. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 125 Managerial Accounting, 13th Edition
9. Exercise 12-5 (20 minutes) 1. ROI computations: ROI = Margin × Turnover Net operating income Sales = × Sales Average operating assets Osaka Division: ¥210,000 ¥3,000,000 ROI = × ¥3,000,000 ¥1,000,000 = 7% × 3 = 21% Yokohama Division: ¥720,000 ¥9,000,000 ROI = × ¥9,000,000 ¥4,000,000 = 8% × 2.25 = 18% 2. Osaka Yokohama Average operating assets (a)....................... ¥1,000,000 ¥4,000,000 Net operating income................................... ¥ 210,000 ¥ 720,000 Minimum required return on average operating assets: 15% × (a)...................... 150,000 600,000 Residual income.......................................... ¥ 60,000 ¥ 120,000 3. No, the Yokohama Division is simply larger than the Osaka Division and for this reason one would expect that it would have a greater amount of residual income. Residual income can't be used to compare the performance of divisions of different sizes. Larger divisions will almost always look better. In fact, in the case above, the Yokohama Division does not appear to be as well managed as the Osaka Division. Note from Part (1) that Yokohama has only an 18% ROI as compared to 21% for Osaka. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 126
10. Exercise 12-6 (15 minutes) 1. ROI computations: ROI = Margin × Turnover Net operating income Sales = × Sales Average operating assets Queensland Division: $360,000 $4,000,000 ROI = × $4,000,000 $2,000,000 = 9% × 2 = 18% New South Wales Division: $420,000 $7,000,000 ROI = × $7,000,000 $2,000,000 = 6% × 3.5 = 21% 2. The manager of the New South Wales Division seems to be doing the better job. Although her margin is three percentage points lower than the margin of the Queensland Division, her turnover is higher (a turnover of 3.5, as compared to a turnover of two for the Queensland Division). The greater turnover more than offsets the lower margin, resulting in a 21% ROI, as compared to an 18% ROI for the other division. Notice that if you look at margin alone, then the Queensland Division appears to be the stronger division. This fact underscores the importance of looking at turnover as well as at margin in evaluating performance in an investment center. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 127 Managerial Accounting, 13th Edition
11. Exercise 12-7 (15 minutes) Division Alpha Bravo Charlie Sales.................................... $4,000,000 $11,500,000 * $3,000,000 Net operating income........... $160,000 $920,000 * $210,000 * Average operating assets.... $800,000 * $4,600,000 $1,500,000 Margin.................................. 4%* 8% 7%* Turnover............................... 5* 2.5 2 Return on investment (ROI). 20% 20%* 14%* Note that Divisions Alpha and Bravo apparently have different strategies to obtain the same 20% return. Division Alpha has a low margin and a high turnover, whereas Division Bravo has just the opposite. *Given. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 128
12. Exercise 12-8 (30 minutes) 1. ROI computations: ROI = Margin × Turnover Net operating income Sales = × Sales Average operating assets Division A: $600,000 $12,000,000 ROI = × $12,000,000 $3,000,000 = 5% × 4 = 20% Division B: $560,000 $14,000,000 ROI = × $14,000,000 $7,000,000 = 4% × 2 = 8% Division C: $800,000 $25,000,000 ROI = × $25,000,000 $5,000,000 = 3.2% × 5 = 16% 2. Division A Division B Division C Average operating assets.......... $3,000,000 $7,000,000 $5,000,000 Required rate of return.............. × 14% × 10% × 16% Required operating income....... $ 420,000 $ 700,000 $ 800,000 Actual operating income............ $ 600,000 $ 560,000 $ 800,000 Required operating income (above).................................... 420,000 700,000 800,000 Residual income........................ $ 180,000 $(140,000) $ 0 © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 129 Managerial Accounting, 13th Edition
13. Exercise 12-8 (continued) 3. a. and b. Division A Division B Division C Return on investment (ROI)........... 20% 8% 16% Therefore, if the division is presented with an investment opportunity yielding 15%, it probably would............................ Reject Accept Reject Minimum required return for computing residual income......... 14% 10% 16% Therefore, if the division is presented with an investment opportunity yielding 15%, it probably would............................ Accept Accept Reject If performance is being measured by ROI, both Division A and Division C probably would reject the 15% investment opportunity. These divisions' ROIs currently exceed 15%; accepting a new investment with a 15% rate of return would reduce their overall ROIs. Division B probably would accept the 15% investment opportunity because accepting it would increase the division's overall rate of return. If performance is measured by residual income, both Division A and Division B probably would accept the 15% investment opportunity. The 15% rate of return promised by the new investment is greater than their required rates of return of 14% and 10%, respectively, and would therefore add to the total amount of their residual income. Division C would reject the opportunity because the 15% return on the new investment is less than its 16% required rate of return. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 130
14. Exercise 12-9 (30 minutes) 1. Net operating income Margin = Sales $70,000 = = 5% $1,400,000 Sales Turnover = Average operating assets $1,400,000 = = 4 $350,000 ROI = Margin × Turnover = 5% × 4 = 20% 2. Net operating income Margin = Sales $70,000 + $18,200 = $1,400,000 + $70,000 $88,200 = = 6% $1,470,000 Sales Turnover = Average operating assets $1,400,000 + $70,000 = $350,000 $1,470,000 = = 4.2 $350,000 ROI = Margin × Turnover = 6% × 4.2 = 25.2% © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 131 Managerial Accounting, 13th Edition
15. Exercise 12-9 (continued) 3. Net operating income Margin = Sales $70,000 + $14,000 = $1,400,000 $84,000 = = 6% $1,400,000 Sales Turnover = Average operating assets $1,400,000 = = 4 $350,000 ROI = Margin × Turnover = 6% × 4 = 24% 4. Net operating income Margin = Sales $70,000 = = 5% $1,400,000 Sales Turnover = Average operating assets $1,400,000 = $350,000 - $70,000 $1,400,000 = = 5 $280,000 ROI = Margin × Turnover = 5% × 5 = 25% © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 132
16. Exercise 12-10 (15 minutes) 1. Net operating income Margin = Sales $150,000 = = 5% $3,000,000 Sales Turnover = Average operating assets $3,000,000 = = 4 $750,000 ROI = Margin × Turnover = 5% × 4 = 20% 2. Net operating income Margin = Sales $150,000(1.00 + 2.00) = $3,000,000(1.00 + 0.50) $450,000 = = 10% $4,500,000 Sales Turnover = Average operating assets $3,000,000(1.00 + 0.50) = $750,000 $4,500,000 = $750,000 = 6 ROI = Margin × Turnover = 10% × 6 = 60% © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 133 Managerial Accounting, 13th Edition
17. Exercise 12-10 (continued) 3. Net operating income Margin = Sales $150,000 + $200,000 = $3,000,000 + $1,000,000 $350,000 = = 8.75% $4,000,000 Sales Turnover = Average operating assets $3,000,000 + $1,000,000 = $750,000 + $250,000 $4,000, = 000 = 4 $1,000,000 ROI = Margin × Turnover = 8.75% × 4 = 35% © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 134
18. Exercise 12-11 (45 minutes) 1. Students' answers may differ in some details from this solution. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 135 Managerial Accounting, 13th Edition Revenue per employee Sales Profit margin Financial Ratio of billable hours to total hours Average number of errors per tax return Average time needed to prepare a return Percentage of job offers accepted Employee morale Amount of compensation paid above industry average Average number of years to be promoted Customer Internal Business Processes Learning And Growth + – + + + – Customer satisfaction with effectiveness Customer satisfaction with efficiency Customer satisfaction with service quality Number of new customers acquired ++ + + + + + –
19. Exercise 12-11 (continued) 2. The hypotheses underlying the balanced scorecard are indicated by the arrows in the diagram. Reading from the bottom of the balanced scorecard, the hypotheses are: ° If the amount of compensation paid above the industry average increases, then the percentage of job offers accepted and the level of employee morale will increase. ° If the average number of years to be promoted decreases, then the percentage of job offers accepted and the level of employee morale will increase. ° If the percentage of job offers accepted increases, then the ratio of billable hours to total hours should increase while the average number of errors per tax return and the average time needed to prepare a return should decrease. ° If employee morale increases, then the ratio of billable hours to total hours should increase while the average number of errors per tax return and the average time needed to prepare a return should decrease. ° If employee morale increases, then the customer satisfaction with service quality should increase. ° If the ratio of billable hours to total hours increases, then the revenue per employee should increase. ° If the average number of errors per tax return decreases, then the customer satisfaction with effectiveness should increase. ° If the average time needed to prepare a return decreases, then the customer satisfaction with efficiency should increase. ° If the customer satisfaction with effectiveness, efficiency and service quality increases, then the number of new customers acquired should increase. ° If the number of new customers acquired increases, then sales should increase. ° If revenue per employee and sales increase, then the profit margin should increase. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 136
