Ordinarily the most appropriate basis on which to evaluate the performance of a

Ordinarily the most appropriate basis on which to

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10. Ordinarily, the most appropriate basis on which to evaluate the performance of a division manager is the division’s A. Contribution margin.B. Net revenue minus controllable division costs.C. Gross profit.D. Net income minus the division’s fixed costs. Answer (B) is correct. REQUIRED: The most appropriate basis on which to evaluate the performance of a division manager. DISCUSSION: Managerial performance should be evaluated on the basis of those factors controllable by the manager. Managers may control revenues, costs, and/or investment in resources. A well-designed responsibility accounting system establishes responsibility centers within the organization. Answer (A) is incorrect. Contribution margin ignores the fixed costs of production; managers may control some fixed costs. Answer (C) is incorrect. Not everything included in the calculation of gross profit is controllable by the manager. Answer (D) is incorrect. Net income is computed after deducting fixed costs. 11.3 Performance Measures - Investment Centers 11. The imputed interest rate used in the residual income approach to performance evaluation can best be described as the Answer (C) is correct. REQUIRED: The true statement about the imputed interest rate used in the residual income approach to performance evaluation. DISCUSSION: Residual income is the excess of the return on an investment over a targeted amount equal to an imputed interest charge on invested capital. The rate used is ordinarily set as a target return by management but is often equal to the weighted average cost of capital. Some enterprises prefer to measure managerial performance in terms of the amount of residual income rather than the percentage ROI because the firm will benefit from expansion as long as residual income is earned. Answer (A) is incorrect. The cost of equity capital must also be incorporated into the imputed interest rate. Answer (B) is incorrect. The current weighted-average cost of capital must be used. Answer (D) is incorrect. The rate should be based on cost of capital, not investment returns of preceding years.
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SU 11: Responsibility Accounting and Performance Measures 385
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