Cost and Management

CHAPTER 18
RESPONSIBILITY ACCOUNTING AND TRANSFER PRICING

IN DECENTRALIZED ORGANIZATIONS
MULTIPLE CHOICE
1.
Which of the following is more characteristic of a decentralized than a centralized business

structure?
a.
b.
c.
d.
The firms environment is stable.

There is little confidence in lower-level management to make decisions.
The firm grows very quickly.
The firm is relatively small.
ANSWER:
2.
more elaborate accounting control systems.

potential costs of poor decisions.
additional training costs.
slow response time to changes in local conditions.
ANSWER:
EASY
Transfer pricing is primarily incurred in

a.
b.
c.
d.
foreign corporations exporting their products.

decentralized organizations.
multinational corporations domiciled in the U.S.
closely held corporations.
ANSWER:
4.
EASY
Costs of decentralization include all of the following except

a.
b.
c.
d.
3.
EASY
In a decentralized company in which divisions may buy goods from one another, the
transfer pricing system should be designed primarily to
a.
b.
c.
d.
increase the consolidated value of inventory.

allow division managers to buy from outsiders.
minimize the degree of autonomy of division managers.
aid in the appraisal and motivation of managerial performance.
ANSWER:
EASY
181
182
5.
Chapter 18
When the majority of authority is maintained by top management personnel, the

organization is said to be
a.
b.
c.
d.
centralized.
decentralized.
composed of cost centers.
engaged in transfer pricing activities.
ANSWER:
6.
EASY
responsibility accounting
operations-research accounting
control accounting
budgetary accounting
ANSWER:
EASY
In a responsibility accounting system, costs are classified into categories on the basis of
a.
b.
c.
d.
fixed and variable costs.

prime and overhead costs.
administrative and nonadministrative costs.
controllable and noncontrollable costs.
ANSWER:
8.
What term identifies an accounting system in which the operations of the business are
broken down into reportable segments, and the control function of a foreperson, sales
manager, or supervisor is emphasized?
a.
b.
c.
d.
7.
Responsibility Accounting and Transfer Pricing in Decentralized Organizations
EASY
When used for performance evaluation, periodic internal reports based on a responsibility
accounting system should not
a.
b.
c.
d.
be related to the organization chart.

include allocated fixed overhead.
include variances between actual and budgeted controllable costs.
distinguish between controllable and noncontrollable costs.
ANSWER:
EASY
Chapter 18
9.
A ___________ is a document that reflects the revenues and/or costs that are under the
control of a particular manager.
a.
b.
c.
d.
quality audit report

responsibility report
performance evaluation report
project report
ANSWER:
10.
EASY
cost
revenue
responsibility
investment
ANSWER:
EASY
In evaluating the performance of a profit center manager, he/she should be evaluated on

a.
b.
c.
d.
all revenues and costs that can be traced directly to the unit.
all revenues and costs under his/her control.
the variable costs and the revenues of the unit.
the same costs and revenues on which the unit is evaluated.
ANSWER:
12.
The cost object under the control of a manager is called a(n) __________________
center.
a.
b.
c.
d.
11.
183
EASY
If a division is set up as an autonomous profit center, then goods should not be transferred
a.
b.
c.
d.
in at a cost-based transfer price.

out at a cost-based transfer price.
in or out at cost-based transfer price.
to other divisions in the same company.
ANSWER:
MEDIUM
184
13.
Chapter 18
Performance evaluation measures in an organization

a.
b.
c.
d.
affect the motivation of subunit managers to transact with one another.

always promote goal congruence.
are less motivating to managers than overall organizational goals.
must be the same for all managers to eliminate suboptimization.
ANSWER:
14.
MEDIUM
goal congruence.
centralization.
suboptimization.
maximization.
ANSWER:
EASY
A major benefit of cost-based transfers is that

a.
b.
c.
d.
it is easy to agree on a definition of cost.

costs can be measured accurately.
opportunity costs can be included.
they provide incentives to control costs.
ANSWER:
16.
A management decision may be beneficial for a given profit center, but not for the entire
company. From the overall company viewpoint, this decision would lead to
a.
b.
c.
d.
15.
MEDIUM
An internal reconciliation account is not required for internal transfers based on

a.
b.
c.
d.
market value.
dual prices.
negotiated prices.
cost.
ANSWER:
MEDIUM
Chapter 18
17.
The most valid reason for using something other than a full-cost-based transfer price
between units of a company is because a full-cost price
a.
b.
c.
d.
is typically more costly to implement.

does not ensure the control of costs of a supplying unit.
is not available unless market-based prices are available.
does not reflect the excess capacity of the supplying unit.
ANSWER:
18.
MEDIUM
variable cost.
market price.
full cost.
production cost.
ANSWER:
MEDIUM
A transfer pricing system is also known as

a.
b.
c.
d.
investment center accounting.

a revenue allocation system.
responsibility accounting.
a charge-back system.
ANSWER:
20.
To avoid waste and maximize efficiency when transferring products among divisions in a
competitive economy, a large diversified corporation should base transfer prices on
a.
b.
c.
d.
19.
185
EASY
The maximum of the transfer price negotiation range is

a.
b.
c.
d.
determined by the buying division.

set by the selling division.
influenced only by internal cost factors.
negotiated by the buying and selling division.
ANSWER:
EASY
186
21.
Chapter 18
The presence of idle capacity in the selling division may increase

a.
b.
c.
d.
the incremental costs of production in the selling division.