20. Exercise 12-11 (continued) Each of these hypotheses can be questioned. For example, Ariel's customers may define effectiveness as minimizing their tax liability which is not necessarily the same as minimizing the number of errors in a tax return. If some of Ariel's customers became aware that Ariel overlooked legal tax minimizing opportunities, it is likely that the "customer satisfaction with effectiveness" measure would decline. This decline would probably puzzle Ariel because, although the firm prepared what it believed to be error-free returns, it overlooked opportunities to minimize customers' taxes. In this example, Ariel's internal business process measure of the average number of errors per tax return does not fully capture the factors that drive the customer satisfaction. The fact that each of the hypotheses mentioned above can be questioned does not invalidate the balanced scorecard. If the scorecard is used correctly, management will be able to identify which, if any, of the hypotheses are invalid and then modify the balanced scorecard accordingly. 3. The performance measure "total dollar amount of tax refunds generated" would motivate Ariel's employees to aggressively search for tax minimization opportunities for its clients. However, employees may be too aggressive and recommend questionable or illegal tax practices to clients. This undesirable behavior could generate unfavorable publicity and lead to major problems for the company as well as its customers. Overall, it would probably be unwise to use this performance measure in Ariel's scorecard. However, if Ariel wanted to create a scorecard measure to capture this aspect of its client service responsibilities, it may make sense to focus the performance measure on its training process. Properly trained employees are more likely to recognize viable tax minimization opportunities. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 137 Managerial Accounting, 13th Edition
21. Exercise 12-11 (continued) 4. Each office's individual performance should be based on the scorecard measures only if the measures are controllable by those employed at the branch offices. In other words, it would not make sense to attempt to hold branch office managers responsible for measures such as the percent of job offers accepted or the amount of compensation paid above industry average. Recruiting and compensation decisions are not typically made at the branch offices. On the other hand, it would make sense to measure the branch offices with respect to internal business process, customer, and financial performance. Gathering this type of data would be useful for evaluating the performance of employees at each office. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 138
22. Exercise 12-12 (15 minutes) Company A B C Sales......................................... $9,000,000 * $7,000,000 * $4,500,000 * Net operating income................ $540,000 $280,000 * $360,000 Average operating assets.......... $3,000,000 * $2,000,000 $1,800,000 * Return on investment (ROI)...... 18%* 14%* 20% Minimum required rate of return: Percentage............................. 16%* 16% 15%* Dollar amount......................... $480,000 $320,000 * $270,000 Residual income........................ $60,000 $(40,000) $90,000 * *Given. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 139 Managerial Accounting, 13th Edition
23. Exercise 12-13 (20 minutes) 1. $75,000 × 40% CM ratio = $30,000 increased contribution margin in Minneapolis. Because the fixed costs in the office and in the company as a whole will not change, the entire $30,000 would result in increased net operating income for the company. It is not correct to multiply the $75,000 increase in sales by Minneapolis' 24% segment margin ratio. This approach assumes that the segment's traceable fixed expenses increase in proportion to sales, but if they did, they would not be fixed. 2. a. The segmented income statement follows: Segments Total Company Chicago Minneapolis Amount % Amount % Amount % Sales........................... $500,000 100.0 $200,000 100 $300,000 100 Variable expenses...... 240,000 48.0 60,000 30 180,000 60 Contribution margin.... 260,000 52.0 140,000 70 120,000 40 Traceable fixed expenses.................. 126,000 25.2 78,000 39 48,000 16 Office segment margin 134,000 26.8 $ 62,000 31 $ 72,000 24 Common fixed expenses not traceable to segments................. 63,000 12.6 Net operating income.. $ 71,000 14.2 b. The segment margin ratio rises and falls as sales rise and fall due to the presence of fixed costs. The fixed costs are spread over a larger base as sales increase. In contrast to the segment ratio, the contribution margin ratio is stable so long as there is no change in either the variable expenses or the selling price per unit of service. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 140
24. Exercise 12-14 (15 minutes) 1. The company should focus its campaign on the Dental market. The computations are: Medical Dental Increased sales............................................... $40,000 $35,000 Market CM ratio............................................... × 36% × 48% Incremental contribution margin...................... $14,400 $16,800 Less cost of the campaign............................... 5,000 5,000 Increased segment margin and net operating income for the company as a whole............. $ 9,400 $11,800 2. The $48,000 in traceable fixed expenses in the previous exercise is now partly traceable and partly common. When we segment Minneapolis by market, only $33,000 remains a traceable fixed expense. This amount represents costs such as advertising and salaries of individuals that arise because of the existence of the Medical and Dental markets. The remaining $15,000 ($48,000 – $33,000) is a common cost when Minneapolis is segmented by market. This amount would include costs such as the salary of the manager of the Minneapolis office that could not be avoided by eliminating either of the two market segments. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 141 Managerial Accounting, 13th Edition
25. Exercise 12-15 (20 minutes) 1. Division Total Company East Central West Sales................................ $1,000,000 $250,000 $400,000 $350,000 Variable expenses............ 390,000 130,000 120,000 140,000 Contribution margin.......... 610,000 120,000 280,000 210,000 Traceable fixed expenses 535,000 160,000 200,000 175,000 Divisional segment margin........................... 75,000 $(40,000) $ 80,000 $ 35,000 Common fixed expenses not traceable to divisions*....................... 90,000 Net operating income (loss)............................. $ (15,000 ) *$625,000 – $535,000 = $90,000. 2. Incremental sales ($350,000 × 20%).......... $70,000 Contribution margin ratio ($210,000 ÷ $350,000)............................ × 60% Incremental contribution margin................. $42,000 Less incremental advertising expense....... 15,000 Incremental net operating income.............. $27,000 Yes, the advertising program should be initiated. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 142
26. Exercise 12-16 (20 minutes) 1. (b) (c) Net Average (a) Operating Operating ROI Sales Income* Assets (b) ÷ (c) $2,500,000 $475,000 $1,000,000 47.5% $2,600,000 $500,000 $1,000,000 50.0% $2,700,000 $525,000 $1,000,000 52.5% $2,800,000 $550,000 $1,000,000 55.0% $2,900,000 $575,000 $1,000,000 57.5% $3,000,000 $600,000 $1,000,000 60.0% *Sales × Contribution Margin Ratio – Fixed Expenses 2. The ROI increases by 2.5% for each $100,000 increase in sales. This happens because each $100,000 increase in sales brings in an additional profit of $25,000. When this additional profit is divided by the average operating assets of $1,000,000, the result is an increase in the company's ROI of 2.5%. Increase in sales....................................................... $100,000 (a) Contribution margin ratio.......................................... 25% (b) Increase in contribution margin and net operating income (a) × (b)..................................................... $25,000 (c) Average operating assets......................................... $1,000,000 (d) Increase in return on investment (c) ÷ (d)................. 2.5% © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 143 Managerial Accounting, 13th Edition
27. Problem 12-17 (30 minutes) 1. Present New Line Total (1) Sales......................... $10,000,000 $2,000,000 $12,000,000 (2) Net operating income $800,000 $160,000 * $960,000 (3) Operating assets....... $4,000,000 $1,000,000 $5,000,000 (4) Margin (2) ÷ (1).......... 8% 8% 8% (5) Turnover (1) ÷ (3)...... 2.5 2.0 2.4 (6) ROI (4) × (5).............. 20.0% 16.0% 19.2% * Sales.............................................................. $2,000,000 Variable expenses (60% × $2,000,000)......... 1,200,000 Contribution margin....................................... 800,000 Fixed expenses.............................................. 640,000 Net operating income..................................... $ 160,000 2. Dell Havasi will be inclined to reject the new product line because accepting it would reduce his division's overall rate of return. 3. The new product line promises an ROI of 16%, whereas the company's overall ROI last year was only 15%. Thus, adding the new line would increase the company's overall ROI. 4. a. Present New Line Total Operating assets..................... $4,000,000 $1,000,000 $5,000,000 Minimum return required......... × 12% × 12% × 12% Minimum net operating income.................................. $ 480,000 $ 120,000 $ 600,000 Actual net operating income.... $ 800,000 $ 160,000 $ 960,000 Minimum net operating income (above)..................... 480,000 120,000 600,000 Residual income...................... $ 320,000 $ 40,000 $ 360,000 b. Under the residual income approach, Dell Havasi would be inclined to accept the new product line because adding the product line would increase the total amount of his division's residual income, as shown above. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 144
28. Problem 12-18 (30 minutes) 1. Breaking the ROI computation into two separate elements helps the manager to see important relationships that might remain hidden. First, the importance of turnover of assets as a key element to overall profitability is emphasized. Prior to use of the ROI formula, managers tended to allow operating assets to swell to excessive levels. Second, the importance of sales volume in profit computations is stressed and explicitly recognized. Third, breaking the ROI computation into margin and turnover elements stresses the possibility of trading one off for the other in attempts to improve the overall profit picture. That is, a company may shave its margins slightly hoping for a large enough increase in turnover to increase the overall rate of return. Fourth, ratios make it easier to make comparisons between segments of the organization. 2. Companies in the Same Industry A B C Sales....................................... $600,000 * $500,000 * $2,000,000 Net operating income............. $84,000 * $70,000 * $70,000 Average operating assets....... $300,000 * $1,000,000 $1,000,000 * Margin..................................... 14% 14% 3.5% * Turnover................................. 2.0 0.5 2.0 * Return on investment (ROI).... 28% 7% * 7% *Given. NAA Report No. 35 states (p. 35): "Introducing sales to measure level of operations helps to disclose specific areas for more intensive investigation. Company B does as well as Company A in terms of profit margin, for both companies earn 14% on sales. But Company B has a much lower turnover of capital than does Company A. Whereas a dollar of investment in Company A supports two dollars in sales each period, a dollar investment in Company B supports only fifty cents in sales each period. This suggests that the analyst should look carefully at Company B's investment. Is the company keeping an inventory larger than necessary for its sales volume? Are receivables being collected promptly? Or did Company A acquire its fixed assets at a price level which was much lower than that at which Company B purchased its plant?" © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 145 Managerial Accounting, 13th Edition
