Divisional income statements do not have to follow generally accepted accounting principles (GAAP)
because they are internal reports.
One advantage of using after-tax income as a performance measure of divisional results is it's a financial
accounting measure that is also used to compute the organizational income.
One disadvantage of using after-tax income as a performance measure of divisional results is it's an
absolute measure which makes it difficult to compare divisions of significantly different sizes.
The profit margin ratio is computed by dividing after-tax operating income by sales.
In general, it is better to have a higher return on investment (ROI) than a lower one.
One problem associated with using accounting measures to evaluate divisional performance is the measures
are based on historical information.
A problem with ratio-based measures is that managers can make decisions that improve divisional income
but lower total organizational income.
It is not possible for a manager to accept an unacceptable project when his/her performance is evaluated
Residual income is the difference between the divisional income and the cost of invested capital required to
operate the division.
10. The use of residual income reduces, but does not eliminate, the suboptimization problem.
11. Managerial myopia is the distortion in incentives that result from using accounting measures to evaluate
12. Most organizations use residual income instead of return on investment (ROI) as a performance measure.
13. Economic value added (EVA) adjustments are made to
the after-tax income and the capital employed.
14. Treating research and development costs as an expense rather than a long-term asset may reduce a
manager's inclination to participate in research and development activities.
15. One problem with economic value added (EVA) adjustments is determining the appropriate life for
expenditures that benefit multiple periods.
16. Like return on investment (ROI), economic value added (EVA) adjustments fail to sufficiently address the
17. In general, a division's investment base includes an allocated share of the corporate headquarters' assets.
18. Using net book values instead of gross book values to compute return on investment (ROI) might encourage
an investment center manager to delay replacing inefficient assets until they are fully depreciated.
19. Current costs should not be used to compute either return on investment (ROI) or residual income because
current costs are not generally accepted accounting principles (GAAP).
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