the market price for the good.
the price that a buying division is willing to pay on an internal transfer.
a negotiated transfer price.
ANSWER:
22.
MEDIUM
system is very complex to be the most fair to the buying and selling units
effect on subunit performance measures is not easily determined
system should reflect organizational goals
transfer price remains constant for a period of at least two years
ANSWER:
MEDIUM
With two autonomous division managers, the price of goods transferred between the
divisions needs to be approved by
a.
b.
c.
d.
corporate management.
both divisional managers.
both divisional managers and corporate management.
corporate management and the manager of the buying division.
ANSWER:
24.
Which of the following is a consistently desirable characteristic in a transfer pricing

system?
a.
b.
c.
d.
23.
EASY
The minimum potential transfer price is determined by

a.
b.
c.
d.
incremental costs in the selling division.

the lowest outside price for the good.
the extent of idle capacity in the buying division.
negotiations between the buying and selling division.
ANSWER:
EASY
Chapter 18
25.
As the internal transfer price is increased,

a.
b.
c.
d.
overall corporate profits increase.

profits in the buying division increase.
profits in the selling division increase.
profits in the selling division and the overall corporation increase.
ANSWER:
26.
accounts receivable and CGS.

CGS and finished goods.
finished goods and accounts receivable.
finished goods and intracompany sales.
ANSWER:
EASY
In an internal transfer, the buying division records the transaction by

a.
b.
c.
d.
debiting accounts receivable.

crediting accounts payable.
debiting intracompany CGS.
crediting inventory.
ANSWER:
28.
EASY
In an internal transfer, the selling division records the event by crediting

a.
b.
c.
d.
27.
EASY
Top management can preserve the autonomy of division managers and encourage an
optimal level of internal transactions by
a.
b.
c.
d.
selecting performance evaluation measures that are consistent with the

achievement of overall corporate goals.
selecting division managers who are most concerned about their individual
performance.
prescribing transfer prices between segments.
setting up all organizational units as revenue centers.
ANSWER:
MEDIUM
187
188
29.
Chapter 18
To evaluate the performance of individual departments, interdepartmental transfers of a

product should preferably be made at prices
a.
b.
c.
d.
equal to the market price of the product.

set by the receiving department.
equal to fully-allocated costs of the producing department.
equal to variable costs to the producing department.
ANSWER:
30.
EASY
responsibility accounting.
the use of profit centers.
the use of cost centers.
a transfer pricing system.
ANSWER:
MEDIUM
External factors considered in setting transfer prices in multinational firms typically do not
include
a.
b.
c.
d.
the corporate income tax rates in host countries of foreign subsidiaries.

foreign monetary exchange risks.
environmental policies of the host countries of foreign subsidiaries.
actions of competitors of foreign subsidiaries.
ANSWER:
32.
Allocating service department costs to revenue-producing departments is an alternative to

a.
b.
c.
d.
31.
MEDIUM
Corporate taxes and tariffs are particular transfer-pricing concerns of

a.
b.
c.
d.
investment centers.
multinational corporations.
division managers.
domestic corporations involved in importing foreign goods.
ANSWER:
EASY
Chapter 18
33.
When managers attempt to cause actual results to conform to planned results, this is
known as
a.
b.
c.
d.
efficiency.
effectiveness.
conformity.
goal congruence.
ANSWER:
34.
EASY
Which of the following would not be considered a critical success factor?

a.
b.
c.
d.
quality
cost control
customer service
all of the above are critical success factors
ANSWER:
35.
EASY
The costs of service departments can be assigned to other divisions through the use of
a.
b.
c.
d.
cost centers.
transfer prices.
goal congruence.
operational auditing techniques.
ANSWER:
MEDIUM
189
1810
Chapter 18
Use the following information for questions 3640.

Office Products Inc. manufactures and sells various high-tech office automation products. Two
divisions of Office Products Inc. are the Computer Chip Division and the Computer Division. The
Computer Chip Division manufactures one product, a super chip, that can be used by both the
Computer Division and other external customers. The following information is available on this
months operations in the Computer Chip Division:
Selling price per chip
Variable costs per chip
Fixed production costs
Fixed SG&A costs
Monthly capacity
External sales
Internal sales
$50
$20
$60,000
$90,000
10,000 chips
6,000 chips
0 chips
Presently the Computer Division purchases no chips from the Computer Chips Division, but
instead pays $45 to an external supplier for the 4,000 chips it needs each month.
36.
Assume that next months costs and levels of operations in the Computer and Computer
Chip Divisions are similar to this month. What is the minimum of the transfer price range
for a possible transfer of the super chip from one division to the other?
a.
b.
c.
d.
$50
$45
$20
$35
ANSWER:
37.
MEDIUM
Assume that next months costs and levels of operations in the Computer and Computer
Chip Divisions are similar to this month. What is the maximum of the transfer price range
for a possible transfer of the chip from one division to the other?
a.
b.
c.
d.
$50
$45
$35
$30
ANSWER:
MEDIUM
Chapter 18
38.
Two possible transfer prices (for 4,000 units) are under consideration by the two divisions:
$35 and $40. Corporate profits would be ___________ if $35 is selected as the transfer
price rather than $40.
a.
b.
c.
d.
$20,000 larger
$40,000 larger
$20,000 smaller
the same
ANSWER:
39.
MEDIUM
If a transfer between the two divisions is arranged next period at a price (on 4,000 units of
super chips) of $40, total profits in the Computer Chip division will
a.
b.
c.
d.
rise by $20,000 compared to the prior period.