29. Problem 12-18 (continued) Thus, by including sales specifically in ROI computations the manager is able to discover possible problems, as well as reasons underlying a strong or a weak performance. Looking at Company A compared to Company C, notice that C's turnover is the same as A's, but C's margin on sales is much lower. Why would C have such a low margin? Is it due to inefficiency, is it due to geographical location (requiring higher salaries or transportation charges), is it due to excessive materials costs, or is it due to other factors? ROI computations raise questions such as these, which form the basis for managerial action. To summarize, in order to bring B's ROI into line with A's, it seems obvious that B's management will have to concentrate its efforts on increasing turnover, either by increasing sales or by reducing assets. It seems unlikely that B can appreciably increase its ROI by improving its margin on sales. On the other hand, C's management should concentrate its efforts on the margin element by trying to pare down its operating expenses. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 146
30. Problem 12-19 (45 minutes) The answers below are not the only possible answers. Ingenious people can figure out many different ways of making performance look better even though it really isn't. This is one of the reasons for a balanced scorecard. By having a number of different measures that ultimately are linked to overall financial goals, "gaming" the system is more difficult. 1. Speed-to-market can be improved by taking on less ambitious projects. Instead of working on major product innovations that require a great deal of time and effort, R&D may choose to work on small, incremental improvements in existing products. There is also a danger that in the rush to push products out the door, the products will be inadequately tested and developed. 2. Performance measures that are ratios or percentages present special dangers. A ratio can be increased either by increasing the numerator or by decreasing the denominator. Usually, the intention is to increase the numerator in the ratio, but a manager may react by decreasing the denominator instead. In this case (which actually happened), the managers pulled telephones out of the high-crime areas. This eliminated the problem for the managers, but was not what the CEO or the city officials had intended. They wanted the phones fixed, not eliminated. 3. In real life, the production manager simply added several weeks to the delivery cycle time. In other words, instead of promising to deliver an order in four weeks, the manager promised to deliver in six weeks. This increase in delivery cycle time did not, of course, please customers and drove some business away, but it dramatically improved the percentage of orders delivered on time. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 147 Managerial Accounting, 13th Edition
31. Problem 12-19 (continued) 4. As stated above, ratios can be improved by changing either the numerator or the denominator. Managers who are under pressure to increase the revenue per employee may find it easier to eliminate employees than to increase revenues. Of course, eliminating employees may reduce total revenues and total profits, but the revenue per employee will increase as long as the percentage decline in revenues is less than the percentage cut in number of employees. Suppose, for example, that a manager is responsible for business units with a total of 1,000 employees, $120 million in revenues, and profits of $2 million. Further suppose that a manager can eliminate one of these business units that has 200 employees, revenues of $10 million, and profits of $1.2 million. Before eliminating the business unit After eliminating the business unit Total revenue................ $120,000,000 $110,000,000 Total employees............ 1,000 800 Revenue per employee. $120,000 $137,500 Total profits................... $2,000,000 $800,000 As these examples illustrate, performance measures should be selected with a great deal of care and managers should avoid placing too much emphasis on any one performance measure. Uploaded By Qasim Mughal http://world-best-free.blogspot.com/ © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 148
32. Problem 12-20 (20 minutes) 1. Operating assets do not include investments in other companies or in undeveloped land. Ending Balances Beginning Balances Cash....................................................... $ 120,000 $ 140,000 Accounts receivable................................ 530,000 450,000 Inventory................................................. 380,000 320,000 Plant and equipment (net)...................... 620,000 680,000 Total operating assets............................. $1,650,000 $1,590,000 $1,650,000 + $1,590,000 Average operating assets = = $1,620,000 2 Net operating income Margin = Sales $405,000 = = 10% $4,050,000 Sales Turnover= Average operating assets $4,050,000 = = 2.5 $1,620,000 ROI = Margin × Turnover = 10% × 2.5 = 25% 2. Net operating income.............................................. $405,000 Minimum required return (15% × $1,620,000)........ 243,000 Residual income..................................................... $162,000 © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 149 Managerial Accounting, 13th Edition
33. Learning and Growth Internal Business Processes Financial Customer Problem 12-22 (45 minutes) 1. Students' answers may differ in some details from this solution. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 150 Weekly profit Weekly sales Number of menu items Dining area cleanliness Percentage of kitchen staff completing cooking course + + + + Customer satisfaction with service Customer satisfaction with menu choices + + Average time to prepare an order Average time to take an order Percentage of dining room staff completing hospitality course + + – –
34. Problem 12-22 (continued) 2. The hypotheses underlying the balanced scorecard are indicated by the arrows in the diagram. Reading from the bottom of the balanced scorecard, the hypotheses are: o If the percentage of dining room staff that complete the basic hospitality course increases, then the average time to take an order will decrease. o If the percentage of dining room staff that complete the basic hospitality course increases, then dining room cleanliness will improve. o If the percentage of kitchen staff that complete the basic cooking course increases, then the average time to prepare an order will decrease. o If the percentage of kitchen staff that complete the basic cooking course increases, then the number of menu items will increase. o If the dining room cleanliness improves, then customer satisfaction with service will increase. o If the average time to take an order decreases, then customer satisfaction with service will increase. o If the average time to prepare an order decreases, then customer satisfaction with service will increase. o If the number of menu items increases, then customer satisfaction with menu choices will increase. o If customer satisfaction with service increases, weekly sales will increase. o If customer satisfaction with menu choices increases, weekly sales will increase. o If sales increase, weekly profits for the Lodge will increase. Each of these hypotheses can be questioned. For example, the items added to the menu may not appeal to customers. So even if the number of menu items increases, customer satisfaction with the menu choices may not increase. The fact that each of the hypotheses can be questioned does not, however, invalidate the balanced scorecard. If the scorecard is used correctly, management will be able to identify which, if any, of the hypotheses are incorrect. [See below.] © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 151 Managerial Accounting, 13th Edition
35. Problem 12-22 (continued) 3. Management will be able to tell if a hypothesis is false if an improvement in a performance measure at the bottom of an arrow does not, in fact, lead to improvement in the performance measure at the tip of the arrow. For example, if the number of menu items is increased, but customer satisfaction with the menu choices does not increase, management will immediately know that something was wrong with that particular hypothesis. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 152
36. Problem 12-23 (60 minutes) 1. Segments defined as product lines: Product Line Glass Division Flat Glass Auto Glass Specialty Glass Sales.................................. R600,000 R200,000 R300,000 R100,000 Variable expenses.............. 300,000 130,000 120,000 50,000 Contribution margin............ 300,000 70,000 180,000 50,000 Traceable fixed expenses: Advertising...................... 120,000 30,000 42,000 48,000 Depreciation.................... 48,000 10,000 24,000 14,000 Administration................. 42,000 14,000 21,000 7,000 Total................................... 210,000 54,000 87,000 69,000 Product line segment margin............................. 90,000 R 16,000 R 93,000 R (19,000) Common fixed expenses not traceable to product lines: Administration................. 60,000 Divisional segment margin. R 30,000 © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 153 Managerial Accounting, 13th Edition
