MyChapter_10 - CHAPTER 10 DECENTRALIZATION: RESPONSIBILITY...

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CHAPTER 10 DECENTRALIZATION: RESPONSIBILITY ACCOUNTING, PERFORMANCE EVALUATION, AND TRANSFER PRICING QUESTIONS FOR WRITING AND DISCUSSION 1. Decentralization is the delegation of decision- making authority to lower levels. In central- ized decision making, decisions are made at the very top level, and lower-level managers are responsible for implementing these de- cisions. For decentralized decision making, decisions are made and implemented by lower-level managers. 2. Reasons for decentralization include the fol- lowing: access to local information, cognitive limitations, more timely response, focusing of central management, exposure of seg- ments to market forces, enhanced competi- tion, training, and motivation. 3. Knowledge of local conditions may be critic- al for decisions; local managers are aware of these conditions, whereas higher-level managers may not be. 4. Margin = Net income/Sales, and Turnover = Sales/Average operating assets. By break- ing ROI into margin and turnover, more in- sight into why ROI may change from one period to the next is possible. 5. Three advantages of ROI include: (1) ROI encourages managers to pay attention to the relationships among sales, expenses, and investment. (2) ROI encourages cost ef- ficiency. (3) ROI discourages excessive in- vestment in operating assets. Increased profitability can be achieved (all other things being equal) by increasing revenues, de- creasing expenses, or lowering investment. 6. Two disadvantages of ROI are: (1) ROI may discourage managers from investing in proj- ects that would increase the profitability of the firm but decrease the division’s ROI. (2) It also may encourage managers to focus on short-run profitability and to take actions that may harm long-run profitability. 7. Residual income is the difference between net income and the minimum dollar return required on an investment. Residual income encourages investment in all projects that earn at least the minimum rate of return. 8. EVA is economic value added. It is the dif- ference between after-tax income and the cost of the capital employed. EVA is an ab- solute dollar amount, not a percentage rate of return like ROI. EVA differs from residual income in EVA’s use of after-tax income and the true cost of capital (rather than a hurdle rate). 9. A stock option is the right to purchase a cer- tain amount of stock at a fixed price. It can encourage goal congruence by giving man- agers an ownership stake in the firm, en- couraging them to view operations from a long-run perspective. 10. A transfer price is the price charged for goods that are transferred from one division to another division of the same company. 11. The transfer pricing problem is finding a transfer price that simultaneously satisfies three objectives: accurate performance eval- uation, goal congruence, and preservation of divisional autonomy.
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MyChapter_10 - CHAPTER 10 DECENTRALIZATION: RESPONSIBILITY...

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