drop by $40,000 compared to the prior period.
drop by $20,000 compared to the prior period.
rise by $80,000 compared to the prior period.
ANSWER:
40.
1811
MEDIUM
Assume, for this question only, that the Computer Chip Division is selling all that it can
produce to external buyers for $50 per unit. How would overall corporate profits be
affected if it sells 4,000 units to the Computer Division at $45? (Assume that the
Computer Division can purchase the super chip from an outside supplier for $45.)
a.
b.
c.
d.
no effect
$20,000 increase
$20,000 decrease
$90,000 increase
ANSWER:
MEDIUM
1812
Chapter 18

The Motor Division of Super Truck Co. uses 5,000 carburetors per month in its production of
automotive engines. It presently buys all of the carburetors it needs from two outside suppliers at
an average cost of $100. The Carburetor Division of Super Truck Co. manufactures the exact
type of carburetor that the Motor Division requires. The Carburetor Division is presently
operating at its capacity of 15,000 units per month and sells all of its output to a foreign car
manufacturer at $106 per unit. Its cost structure (on 15,000 units) is:
Variable production costs
Variable selling costs
All fixed costs
$70
10
10
Assume that the Carburetor Division would not incur any variable selling costs on units that are
transferred internally.
41.
What is the maximum of the transfer price range for a transfer between the two divisions?
a.
b.
c.
d.
$106
$100
$90
$70
ANSWER:
42.
MEDIUM
What is the minimum of the transfer price range for a transfer between the two divisions?
a.
b.
c.
d.
$96
$90
$70
$106
ANSWER:
43.
MEDIUM
If the two divisions agree to transact with one another, corporate profits will
a.
b.
c.
d.
drop by $30,000 per month.

rise by $20,000 per month.
rise by $50,000 per month.
rise or fall by an amount that depends on the level of the transfer price.
ANSWER:
MEDIUM
Chapter 18
1813

Bigole Corp. produces various products used in the construction industry. The Plumbing Division
produces and sells 100,000 copper fittings each month. Relevant information for last month
follows:
Total sales (all external)
Expenses (all on a unit base):
Variable manufacturing
Fixed manufacturing
Variable selling
Fixed selling
Variable G&A
Fixed G&A
Total
$250,000
$0.50
.25
.30
.40
.15
.50
$2.10
Top-level managers are trying to determine how a transfer price can be set on a transfer of 10,000
of the copper fittings from the Plumbing Division to the Bathroom Products Division.
44.
A transfer price based on variable cost will be set at ___________ per unit.
a.
b.
c.
d.
$0.50
$0.80
$0.95
$0.75
ANSWER:
45.
MEDIUM
A transfer price based on full production cost would be set at ___________ per unit.
a.
b.
c.
d.
$0.75
$2.10
$1.45
$1.60
ANSWER:
46.
MEDIUM
A transfer price based on market price would be set at ___________ per unit.
a.
b.
c.
d.
$2.10
$2.50
$1.60
$2.25
ANSWER:
MEDIUM
1814
47.
Chapter 18
If the Plumbing Division is operated as an autonomous investment center and its capacity
is 100,000 fittings per month, the per-unit transfer price is not likely to be below
a.
b.
c.
d.
$0.75.
$1.60.
$2.10.
$2.50.
ANSWER:
48.
MEDIUM
A company has two divisions, A and B, each operated as a profit center. A charges B $35
per unit for each unit transferred to B. Other data follow:
As variable cost per unit
As fixed costs
As annual sales to B
As annual sales to outsiders
$30
$10,000
5,000 units
50,000 units
A is planning to raise its transfer price to $50 per unit. Division B can purchase units at
$40 each from outsiders, but doing so would idle As facilities now committed to
producing units for B. Division A cannot increase its sales to outsiders. From the
perspective of the company as a whole, from whom should Division B acquire the units,
assuming Bs market is unaffected?
a.
b.
c.
d.
outside vendors
Division A, but only at the variable cost per unit
Division A, but only until fixed costs are covered, then should purchase from
outside vendors
Division A, in spite of the increased transfer price
ANSWER:
49.
MEDIUM
A service department includes which of the following?

a.
b.
c.
d.
Payroll
yes
yes
no
no
ANSWER:
Production
no
yes
yes
no
a
EASY
Chapter 18
50.
Indirect costs should be allocated for all of the following reasons except to
a.
b.
c.
d.
motivate managers.
determine the full cost of a product.
motivate general administration.
compare alternatives for decision making.
ANSWER:
51.
MEDIUM
purchasing
warehousing
distributing
manufacturing
ANSWER:
EASY
All of the following objectives are reasons to allocate service department costs to compute
full cost except to
a.
b.
c.
d.
provide information on cost recovery.

abide by regulations that may require full costing in some instances.
provide information on controllable costs.
reflect productions fair share of costs.
ANSWER:
53.
A service department provides specific functional tasks for other internal units. Which of
the following activities would not be engaged in by a service department?
a.
b.
c.
d.
52.
1815
MEDIUM
All of the following objectives are reasons that service department allocations can
motivate managers except to
a.
b.
c.
d.
instill a consideration of support costs in production managers.

encourage production managers to help service departments control costs.
encourage the usage of certain services.
determine divisional profitability.
ANSWER:
MEDIUM
1816
54.
Chapter 18
Which of the following is a reason for allocating service department costs and thereby
motivating management?
a.
b.
c.
d.
provides for cost recovery

provides relevant information in determining corporatewide profits generated by
alternative actions
meets regulations in some pricing instances
reflects usage of services on a fair and equitable basis
ANSWER:
55.
Internal units
no
yes
no
yes
ANSWER:
MEDIUM
External units
no
no
yes
yes
EASY
After service department costs have been allocated, what is the final step in determining
full product cost?
a.
b.
c.
d.
determine direct material cost

determine overhead application rates for revenue-producing areas
determine direct labor cost
determine total service department costs
ANSWER:
57.
Service departments provide functional tasks for which of the following?