37. Problem 12-23 (continued) 2. Segments defined as markets for Specialty Glass: Sales Market Specialty Glass Domesti c Foreign Sales............................................. R100,000 R60,000 R 40,000 Variable expenses......................... 50,000 30,000 20,000 Contribution margin....................... 50,000 30,000 20,000 Traceable fixed expenses: Advertising.................................. 48,000 18,000 30,000 Market segment margin................ 2,000 R12,000 R(10,000) Common fixed expenses not traceable to sales markets: Depreciation............................... 14,000 Administration............................. 7,000 Total............................................... 21,000 Product line segment margin........ R (19,000) 3. Flat Glass Auto Glass Increased sales........................................... R40,000 R30,000 Contribution margin ratio: Flat glass (R70,000/R200,000)................. × 35% Auto glass (R180,000/R300,000)............. × 60% Incremental contribution margin.................. R14,000 R18,000 Less cost of the promotional campaign....... 8,000 8,000 Increased net operating income.................. R 6,000 R10,000 Based on these data, the campaign should be directed toward Auto Glass. Note that the analysis uses the contribution margin ratio rather than the segment margin ratio. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 154
38. Problem 12-24 (60 minutes) 1. Total Sales Territory Compan y Northern Southern Sales..................................................... $750,000 $300,000 $450,000 Variable expenses................................. 336,000 156,000 180,000 Contribution margin.............................. 414,000 144,000 270,000 Traceable fixed expenses..................... 228,000 120,000 108,000 Sales territory segment margin............. 186,000 $ 24,000 $162,000 Common fixed expenses not traceable to sales territories ($378,000 – $228,000 = $150,000)........................ 150,000 Net operating income............................ $ 36,000 Northern Product Line Territory Paks Tibs Sales................................................... $300,000 $50,000 $250,000 Variable expenses............................... 156,000 11,000 145,000 Contribution margin............................. 144,000 39,000 105,000 Traceable fixed expenses.................... 70,000 30,000 40,000 Product line segment margin............... 74,000 $ 9,000 $ 65,000 Common fixed expenses not traceable to product lines ($120,000 – $70,000 = $50,000)...... 50,000 Sales territory segment margin............ $ 24,000 © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 155 Managerial Accounting, 13th Edition
39. Problem 12-24 (continued) Total Sales Territory Compan y Northern Southern Sales..................................................... 100.0% 100% 100% Variable expenses................................. 44.8% 52% 40% Contribution margin.............................. 55.2% 48% 60% Traceable fixed expenses..................... 30.4% 40% 24% Sales territory segment margin............. 24.8% 8% 36% Common fixed expenses not traceable to sales territories ($378,000 – $228,000 = $150,000)........................ 20.0% Net operating income............................ 4.8% Northern Product Line Territory Paks Tibs Sales................................................... 100.0% 100% 100% Variable expenses............................... 52.0% 22% 58% Contribution margin............................. 48.0% 78% 42% Traceable fixed expenses.................... 23.3% 60% 16% Product line segment margin............... 24.7% 18% 26% Common fixed expenses not traceable to product lines ($120,000 – $70,000 = $50,000)...... 16.7% Sales territory segment margin............ 8.0% © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 156
40. Problem 12-24 (continued) 2. Two insights should be brought to the attention of management. First, compared to the Southern territory, the Northern territory has a low contribution margin ratio. Second, the Northern territory has high traceable fixed expenses. Overall, compared to the Southern territory, the Northern territory is very weak. 3. Again, two insights should be brought to the attention of management. First, the Northern territory has a poor sales mix. Note that the territory sells very little of the Paks product, which has a high contribution margin ratio. This poor sales mix accounts for the low overall contribution margin ratio in the Northern territory mentioned in part (2) above. Second, the traceable fixed expenses of the Paks product seem very high in relation to sales. These high fixed expenses may simply mean that the Paks product is highly leveraged; if so, then an increase in sales of this product line would greatly enhance profits in the Northern territory and in the company as a whole. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 157 Managerial Accounting, 13th Edition
41. Problem 12-25 (60 minutes) 1. Total Compan y Cook- book Travel Guide Handy Speller Sales....................................... $300,000 $90,000 $150,000 $60,000 Variable expenses: Printing cost.......................... 102,000 27,000 63,000 12,000 Sales commissions............... 30,000 9,000 15,000 6,000 Total variable expenses........... 132,000 36,000 78,000 18,000 Contribution margin................. 168,000 54,000 72,000 42,000 Traceable fixed expenses: Advertising............................ 36,000 13,500 19,500 3,000 Salaries................................. 33,000 18,000 9,000 6,000 Equipment depreciation* 9,000 2,700 4,500 1,800 Warehouse rent**................. 12,000 1,800 6,000 4,200 Total traceable fixed expenses 90,000 36,000 39,000 15,000 Product line segment margin... 78,000 $18,000 $ 33,000 $27,000 Common fixed expenses: General sales....................... 18,000 General administration......... 42,000 Depreciation—office facilities.............................. 3,000 Total common fixed expenses. 63,000 Net operating income.............. $ 15,000 * $9,000 × 30%, 50%, and 20%, respectively. ** $48,000 square feet × $3 per square foot = $144,000; $144,000 ÷ 12 months = $12,000 per month. $12,000 ÷ 48,000 square feet = $0.25 per square foot per month. $0.25 per square foot × 7,200 square feet = $1,800; $0.25 per square foot × 24,000 square feet = $6,000; and $0.25 per square foot × 16,800 square feet = $4,200. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 158
42. Problem 12-25 (continued) 2. a. No, the cookbook line should not be eliminated. The cookbook is covering all of its own costs and is generating an $18,000 segment margin toward covering the company's common costs and toward profits. (Note: Problems relating to the elimination of a product line are covered in more depth in the next chapter.) b. Cook- book Travel Guide Handy Speller Contribution margin (a).................. $54,000 $72,000 $42,000 Sales (b)......................................... $90,000 $150,000 $60,000 Contribution margin ratio (a) ÷ (b).. 60% 48% 70% It is probably unwise to focus all available resources on promoting the travel guide. The company is already spending more on the promotion of this product than on the other two products combined. Furthermore, the travel guide has the lowest contribution margin ratio of the three products. Therefore, a dollar of sales of the travel guide generates less profit than a dollar of sales of either of the two other products. Nevertheless, we cannot say for sure which product should be emphasized in this situation without more information. The problem states that there is ample demand for all three products, which suggests that there is no idle capacity. If the equipment is being fully utilized, increasing the production of any one product would require cutting back production of the other products. In the next chapter we will discuss how to choose the most profitable product when a production constraint forces such a trade-off among products. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 159 Managerial Accounting, 13th Edition
43. Problem 12-26 (90 minutes) 1. Both companies view training as important; both companies need to leverage technology to succeed in the marketplace; and both companies are concerned with minimizing defects. There are numerous differences between the two companies. For example, Applied Pharmaceuticals is a product-focused company and Destination Resorts International (DRI) is a service-focused company. Applied Pharmaceuticals' training resources are focused on their engineers because they hold the key to the success of the organization. DRI's training resources are focused on their front-line employees because they hold the key to the success of their organization. Applied Pharmaceuticals' technology investments are focused on supporting the innovation that is inherent in the product development side of the business. DRI's technology investments are focused on supporting the day-to-day execution that is inherent in the customer interface side of the business. Applied Pharmaceuticals defines a defect from an internal manufacturing standpoint, while DRI defines a defect from an external customer interaction standpoint. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 160
44. Problem 12-26 (continued) 2. Students' answers may differ in some details from this solution. Applied Pharmaceuticals © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 161 Managerial Accounting, 13th Edition Return on Stockholders' Equity Financial Customer perception of first-to-market capability Customer perception of product quality Customer R&D Yield Defect rates Internal Business Process Dollars invested in engineering technology Percentage of job offers accepted Dollars invested in engineering training per engineer Learning and Growth + + + + – + + +
45. Problem 12-26 (continued) Destination Resorts International © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 162 Sales Financial Number of repeat customers Customer Percentage of error-free repeat customer check-ins Average time to resolve customer complaint Room cleanliness Internal Business Process Number of employees receiving database training Employee turnover Survey of employee morale Learning and Growth – + + + + – + +
46. Problem 12-26 (continued) 3. The hypotheses underlying the balanced scorecards are indicated by the arrows in each diagram. Reading from the bottom of each balanced scorecard, the hypotheses are: Applied Pharmaceuticals o If the dollars invested in engineering technology increase, then the R&D yield will increase. o If the percentage of job offers accepted increases, then the R&D yield will increase. o If the dollars invested in engineering training per engineer increase, then the R&D yield will increase. o If the R&D yield increases, then customer perception of first-to- market capability will increase. o If the defects per million opportunities decrease, then the customer perception of product quality will increase. o If the customer perception of first-to-market capability increases, then the return on stockholders' equity will increase. o If the customer perception of product quality increases, then the return on stockholders' equity will increase. Destination Resort International o If the employee turnover decreases, then the percentage of error- free repeat customer check-ins and room cleanliness will increase and the average time to resolve customer complaints will decrease. o If the number of employees receiving database training increases, then the percentage of error-free repeat customer check-ins will increase. o If employee morale increases, then the percentage of error-free repeat customer check-ins and room cleanliness will increase and the average time to resolve customer complaints will decrease. o If the percentage of error-free repeat customer check-ins increases, then the number of repeat customers will increase. o If the room cleanliness increases, then the number of repeat customers will increase. o If the average time to resolve customer complaints decreases, then the number of repeat customers will increase. o If the number of repeat customers increases, then sales will increase. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 163 Managerial Accounting, 13th Edition
47. Problem 12-26 (continued) Each of these hypotheses is questionable to some degree. For example, in the case of Applied Pharmaceuticals, R&D yield is not the sole driver of the customers' perception of first-to-market capability. More specifically, if Applied Pharmaceuticals experimented with nine possible drug compounds in year one and three of those compounds proved to be successful in the marketplace it would result in an R&D yield of 33%. If in year two, it experimented with four possible drug compounds and two of those compounds proved to be successful in the marketplace it would result in an R&D yield of 50%. While the R&D yield has increased from year one to year two, it is quite possible that the customer's perception of first-to-market capability would decrease. The fact that each of the hypotheses mentioned above can be questioned does not invalidate the balanced scorecard. If the scorecard is used correctly, management will be able to identify which, if any, of the hypotheses are invalid and the balanced scorecard can then be appropriately modified. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 164
48. Problem 12-27 (60 minutes) 1. The disadvantages or weaknesses of the company's version of a segmented income statement are as follows: a. The company should include a column showing the combined results of the three regions taken together. b. The regional expenses should be segregated into variable and fixed categories to permit the computation of both a contribution margin and a regional segment margin. c. The corporate expenses are probably common to the regions and should not be arbitrarily allocated. 2. Corporate advertising expenses have been allocated on the basis of sales dollars; the general administrative expenses have been allocated evenly among the three regions. Such allocations can be misleading to management because they seem to imply that these expenses are caused by the segments to which they have been allocated. The segment margin—which only includes costs that are actually caused by the segments—should be used to measure the performance of a segment. The "net operating income" or "net loss" after allocating common expenses should not be used to judge the performance of a segment. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 165 Managerial Accounting, 13th Edition
49. Problem 12-27 (continued) 3. Total West Central East Sales...................................... $2,000,000 $450,000 $800,000 $750,000 Variable expenses: Cost of goods sold............... 819,400 162,900 280,000 376,500 Shipping expense................ 77,600 17,100 32,000 28,500 Total variable expenses.......... 897,000 180,000 312,000 405,000 Contribution margin................ 1,103,000 270,000 488,000 345,000 Traceable fixed expenses: Advertising.......................... 518,000 108,000 200,000 210,000 Salaries............................... 313,000 90,000 88,000 135,000 Utilities................................. 40,500 13,500 12,000 15,000 Depreciation........................ 85,000 27,000 28,000 30,000 Total traceable fixed expenses............................. 956,500 238,500 328,000 390,000 Regional segment margin...... 146,500 $31,500 $160,000 $(45,000) Common fixed expenses not traceable to the regions: Advertising (general) 80,000 General administrative expenses.......................... 150,000 Total common fixed expenses 230,000 Net loss.................................. $ (83,500) © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 166
50. Problem 12-27 (continued) Total West Central East Sales....................................... 100.0% 100.0% 100.0% 100.0% Variable expenses: Cost of goods sold............... 41.0% 36.2% 35.0% 50.2% Shipping expense................. 3.9% 3.8% 4.0% 3.8% Total variable expenses.......... 44.9% 40.0% 39.0% 54.0% Contribution margin................. 55.1% 60.0% 61.0% 46.0% Traceable fixed expenses: Advertising........................... 25.9% 24.0% 25.0% 28.0% Salaries................................ 15.6% 20.0% 11.0% 18.0% Utilities.................................. 2.0% 3.0% 1.5% 2.0% Depreciation......................... 4.3% 6.0% 3.5% 4.0% Total traceable fixed expenses 47.8% 53.0% 41.0% 52.0% Regional segment margin....... 7.3% 7.0% 20.0% (6.0%) Common fixed expenses not traceable to the regions: Advertising (general) 4.0% General administrative expenses........................... 7.5% Total common fixed expenses. 11.5% Net loss................................... (4.2%) Note: Percentage figures may not total down due to rounding. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 167 Managerial Accounting, 13th Edition
51. Problem 12-27 (continued) 4. The following points should be brought to the attention of management: a. Sales in the West are much lower than in the other two regions. This is not due to lack of salespeople—salaries in the West are about the same as in the Central Region, which has the highest sales of the three regions. b. The West is spending about half as much for advertising as the Central Region. Perhaps this is the reason for the West's lower sales. c. The East apparently is selling a large amount of low-margin items. Note that it has a contribution margin ratio of only 46%, compared to 60% or more for the other two regions. d. The East appears to be overstaffed. Its salaries are about 50% greater than in either of the other two regions. e. The East is not covering its own traceable costs. Attention should be given to improving the sales mix and reducing expenses in this region. f. Apparently, the salespeople in all three regions are on a salary basis. Perhaps a change to a commission basis would encourage the sales staff to be more aggressive and improve sales throughout the company. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 168
52. Case 12-28 (90 minutes) 1. See the segmented statement on the second following page. Supporting computations for the statement are given below: Sales: Membership dues (20,000 × $100)............................. $2,000,000 Assigned to Magazine Subscriptions Division (20,000 × $20).......................................................... 400,000 Assigned to Membership Division............................... $1,600,000 Non-member magazine subscriptions (2,500 × $30). . $ 75,000 Reports and texts (28,000 × $25)................................ $ 700,000 Continuing education courses: One-day (2,400 × $75)............................................. $ 180,000 Two-day (1,760 × $125)............................................ 220,000 Total revenue............................................................... $ 400,000 Salary and personnel costs: Salaries Personnel Costs (25% of Salaries) Membership Division..................... $210,000 $ 52,500 Magazine Subscriptions Division... 150,000 37,500 Books and Reports Division........... 300,000 75,000 Continuing Education Division....... 180,000 45,000 Total assigned to divisions............. 840,000 210,000 Corporate staff............................... 80,000 20,000 Total............................................... $920,000 $230,000 © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 169 Managerial Accounting, 13th Edition
53. Case 12-28 (continued) Some may argue that, except for the $50,000 in rental cost directly attributed to the Books and Reports Division, occupancy costs are common costs that should not be allocated. The correct treatment of the occupancy costs depends on whether they could be avoided in part by eliminating a division. In the solution below, we have assumed they could be avoided. Occupancy costs ($230,000 allocated + $50,000 direct to the Books and Reports Division = $280,000): Allocated to: Membership Division ($230,000 × 0.2)............................................... $ 46,000 Magazine Subscriptions Division ($230,000 × 0.2)............................................... 46,000 Books and Reports Division ($230,000 × 0.3 + $50,000).............................. 119,000 Continuing Education Division ($230,000 × 0.2)............................................... 46,000 Corporate staff ($230,000 × 0.1)............................................... 23,000 Total occupancy costs......................................... $280,000 Printing and paper costs......................................... $320,000 Assigned to: Magazine Subscriptions Division (22,500 × $7)................................................. $157,500 Books and Reports Division (28,000 × $4)................................................. 112,000 269,500 Remainder—Continuing Education Division..... $ 50,500 Postage and shipping costs................................... $176,000 Assigned to: Magazine Subscriptions Division (22,500 × $4)................................................. $ 90,000 Books and Reports Division (28,000 × $2)................................................. 56,000 146,000 Remainder—corporate staff.............................. $ 30,000 © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 170