a.
b.
c.
d.
56.
EASY
Which of the following is not an objective for computing full cost?

a.
b.
c.
d.
to reflect productions fair share of costs

to instill a consideration of support costs
to reflect usage of services on a fair and equitable basis
to provide for cost recovery
ANSWER:
MEDIUM
Chapter 18
58.
A rational and systematic allocation base for service department costs should reflect the
cost accountants consideration of all of the following except
a.
b.
c.
d.
the ability of revenue-producing departments to bear the allocated costs.

the benefits received by the revenue-producing department from the service
department.
a causal relationship between factors in the revenue-producing department and
costs incurred in the service department.
all of the above are considerations.
ANSWER:
59.
MEDIUM
step method
indirect method
direct method
algebraic method
ANSWER:
EASY
Which service department cost allocation method assigns costs directly to revenueproducing areas with no other intermediate cost pools or allocations?
a.
b.
c.
d.
step method
indirect method
algebraic method
direct method
ANSWER:
61.
Which of the following is not a method for allocating service department costs?
a.
b.
c.
d.
60.
1817
EASY
The overhead allocation method that allocates service department costs without
consideration of services rendered to other service departments is the
a.
b.
c.
d.
step method.
direct method.
reciprocal method.
none of the above.
ANSWER:
EASY
1818
62.
Chapter 18
Which service department cost allocation method assigns indirect costs to cost objects
after considering some of the interrelationships of the cost objects?
a.
b.
c.
d.
step method
indirect method
algebraic method
direct method
ANSWER:
63.
EASY
algebraic method
indirect method
step method
direct method
ANSWER:
EASY
Which service department cost allocation method assigns indirect costs to cost objects
after considering interrelationships of the cost objects?
a.
b.
c.
d.
Algebraic method
no
no
yes
yes
ANSWER:
65.
Which service department cost allocation method utilizes a benefits-provided ranking?

a.
b.
c.
d.
64.
Step method
no
yes
yes
no
EASY
Which of the following methods of assigning indirect service department costs recognizes
on a partial basis the reciprocal relationships among the departments?
a.
b.
c.
d.
step method
direct method
indirect method
algebraic method
ANSWER:
EASY
Chapter 18
66.
The most accurate method for allocating service department costs is the
a.
b.
c.
d.
step method.
direct method.
algebraic method.
none of the above.
ANSWER:
67.
EASY
Benefits received
yes
yes
no
no
ANSWER:
Fairness
yes
yes
yes
no
Causal relationships
no
yes
yes
no
MEDIUM
To identify costs that relate to a specific product, an allocation base should be chosen that
a.
b.
c.
d.
does not have a cause-and-effect relationship.

has a cause-and-effect relationship.
considers variable costs but not fixed costs.
considers direct material and direct labor but not manufacturing overhead.
ANSWER:
69.
The criteria that are most often used to decide on allocation bases are?
a.
b.
c.
d.
68.
1819
EASY
The fixed costs of service departments should be allocated to production departments

based on
a.
b.
c.
d.
actual short-run utilization based on predetermined rates.

actual short-run units based on actual rates.
the service departments expected costs based on expected long-run use of
capacity.
the service departments actual costs based on actual utilization of services.
ANSWER:
MEDIUM
1820
70.
Chapter 18
Which service department cost allocation method provides for reciprocal allocation of
service costs among the service department as well as to the revenue producing
departments?
a.
b.
c.
d.
algebraic method
indirect method
step method
direct method
ANSWER:
71.
b.
c.
d.
EASY
considers all interrelationships of the departments and reflects these relationships in

equations.
does not consider interrelationships of the departments nor reflect these
relationships in equations.
is also referred to as the benefits-provided ranking method.
is not a service department cost allocation method.
ANSWER:
EASY
Which service department cost allocation method considers all interrelationships of the
departments and reflects these relationships in equations?
a.
b.
c.
d.
step method
indirect method
algebraic method
direct method
ANSWER:
73.
The algebraic method

a.
72.
EASY
An automotive company has three divisions. One division manufactures new replacements
parts for automobiles, another rebuilds engines, and the third does repair and overhaul
work on a line of trucks. All three divisions use the services of a central payroll
department. The best method of allocating the cost of the payroll department to the
various operating divisions is
a.
b.
c.
d.
total labor hours incurred in the divisions.

value of production in the divisions.
direct labor costs incurred in the divisions.
machine hours used in the divisions.
ANSWER:
MEDIUM
Chapter 18
74.
1821
The allocation of general overhead control costs to operating departments can be least
justified in determining
a.
b.
c.
d.
income of a product or functional unit.

costs for making managements decisions.
costs of products sold.
costs for governments cost-plus contracts.
ANSWER:
MEDIUM