54. Case 12-28 (continued) Division Association Total Membership Magazine Subscriptions Books & Reports Continuing Education Sales: Membership dues............................ $2,000,000 $1,600,000 $400,000 Non-member magazine subscriptions................................. 75,000 75,000 Advertising....................................... 100,000 100,000 Reports and texts............................. 700,000 $700,000 Continuing education courses......... 400,000 $400,000 Total revenues................................. 3,275,000 1,600,000 575,000 700,000 400,000 Expenses traceable to segments: Salaries............................................ 840,000 210,000 150,000 300,000 180,000 Personnel costs............................... 210,000 52,500 37,500 75,000 45,000 Occupancy costs............................. 257,000 46,000 46,000 119,000 46,000 Reimbursement of member costs to local chapters................................... 600,000 600,000 Other membership services............. 500,000 500,000 Printing and paper........................... 320,000 157,500 112,000 50,500 Postage and shipping...................... 146,000 90,000 56,000 Instructors' fees................................ 80,000 80,000 Total traceable expenses................. 2,953,000 1,408,500 481,000 662,000 401,500 Division segment margin.................... 322,000 $ 191,500 $ 94,000 $ 38,000 $ (1,500 ) [The statement is continued on the next page.] © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 171 Managerial Accounting, 13th Edition
55. Case 12-28 (continued) [Continuation of the segmented income statement.] Division Association Total Membership Magazine Subscriptions Books & Reports Continuing Education Division segment margin.................... 322,000 $ 191,500 $ 94,000 $ 38,000 $ (1,500 ) Common expenses not traceable to divisions: Salaries—corporate staff................. 80,000 Personnel costs............................... 20,000 Occupancy costs............................. 23,000 Postage and shipping...................... 30,000 General and administrative.............. 38,000 Total common expenses..................... 191,000 Excess of revenues over expenses.... $ 131,000 © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 172
56. Case 12-28 (continued) 2. While we do not favor the allocation of common costs to segments, the most common reason given for this practice is that segment managers need to be aware of the fact that common costs do exist and that they must be covered. Arguments against allocation of all costs: • Allocation bases will need to be chosen arbitrarily because no cause- and-effect relationship exists between common costs and the segments to which they are allocated. • Management may be misled into eliminating a profitable segment that appears to be unprofitable because of allocated common costs. • Segment managers usually have little control over common costs. They should not be held accountable for costs over which they have no control. • Allocations of common costs undermine the credibility of performance reports. Segment managers may resent such allocations and ignore the entire performance report as arbitrary and unfair. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 173 Managerial Accounting, 13th Edition
57. Learning and Growth Internal Business Processes Customer Financial Case 12-29 (60 minutes) 1. Student answers may differ concerning which category—learning and growth, internal business processes, customers, or financial—a particular performance measure belongs to. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 174 Total profit Average age of accounts receivable Written-off accounts receivable as a percentage of sales Customer satisfaction with accuracy of charge account bills Percentage of charge account bills containing errors Unsold inventory at end of season as a percentage of total cost of sales Percentage of suppliers making just-in-time deliveries Percentage of sales clerks trained to correctly enter data on charge account slips + + + + − − − −
58. Case 12-29 (continued) A number of the performance measures suggested by managers have not been included in the above balanced scorecard. The excluded performance measures may have an impact on total profit, but they are not linked in any obvious way with the two key problems that have been identified by management—accounts receivables and unsold inventory. If every performance measure that potentially impacts profit is included in a company's balanced scorecard, it would become unwieldy and focus would be lost. 2. The results of operations can be exploited for information about the company's strategy. Each link in the balanced scorecard should be regarded as a hypothesis of the form "If ..., then ...". For example, the balanced scorecard on the previous page contains the hypothesis "If customers express greater satisfaction with the accuracy of their charge account bills, then the average age of accounts receivable will improve." If customers in fact do express greater satisfaction with the accuracy of their charge account bills, but the average age of accounts receivable does not improve, this would have to be considered evidence that is inconsistent with the hypothesis. Management should try to figure out why the average age of receivables has not improved. (See the answer below for possible explanations.) The answer may suggest a shift in strategy. In general, the most important results are those that provide evidence inconsistent with the hypotheses embedded in the balanced scorecard. Such evidence suggests that the company's strategy needs to be reexamined. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 175 Managerial Accounting, 13th Edition
59. Case 12-29 (continued) 3. a. This evidence is inconsistent with two of the hypotheses underlying the balanced scorecard. The first of these hypotheses is "If customers express greater satisfaction with the accuracy of their charge account bills, then the average age of accounts receivable will improve." The second of these hypotheses is "If customers express greater satisfaction with the accuracy of their charge account bills, then there will be improvement in bad debts." There are a number of possible explanations. Two possibilities are that the company's collection efforts are ineffective and that the company's credit reviews are not working properly. In other words, the problem may not be incorrect charge account bills at all. The problem may be that the procedures for collecting overdue accounts are not working properly. Or, the problem may be that the procedures for reviewing credit card applications let through too many poor credit risks. If so, this would suggest that efforts should be shifted from reducing charge account billing errors to improving the internal business processes dealing with collections and credit screening. And in that case, the balanced scorecard should be modified. b. This evidence is inconsistent with three hypotheses. The first of these is "If the average age of receivables declines, then profits will increase." The second hypothesis is "If the written-off accounts receivable decrease as a percentage of sales, then profits will increase." The third hypothesis is "If unsold inventory at the end of the season as a percentage of cost of sales declines, then profits will increase." Again, there are a number of possible explanations for the lack of results consistent with the hypotheses. Managers may have decreased the average age of receivables by simply writing off old accounts earlier than was done previously. This would actually decrease reported profits in the short term. Bad debts as a percentage of sales could be decreased by drastically cutting back on extensions of credit to customers—perhaps even canceling some charge accounts. (Bad debts would be zero if there were no credit sales.) This would have the effect of reducing bad debts, but might irritate otherwise loyal credit customers and reduce sales and profits. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 176
60. Case 12-29 (continued) The reduction in unsold inventories at the end of the season as a percentage of cost of sales could have occurred for a number of reasons that are not necessarily good for profits. For example, managers may have been too cautious about ordering goods to restock low inventories—creating stockouts and lost sales. Or, managers may have cut prices drastically on excess inventories in order to eliminate them before the end of the season. This may have reduced the willingness of customers to pay the store's normal prices. Or, managers may have gotten rid of excess inventories by selling them to discounters before the end of the season. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 177 Managerial Accounting, 13th Edition
61. Research and Application 12-30 1. FedEx succeeds because of its operational excellence customer value proposition. Page 9 of the 10-K describes the company's largest business segment, FedEx Express, by saying "FedEx Express invented express distribution in 1973 and remains the industry leader, providing rapid, reliable, time-definite delivery of packages, documents and freight to more than 220 countries and territories. FedEx Express offers time- certain delivery within one to three business days, serving markets that generate more than 90% of the world's gross domestic product through door-to-door, customs-cleared service with a money- back guarantee. FedEx Express's unmatched air route authorities and extensive transportation infrastructure, combined with leading-edge information technologies, make it world's largest express transportation company." The combination of global scale coupled with one to three day delivery capability testifies to the company's extraordinary operational excellence. Page 4 of the 10-K describes FedEx's efforts to integrate its business segments so that customers have a single point of contact with the company for all of their air, ground, or freight transportation needs. This is undoubtedly an important aspect of FedEx's strategy. 2. FedEx's four main business segments are, FedEx Express, FedEx Ground, FedEx Freight, and FedEx Kinko's. Examples of traceable fixed costs for the FedEx Express segment include the costs of operating the primary sorting facility in Memphis, Tennessee, the costs of operating regional hubs in Newark, Oakland, and Fort Worth, and the costs of owning 557 airplanes (see page 22 of the 10-K). Examples of traceable fixed costs for the FedEx Ground segment include the costs of owning 19,700 trailers (see page 14 of the 10-K), the costs of operating 515 facilities and 28 hubs throughout the U.S. and Canada (see page 14 of the 10-K), and the compensation paid to the President and Chief Executive Officer of FedEx Ground, Daniel J. Sullivan (see page 29 of the 10-K). © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 178