Gates Co. has three production departments A, B, and C. Gates also has two service
departments, Administration and Personnel. Administration costs are allocated based on value of
assets employed, and Personnel costs are allocated based on number of employees. Assume that
Administration provides more service to the other departments than does the Personnel
Department.
Dept.
Admin.
Personnel
A
B
C
75.
Employees
25
10
15
5
10
Asset Value
$450,000
600,000
300,000
150,000
800,000
Using the direct method, what amount of Administration costs is allocated to A (round to
the nearest dollar)?
a.
b.
c.
d.
$216,000
$150,000
$288,000
$54,000
ANSWER:
76.
Direct Costs
$900,000
350,000
700,000
200,000
250,000
MEDIUM
Using the direct method, what amount of Personnel costs is allocated to B (round to the
nearest dollar)?
a.
b.
c.
d.
$50,000
$43,750
$26,923
$58,333
ANSWER:
MEDIUM
1822
77.
Chapter 18
Using the direct method, what amount of Administration costs is allocated to C (round to
a.
b.
c.
d.
$576,000
$54,000
$108,000
$150,000
ANSWER:
78.
MEDIUM
$72,973
$291,892
$145,946
$389,189
ANSWER:
MEDIUM
Using the step method, what amount of Administration costs is allocated to A (round to
a.
b.
c.
d.
$72,973
$291,892
$145,946
$389,189
ANSWER:
80.
Using the step method, what amount of Administration costs is allocated to Personnel
(round to the nearest dollar)?
a.
b.
c.
d.
79.
MEDIUM
Using the step method, what amount of Administration costs is allocated to B (round to
a.
b.
c.
d.
$72,973
$291,892
$145,946
$389,189
ANSWER:
MEDIUM
Chapter 18
81.
Using the step method, what amount of Administration costs is allocated to C (round to
a.
b.
c.
d.
$389,189
$145,946
$291,892
$72,973
ANSWER:
82.
MEDIUM
$213,964
$106,982
$430,000
$0
ANSWER:
MEDIUM
Assume that Administration costs have been allocated and the balance in Personnel is
$860,000. What amount is allocated to B (round to the nearest dollar)?
a.
b.
c.
d.
$213,964
$430,000
$106,982
$143,333
ANSWER:
84.
$860,000. What amount is allocated to A (round to the nearest dollar)?
a.
b.
c.
d.
83.
1823
MEDIUM
$860,000. What amount is allocated to C (round to the nearest dollar)?
a.
b.
c.
d.
$213,964
$430,000
$286,667
$143,333
ANSWER:
MEDIUM
1824
Chapter 18

Brooks Co. has two service departments: Data Processing and Administration/Personnel. The
company also has three divisions: X, Y, and Z. Data Processing costs are allocated based on
hours of use and Administration/Personnel costs are allocated based on number of employees.
Direct costs
$400,000
850,000
450,000
300,000
550,000
Admin/Per.
Data Pro.
X
Y
Z
Employees
10
5
30
15
25
Hours of use
3,300
1,100
1,800
2,200
4,500
Assume that Data Processing provides more service than Administration/Personnel.

85.
Using the direct method, what amount of Data Processing costs is allocated to X (round
to the nearest dollar)?
a.
b.
c.
d.
$180,000
$129,661
$0
$84,706
ANSWER:
86.
MEDIUM
Using the direct method, what amount of Data Processing costs is allocated to Y (round
to the nearest dollar)?
a.
b.
c.
d.
$158,475
$0
$220,000
$103,529
ANSWER:
87.
MEDIUM
Using the direct method, what amount of Data Processing costs is allocated to Z (round to
a.
b.
c.
d.
$211,765
$0
$152,542
$450,000
ANSWER:
MEDIUM
Chapter 18
88.
Assume that Data Processing costs have been allocated and the balance in Administration
is $600,000. Using the step method, what amount is allocated to X?
a.
b.
c.
d.
$257,143
$112,500
$200,000
$187,500
ANSWER:
89.
MEDIUM
is $600,000. Using the step method, what amount is allocated to Y?
a.
b.
c.
d.
$225,000
$128,571
$187,500
$200,000
ANSWER:
90.
1825
MEDIUM
is $600,000. Using the step method, what amount is allocated to Z?
a.
b.
c.
d.
$200,000
$112,500
$214,286
$225,000
ANSWER:
MEDIUM
1826
Chapter 18
Use the following information for questions 91 and 92.

Blake Company has two service departments: Data Processing and Personnel. Data Processing
provides more service than does Personnel. Blake also has two production departments: A and B.
Data Processing costs are allocated on the basis of assets used while Personnel costs are allocated
based on the number of employees.
Direct costs
$1,000,000
300,000
500,000
330,000
Data Pro.
Pers.
A
B
91.
Assets used
$700,000
230,000
125,000
220,000
Using the direct method, what amount of Data Processing costs is allocated to A (round to
a.
b.
c.
d.
$362,319
$637,681
$253,623
$446,377
ANSWER:
92.
Employees
15
8
12
20
MEDIUM
Using the direct method, what amount of Personnel costs is allocated to B (round to the
nearest dollar)?
a.
b.
c.
d.
$123,750
$206,250
$112,500
$187,500
ANSWER:
MEDIUM
Chapter 18
1827

Hartwell Company distributes its service department overhead costs directly to producing
departments without allocation to the other service departments. Information for January is
presented here.
Overhead costs incurred
Service provided to:
Maintenance Dept.
Utilities Dept.
Producing Dept. A
Producing Dept. B
93.
Utilities
$9,000
10%
20%
40%
40%
30%
60%
The amount of Utilities Department costs distributed to Dept. B for January should be
(rounded to the nearest dollar)
a.
b.
c.
d.
$3,600.
$4,500.
$5,400.
$6,000.
ANSWER:
94.
Maintenance
$18,700
MEDIUM
Assume instead Hartwell Company distributes the service departments overhead costs
based on the step method. Maintenance provides more service than does Utilities. Which
of the following is true?
a.
b.
c.
d.
Allocate maintenance expense to Departments A and B.