62. Research and Application 12-30 (continued) Examples of traceable fixed costs for the FedEx Freight segment include the costs of operating 321 service centers, the costs of owning 39,500 vehicles, and the service center manager salaries. Examples of traceable fixed costs for the FedEx Kinko's segment include the utility costs to operate the 1,290 FedEx Kinko's Office and Print Centers, the salaries paid to the Office and Print Center managers, and the rental costs incurred to operate the Office and Print Centers. Examples of common costs include all of the FedEx sponsorships mentioned on page 19 of the 10-K. For example, the cost of hosting college football's FedEx Orange Bowl is common to the four business segments. Other common costs include the salary paid to the company's CEO Frederick W. Smith, and the fee paid to the company's auditor, Ernst & Young. 3. Page 24 of the 10-K lists all of the sorting facilities for the FedEx Express segment. These sorting facilities are examples of cost centers. Each of the retail FedEx Kinko's Office and Print Centers is a profit center. The four main business segments—FedEx Express, FedEx Ground, FedEx Freight, and FedEx Kinko's—are examples of investment centers. 4. The salary paid to Gary M. Kusin, the President and Chief Executive Officer for FedEx Kinko's is traceable to the FedEx Kinko's business segment, but it is common to each of the FedEx Kinko's retail locations. The cost of operating a FedEx Express regional hub in Newark is traceable to that hub, but the costs are common to the flights that arrive and depart from Newark. The cost of maintaining the company's website (www.fedex.com) is traceable to the company's Information Technology Department but it is common to the four business segments. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 179 Managerial Accounting, 13th Edition
63. Research and Application 12-30 (continued) 5. The margin, turnover, and ROI for all four segments are summarized in the below table (dollar figures are in millions): FedEx Express FedEx Groun d FedEx Freight FedEx Kinko's Sales....................................... $19,485 $4,680 $3,217 $2,066 Operating income.................... $1,414 $604 $354 $100 Segment assets: 2005............ $13,130 $2,776 $2,047 $2,987 Segment assets: 2004............ $12,443 $2,248 $1,924 $2,903 Average operating assets [Segment assets: 2005 + Segment assets: 2004]/2...... $12,787 $2,512 $1,986 $2,945 Margin [Operating income ÷ Sales].................................... 7.3% 12.9% 11.0% 4.8% Turnover [Sales ÷ Average operating assets].................. 1.52 1.86 1.62 0.70 ROI [Margin × Turnover]......... 11.1% 24.0% 17.8% 3.4% 6. Assuming a 15% required rate of return, the residual income for all four segments would be computed as follows (dollar figures are in millions): FedEx Express FedEx Groun d FedEx Freight FedEx Kinko's Average operating assets....... $12,78 7 $2,51 2 $1,986 $2,945 Operating income.................... $1,414 $604 $354 $ 100 Minimum required return [15% × Average operating assets]. 1,918 377 298 442 Residual income..................... $ (504) $227 $ 56 $(342) 7. A $20,000,000 investment that increases operating income by $4,000,000 provides an ROI of 20%. Because the FedEx Express segment is currently earning an ROI of 11.1% (as calculated above), its managers would pursue the investment opportunity because it would increase their overall ROI. The FedEx Ground segment is currently earning an ROI of 24% (as calculated above); therefore, its managers would pass on the investment opportunity because it would lower their © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 180
65. Research and Application 12-30 (continued) If the managers are evaluated using residual income, the managers of both segments would pursue the investment opportunity because it would increase their overall residual incomes. Using residual income instead of ROI aligns the incentives of segment managers with the overall goals of the company. The increase in residual income for both segments is shown below (dollar figures are in millions): FedEx Express FedEx Groun d Residual income before investment (from requirement 6).................................................. $(504) $227 Operating income from the investment............... $ 4 $ 4 Required return on investment in operating assets ($20,000,000 × 15% = $3,000,000)...... 3 3 Residual income provided by investment opportunity........................................................ $ 1 $ 1 Residual income after the investment................. $(503) $228 © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 182
66. Research and Application 12-31 1. Nordstrom succeeds first and foremost because of its customer intimacy customer value proposition. The company's Personal Book system is the clearest indication of its customer intimacy value proposition. Page 17 of the annual report says "With Personal Book, our salespeople are able to set and manage their customer follow-ups, organize and track customer preferences and easily reference customer purchases and contact information. The result is that our salespeople are able to tailor our service to the needs of each customer. We are able to stay connected with our customers and invite them back in for the new trends, merchandise, sales and events that interest them." The Personal Book system is the latest innovation from a company that has prospered because of its attentiveness to individual customer needs. Offering fashionable, high-quality merchandise is also important to Nordstrom. However, the company has historically differentiated itself from competitors such as Dillard's, Federated, and Neiman Marcus by hiring top-notch salespeople and motivating them to provide superior individualized customer service. Page 14 of the annual report says "On the selling floor, our goal has been to create an environment that's fair and positive, while at the same time, providing our people with the tools they need to run their own businesses within our four walls. By giving each individual the ability and freedom to excel, we enhance our company's ability to do the same." Providing this extraordinary level of employee autonomy is another major driving force behind Nordstrom's customer intimacy value proposition. 2. These measures do not comprise a balanced scorecard because all of the measures, except one (inventory turns) are financial measures. The measures shown in the annual report may be satisfactory for external investors who are primarily interested in financial results; however, they would not constitute a balanced scorecard for internal management purposes. First, the scorecard does not include enough measures related to the non-financial leading indicators that drive financial results. In other words, the customer, internal business process, and learning and growth perspectives are largely non-existent in the scorecard included in the annual report. Second, there are no linkages between the measures shown in the scorecard. This is understandable because all of the measures except one are financial measures. Nonetheless, to qualify as a genuine balanced scorecard, the scorecard shown in the © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 183 Managerial Accounting, 13th Edition
68. Research and Application 12-31 (continued) report would need to include measures from various non-financial perspectives (such as the customer, internal business process, and learning and growth perspectives) and those measures would need to be related to one another on a cause-and-effect basis. 3. Students will probably choose their measures from among those shown in the scorecard included in Nordstrom's annual report: (1) sales per square foot; (2) same-store sales percentage change; (3) gross profit as a percentage of sales; (4) SG&A expense as a percentage of sales; (5) earnings before income taxes as a percentage of sales; and (6) cash flow from operations. All of these measures, except SG&A expense as a percentage of sales, should increase over time. The most important part of this question is for students to see that these six measures provide feedback on different facets of financial performance. The "same-store sales percentage change" focuses on revenue management. The "gross profit as a percentage of sales," "SG&A expense as a percentage of sales," and "earnings before income taxes as a percentage of sales" are all margin-oriented measures that incorporate expense management into the evaluative scheme. The "sales per square foot" incorporates constraint management into the scorecard. Finally, "cash flow from operations" looks at cash flow management. 4. The annual report does not explicitly mention customer-focused performance measures. However, it contains numerous statements that refer to performance attributes that would be important to customers. For example, page 14 says "our merchants are doing a better job of reacting quickly to feedback from the sales floor by leveraging our new perpetual inventory system. As a result, we're selling more of the right merchandise in the right store at the right time. This improved merchandise flow brings more fresh and compelling goods to the floor, resulting in fewer markdowns." This quote alludes to two important aspects of the customers' shopping experience. First, the survey-based measure "customer perception of merchandise fashion appeal" assesses if customers perceive Nordstrom's product offerings as fresh and compelling. Second, the survey-based measure "customer perception of merchandise availability" assesses if customers perceive that Nordstrom has the right kind of merchandise available at the right © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 185 Managerial Accounting, 13th Edition