Allocate maintenance expense to Departments A and B and the Utilities
Department.
Allocate utilities expense to the Maintenance Department and Departments A
and B.
None of the above.
ANSWER:
MEDIUM
1828
95.
Chapter 18
Using the step method, how much of Hartwells Utilities Department cost is allocated
between Departments A and B?
a.
b.
c.
d.
$9,900
$10,800
$12,740
$27,700
ANSWER:
96.
MEDIUM
Assume that Hartwell Company distributes service department overhead costs based on
the algebraic method. What would be the formula to determine the total maintenance
costs?
a.
b.
c.
d.
M = $18,700 + .10U
M = $9,000 + .20U
M = $18,700 + .30U + .40A + .40B
M = $27,700 + .40A + .40B
ANSWER:
MEDIUM
SHORT ANSWER/PROBLEMS
1.
Describe the lowest internal transfer price that an autonomous division manager of an
investment center would consider accepting for a product that his/her division produces.
ANSWER:
The lowest price that an investment center manager should ever consider is
the one that would leave his/her performance evaluation measures unaffected. Typically,
this would be the price that maintains divisional profits at the level that existed prior to
acceptance of the internal transfer. This price should be no lower than the total of the
selling segments incremental costs associated with the services/goods plus the opportunity
cost of the facilities used.
MEDIUM
Chapter 18
2.
1829
What are the advantages and disadvantages of market value as a transfer price?
ANSWER:
Market value has the advantage of being an external measure of value. It is
subject to manipulation by neither the internal buying nor selling segment. In addition, it
captures the relevant opportunity costs because it is a measure of the price that the internal
selling unit could receive for its production from another buyer and a measure of the cost
that would be incurred by the internal buying segment to purchase from an alternative
seller. The disadvantages of market price include the possibility that there may not be a
comparable product in the marketplace. If demand for the product has declined,
establishing a transfer price becomes more difficult. Additionally, if the firm has
experienced a reduction in expenses related to the product, market price may not be
reliable or appropriate as a transfer price.
MEDIUM
3.
Why is standard cost a better measure for a transfer price than actual cost?
ANSWER:
When a transfer is based on actual cost, the producing division has no
incentive to be efficient in its production. With a standard costing system, any differences
between standard and actual costs will be the responsibility of the producing division.
Hence, the producing division has incentive to be efficient.
MEDIUM
4.
Can the performance evaluation measures (for autonomous subunit managers) create goal
congruence problems in transfer pricing situations? Explain.
ANSWER:
Yes, at times, performance-based incentives can conflict with overall
organizational goals. The situation is the worst when upper level managers look at the
performance of subunit managers in a comparative fashion. In this case, before transacting
with another internal segment, each manager needs to determine how the transaction
would affect his/her performance evaluation measure relative to the performance
evaluation measure of the other transacting party.
MEDIUM
1830
5.
Chapter 18
Why dont upper-level managers simply dictate transfer prices to divisional managers, and
thereby avoid all the hassles and expense of the negotiations between them (divisional
managers)?
ANSWER:
Once upper-level managers impose their wills on lower-level managers, the
autonomy of the lower-level managers is reduced. This situation is significant because
managers should only be evaluated on the controllable aspects of operations. If upper
management sets transfer prices, various divisional income measures (ROI, RI, etc.) are no
longer fair bases on which to evaluate lower-level managers. Thus, intervention reduces
both the authority to act and the subsequent responsibility of lower managers.
MEDIUM

Electric Division of Engineered Products Co. has developed a wind generator that requires a
special S ball bearing. The Ball Bearing Division of Engineered Products Co. has the capability
to produce such a ball bearing.
Unfortunately, the Ball Bearing Division is operating at capacity and will need to reduce
production of another existing product, the T bearing, by 1,000 units per month to provide the
600 S bearings needed each month by the Electric Division. The T bearing currently sells for
$50 per unit. Variable costs incurred to produce the T bearing are $30 per unit; variable costs
to produce the new S bearing would be $60 per unit.
Electric Division has found an external supplier that would furnish the needed S bearings at
$100 per unit. Assume that both Electric Division and Ball Bearing Division are independent,
autonomous investment centers.
6.
What is the maximum price per unit that Electric Division would be willing to pay the Ball
Bearing Division for the S bearing?
ANSWER:
Electric Division would be willing to pay no more than $100 per unit, the
price offered by the external supplier.
MEDIUM
Chapter 18
7.
1831
What is the minimum price that Ball Bearing Division would consider to produce the S
bearing?
ANSWER:
The minimum price that Ball Bearing Division would accept is the one that
would leave its profits at the same level as if it only produced T bearings. To produce
the S bearing, Ball Bearing Division must give up production and sale of 1,000 T
bearings. These 1,000 bearings generate $20,000 of contribution margin: [1,000 ($50
$30) ]. The sales price would have to be high enough to recoup both the variable costs of
the S bearings and the contribution margin that is forfeited on the 1,000 units of T
bearings: $60 + ($20,000/600) = $93.33
MEDIUM
8.
How would your answer to question 104 be different if Ball Bearing Division did not need
to forfeit any of its existing sales to produce the S bearing?
ANSWER:
bearing.
The minimum price would be $60, the incremental costs to produce the S
MEDIUM
9.
What factors besides price would Electric Division want to consider in deciding where it
will purchase the bearing?
ANSWER:
In particular, Electric Division would want to consider the quality of both
suppliers. The factors to be considered would include: ability to meet delivery deadlines,
quality of the product produced, ability to change as environmental conditions change,
willingness to work on future cost reductions/quality improvements, business reputation,
stability of the labor force, and possibility of future price increases.
MEDIUM
1832
Chapter 18

Wire Division of XS Steel Corporation produces bales of steel wire that are used in various
commercial applications. The bales sell for an average of $20 each and Wire Division has the
capacity to produce 10,000 bales per month. Consumer Products Division of XS Steel uses
approximately 2,000 bales of steel wire each month in its production of various appliances. The
operating information for Wire Division at its present level of operations (8,000 bales per month)
follows:
Sales (all external)
Variable costs per bale:
Production
Selling
G&A
Fixed costs per bale (based on a 10,000 unit capacity):
Production
Selling
G&A
$160,000
$5
2
3
$2
3
4
Consumer Products Division currently pays $15 per bale for wire obtained from its external
supplier.
10.
If 2,000 bales are transferred in one month to Consumer Products Division at $10 per
bale, what would be the profit/loss of Wire Products Division?
ANSWER:
The $10 per unit would equal the Divisions variable costs ($5 + 2 + 3 =
$10), so the contribution margin per unit is zero. Thus, only the 8,000 units of external
sales would generate a contribution margin of $80,000 (8,000 $10) to cover fixed costs
of $90,000 (10,000 $9). So the Division would show a $10,000 loss.
MEDIUM
Chapter 18
11.
1833
For the Wire Products Division to operate at break-even level, what would it need to
charge for the production and transfer of 2,000 bales to the Consumer Products Division?
Assume all variable costs indicated will be incurred by the Wire Division.
ANSWER:
Total fixed costs to Wire are:
Production
$2 10,000 =
Selling
$3 10,000 =
G&A
$4 10,000 =
Total
$20,000
30,000
40,000
$90,000
Less: Contrib.Margin on Regular Business

[$20 (5 + 2 + 3)] 8,000
(80,000 )
Unrecovered Fixed Costs
$10,000
which must be covered by CM of inside sales =
Trans.Price Vol. = SP [(5 + 2 + 3) 2,000]
SP = $15
MEDIUM
12.
If Wire Products Division transferred 2,000 wire bales to the Consumer Products Division
at 200 percent of full absorption cost, what would be the transfer price?
ANSWER:
Full absorption cost: Variable Production Cost =
Fixed Production Cost =
Total full absorption cost
Doubled
Transfer price
$ 5
2
$ 7
2
$14
MEDIUM
13.
If Consumer Products Division agrees to pay Wire Products Division $16 for 2,000 bales
this month, what would be Consumers change in total profits?
ANSWER:
Proposed transfer price per unit
Consumers current market purchase price per unit
Increase in cost per unit of wire to Consumers
Times units purchased
Decrease in profit due to increased costs
MEDIUM
16
15
$
1
2,000
$2,000
1834
14.
Chapter 18
Assuming, for this question only, that Wire Products Division would not incur any variable
G&A costs on internal sales, what is the minimum price that it would consider accepting
for sales of bales to Consumer Products Division?
ANSWER:
Wire Division must cover its out of pocket costs or the relevant variable
costs; the fixed costs are irrelevant since they will be incurred regardless of this extra
inside business. Thus, the total cost to be covered is $7 (production, $5; selling, $2).
MEDIUM

Carpet Division of Building Products Inc. manufactures a single grade of residential grade
carpeting. The division has the capacity to produce 500,000 square yards of carpet each year. Its
current costs and revenues are shown here:
Sales (400,000 square yards)
Variable costs per square yard:
Production
SG&A
Fixed costs per square yard (based on 500,000 yard capacity)
Production
SG&A
$2,000,000
$2.00
1.00
$0.50
1.00
The Housing Division currently purchases 40,000 yards of carpeting (of the grade produced by
the Carpet Division) each year at a cost of $6.50 per square yard from an outside vendor.
15.
If the autonomous Housing and Carpet Divisions enter negotiations on the internal
transfer of 40,000 square yards of carpeting, what is the maximum price that will be
considered?
ANSWER:
The maximum price or ceiling is the current purchase price of the buying
division or $6.50 per yard.
MEDIUM
16.
If the autonomous Housing and Carpet Divisions enter negotiations on the internal
transfer of 40,000 square yards of carpeting, what is the Carpet Divisions minimum price?
ANSWER:
The minimum price acceptable to Carpet is its incremental cost of $3
($2 + $1) per square yard.
MEDIUM
17.
If the Housing and Carpet Divisions agree on the internal transfer of 40,000 square yards
of carpet at a price of $4.50 per square yard, how will the profits of the Housing Division
be affected?
Chapter 18
ANSWER:
Current external purchase price
Proposed transfer price
Reduction in purchase price per yard
Times yards acquired
Increase in profits
1835
$6.50
4.50
$2.00
40,000
$80,000
MEDIUM
18.
If the Housing and Carpet Divisions agree on the internal transfer of 40,000 square yards
of carpet at a price of $4.00 per square yard, how will overall corporate profits be
affected?
ANSWER:
Current outside purchase price per square yard
Carpets variable cost per square yard
Savings per square yard to Housing Division
& corporate
Times number square yards bought
Savings to corporate and increase in profits
$6.50
3.00
$3.50
40,000
$140,000
MEDIUM
19.
Assume, for this question only, that Carpet Division is producing and selling 500,000
square yards of carpet to external buyers at a price of $5 per square yard. What would be
the effect on overall corporate profits if Carpet Division reduces external sales of carpet by
40,000 square yards and transfers the 40,000 square yards of carpet to the Housing
Division?
ANSWER:
Since Carpet is operating at full capacity, it would lose the contribution
margin on the 40,000 square yards. However, the Housing Division would not have to
buy externally. Thus,
Lost CM
($2 40,000 yd) =
Gained CM ($3.50 40,000 yd) =
Net increase in corporate profits
MEDIUM
$(80,000)
140,000
$ 60,000
1836
Chapter 18