70. Research and Application 12-31 (continued) performance on this measure could be caused by excessive markdowns, which would indicate that Nordstrom does not have enough fresh and compelling merchandise available for sale, or excessive stockouts, which would indicate that Nordstrom is running out of items that customers would like to have purchased. As already mentioned, the annual report also discusses the company's Personal Book system. The purpose of this technology is to enable superior individualized customer service. The survey-based measure "customer perception of tailored service quality" assesses if customers believe that their individual preferences are understood and being met. Finally, page 15 of the annual report says "we've been taking a look at the different ways our customers choose to shop with us, whether by phone, online, or in our stores. We want to create a seamless shopping experience, sending our customers a clear and consistent message with the merchandise we offer, across all channels." The survey-based measure "customer perception of channel integration" assesses if customers perceive a seamless shopping experience. All four of these measures should increase over time. 5. The annual report explicitly mentions one internal business process measure, inventory turns. If Nordstrom is selling "more of the right merchandise in the right store at the right time," then inventory turnover should increase. The annual report does not explicitly mention any other internal process measures; however, it contains statements that point to various internal business process measures. For example, as previously mentioned, the Personal Book is a new tool that Nordstrom implemented to better serve and retain individual customers. For the Personal Book to work optimally, each Nordstrom salesperson should use the technology to help develop long-term relationships with their customers, to generate more follow-up visits from them, and to sell more merchandise to them. The measure "number of follow-up visits from customers" would provide feedback regarding the effectiveness of this technology. This measure should go up over time. The annual report also mentions that Nordstrom is always striving to improve its ability to respond to fashion trends. The measure "order cycle time" could be used to measure the amount of time that elapses from when Nordstrom spots a new trend and places an order with a © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 187 Managerial Accounting, 13th Edition
71. Research and Application 12-31 (continued) supplier for a new SKU (Stock Keeping Unit) to when the merchandise becomes available for sale to end consumers. The same type of time- based measure could be used to assess how efficiently Nordstrom replenishes its existing SKUs. These time-based measures should go down over time. The annual report emphasizes the importance of providing superior customer service. The measure "number of customer complaints" could be used to provide feedback regarding customer dissatisfaction with Nordstrom's sales process. This measure should go down over time. The annual report says that Nordstrom strives to provide its customers with compelling merchandise. If customers return merchandise for a refund, it provides clear evidence that they did not find the merchandise to be very compelling or satisfying. Accordingly, the "dollar value of merchandise returns" is an internal business process measure that should decline over time. 6. The annual report does not explicitly mention any learning and growth measures; however, students can suggest some measures based on an elementary understanding of the business. The salespersons are critically important to Nordstrom because they manage the face-to-face customer interactions. Therefore, it would make sense for students to propose numerous measures related to the salesforce. For example, the measure "percentage of excellent job candidates hired" would assess Nordstrom's ability to hire highly qualified job candidates. The measure "hours of training per employee" would assess Nordstrom's investment in enabling its salesforce to succeed. The qualitative measure "employee morale" would measure how satisfied employees are with their jobs. In a highly autonomous environment such as Nordstrom, intrinsic motivation and high employee morale are critical drivers of success. Finally, the measure "employee retention" would assess how effective Nordstrom is at retaining its employees. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Chapter 12 188
72. Research and Application 12-31 (continued) 7. Here are eight "if-then" hypothesis statements based on the measures mentioned above: • If the level of employee morale increases, then the rate of employee retention should increase. • If the rate of employee retention increases, then the number of follow- up visits from customers should increase. • If the number of follow-up visits from customers increases, then the customer perception of tailored service quality should increase. • If the customer perception of tailored service quality increases, then the same store sales percentage change should increase. • If the order cycle time for new SKUs decreases, then the customer perception of merchandise fashion appeal should increase. • If the customer perception of merchandise fashion appeal increases, then the gross margin as a percentage of sales should increase. • If the inventory turnover increases, then the sales per square foot should increase. • If the customer perception of channel integration increases, then the earnings before income taxes as a percentage of sales should increase. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 189 Managerial Accounting, 13th Edition
73. Appendix 12A Transfer Pricing Exercise 12A-1 (20 minutes) 1. The lowest acceptable transfer price from the perspective of the selling division is given by the following formula: Total contribution margin on lost salesVariable costTransfer price + per unit Number of units transferred ³ There is no idle capacity, so each of the 40,000 units transferred from Division X to Division Y reduces sales to outsiders by one unit. The contribution margin per unit on outside sales is $20 (= $90 – $70). $20 × 40,000 Transfer price ($70 - $3) + 40,000 = $67 + $20 = $87 ³ The buying division, Division Y, can buy a similar unit from an outside supplier for $86. Therefore, Division Y would be unwilling to pay more than $86 per unit. £Transfer price Cost of buying from outside supplier = $86 The requirements of the two divisions are incompatible and no transfer will take place. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Appendix 12A 190
74. Exercise 12A-1 (continued) 2. In this case, Division X has enough idle capacity to satisfy Division Y's demand. Therefore, there are no lost sales and the lowest acceptable price as far as the selling division is concerned is the variable cost of $60 per unit. ³ $0 Transfer price $60 + = $60 40,000 The buying division, Division Y, can buy a similar unit from an outside supplier for $74. Therefore, Division Y would be unwilling to pay more than $74 per unit. £Transfer price Cost of buying from outside supplier = $74 In this case, the requirements of the two divisions are compatible and a transfer hopefully will take place at a transfer price within the range: £ £$60 Transfer price $74 © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 191 Managerial Accounting, 13th Edition
75. Exercise 12A-2 (30 minutes) 1. a. The lowest acceptable transfer price from the perspective of the selling division is given by the following formula: Total contribution margin on lost salesVariable costTransfer price + per unit Number of units transferred ³ Because there is enough idle capacity to fill the entire order from the Hi-Fi Division, no outside sales are lost. And because the variable cost per unit is $42, the lowest acceptable transfer price as far as the selling division is concerned is also $42. $0 Transfer price $42 + = $42 5,000 ³ b. The Hi-Fi division can buy a similar speaker from an outside supplier for $57. Therefore, the Hi-Fi Division would be unwilling to pay more than $57 per speaker. £Transfer price Cost of buying from outside supplier = $57 c. Combining the requirements of both the selling division and the buying division, the acceptable range of transfer prices in this situation is: £ £$42 Transfer price $57 Assuming that the managers understand their own businesses and that they are cooperative, they should be able to agree on a transfer price within this range and the transfer should take place. d. From the standpoint of the entire company, the transfer should take place. The cost of the speakers transferred is only $42 and the company saves the $57 cost of the speakers purchased from the outside supplier. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Appendix 12A 192
76. Exercise 12A-2 (continued) 2. a. Each of the 5,000 units transferred to the Hi-Fi Division must displace a sale to an outsider at a price of $60. Therefore, the selling division would demand a transfer price of at least $60. This can also be computed using the formula for the lowest acceptable transfer price as follows: ( ) ( ) $60 - $42 × 5,000 Transfer price $42 + 5,000 = $42 + $60 - $42 = $60 ³ b. As before, the Hi-Fi Division would be unwilling to pay more than $57 per speaker. c. The requirements of the selling and buying divisions in this instance are incompatible. The selling division must have a price of at least $60 whereas the buying division will not pay more than $57. An agreement to transfer the speakers is extremely unlikely. d. From the standpoint of the entire company, the transfer should not take place. By transferring a speaker internally, the company gives up revenue of $60 and saves $57, for a loss of $3. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 193 Managerial Accounting, 13th Edition
77. Exercise 12A-3 (20 minutes) 1. Division A Division B Total Company Sales............................. $2,500,0001 $1,200,0002 $3,200,0003 Expenses: Added by the division.. 1,800,000 400,000 2,200,000 Transfer price paid...... 500,000 Total expenses............... 1,800,000 900,000 2,200,000 Net operating income.... $ 700,000 $ 300,000 $1,000,000 1 20,000 units × $125 per unit = $2,500,000. 2 4,000 units × $300 per unit = $1,200,000. 3 Division A outside sales (16,000 units × $125 per unit)....................... $2,000,000 Division B outside sales (4,000 units × $300 per unit)......................... 1,200,000 Total outside sales.......................................... $3,200,000 Note that the $500,000 in intracompany sales have been eliminated. 2. Division A should transfer the 1,000 additional circuit boards to Division B. Note that Division B's processing adds $175 to each unit's selling price (B's $300 selling price, less A's $125 selling price = $175 increase), but it adds only $100 in cost. Therefore, each board transferred to Division B ultimately yields $75 more in contribution margin ($175 – $100 = $75) to the company than can be obtained from selling to outside customers. Thus, the company as a whole will be better off if Division A transfers the 1,000 additional boards to Division B. © The McGraw-Hill Companies, Inc., 2010. All rights reserved. Solutions Manual, Appendix 12A 194

Financial and Managerial Accounting 13th Edition Chapter 12 Solutions

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Financial and Managerial Accounting 13th Edition Chapter 12 Solutions

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