XY Corporation is comprised of two divisions: X and Y. X currently produces and sells a gear
assembly used by the automotive industry in electric window assemblies. X is currently selling all
of the units it can produce (25,000 per year) to external customers for $25 per unit. At this level
of activity, Xs per unit costs are:
Variable:
Production
SG&A
Fixed:
Production
SG&A
$7
2
6
5
Y Division wants to purchase 5,000 gear assemblies per year from X Division. Y Division
currently purchases these units from an outside vendor at $22 each.
20.
What is the minimum price per unit that X Division could accept from Y Division for
5,000 units of the gear assembly and be no worse off than currently?
ANSWER:
X Division is operating and selling outside at full capacity so minimum
price is equal to the variable cost to make and sell plus the lost contribution margin from
outside sales:
VC: Production
SGA
Contribution margin
Selling price
MEDIUM
$7
2
$ 9
16
$25
Chapter 18
21.
1837
What will be the effect on overall corporate profits if the two divisions agree to an internal
transfer of 5,000 units?
ANSWER:
Corporate profits will decrease by forcing the transfer.
CM per units earned by X is from external sales $25 [$7 + $2]

Times units to be sold
Decrease in CM to X and XY Corp.
Net savings to buy internally
rather than externally [$22 $9]
Times units to be purchased
Savings by buying internally
Net effect on XY Corp. profits
MEDIUM
$16
5,000
$ 80,000
$13
5,000
$ 65,000
$(15,000)
1838
Chapter 18

Third Savings and Loan of Dallas has three departments that generate revenue: loans, checking
accounts, and savings accounts. Third S & L has two service departments:
Administration/Personnel and Maintenance. The service departments provide service in the order
of their listing. The following information is available for direct costs. Administration/ Personnel
costs are best allocated based on number of employees while Maintenance costs are best allocated
based on square footage occupied.
Department
Admin./Pers.
Maintenance
Loans
Checking
Savings
22.
Direct costs
$530,000
450,000
900,000
600,000
240,500
Employees
10
8
15
6
5
Footage
30,000
16,500
45,000
10,000
42,000
Using the direct method, compute the amount allocated to each department from
Administration/Personnel.
ANSWER:
Loans
15/26 $530,000 = $305,769
Checking 6/26 530,000 = 122,308
Savings
5/26 530,000 = 101,923
MEDIUM
23.
Using the step method, compute the amount allocated to each department from
Maintenance.
ANSWER:
To allocate Admin./Pers. to Maintenance
8/34 $530,000 = $124,706(rounded)
Then, Maintenance balance is $450,000 + $124,706 = $574,706
Then, allocate Maintenance :
Loans
45/97 $574,706 = $266,616
Checking 10/97 574,706 =
59,248
Savings 42/97 574,706 = 248,842
MEDIUM

Cost and Management

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CHAPTER 18

RESPONSIBILITY ACCOUNTING AND TRANSFER PRICING

Which of the following is more characteristic of a decentralized than a centralized business

The firms environment is stable.

more elaborate accounting control systems.

Transfer pricing is primarily incurred in

foreign corporations exporting their products.

Costs of decentralization include all of the following except

increase the consolidated value of inventory.

When the majority of authority is maintained by top management personnel, the

fixed and variable costs.

Responsibility Accounting and Transfer Pricing in Decentralized Organizations

be related to the organization chart.

Responsibility Accounting and Transfer Pricing in Decentralized Organizations

quality audit report

In evaluating the performance of a profit center manager, he/she should be evaluated on

in at a cost-based transfer price.

Performance evaluation measures in an organization

affect the motivation of subunit managers to transact with one another.

A major benefit of cost-based transfers is that

it is easy to agree on a definition of cost.

Responsibility Accounting and Transfer Pricing in Decentralized Organizations

An internal reconciliation account is not required for internal transfers based on

Responsibility Accounting and Transfer Pricing in Decentralized Organizations

is typically more costly to implement.

A transfer pricing system is also known as

investment center accounting.

The maximum of the transfer price negotiation range is

determined by the buying division.

The presence of idle capacity in the selling division may increase

the incremental costs of production in the selling division.

Which of the following is a consistently desirable characteristic in a transfer pricing

Responsibility Accounting and Transfer Pricing in Decentralized Organizations

The minimum potential transfer price is determined by

incremental costs in the selling division.

Responsibility Accounting and Transfer Pricing in Decentralized Organizations

As the internal transfer price is increased,

overall corporate profits increase.

accounts receivable and CGS.

In an internal transfer, the buying division records the transaction by

debiting accounts receivable.

In an internal transfer, the selling division records the event by crediting

selecting performance evaluation measures that are consistent with the

To evaluate the performance of individual departments, interdepartmental transfers of a

equal to the market price of the product.

the corporate income tax rates in host countries of foreign subsidiaries.

Allocating service department costs to revenue-producing departments is an alternative to

Responsibility Accounting and Transfer Pricing in Decentralized Organizations

Corporate taxes and tariffs are particular transfer-pricing concerns of

Responsibility Accounting and Transfer Pricing in Decentralized Organizations

Which of the following would not be considered a critical success factor?

Responsibility Accounting and Transfer Pricing in Decentralized Organizations

Use the following information for questions 3640.

Responsibility Accounting and Transfer Pricing in Decentralized Organizations

rise by $20,000 compared to the prior period.

Responsibility Accounting and Transfer Pricing in Decentralized Organizations

Use the following information for questions 4143.

drop by $30,000 per month.

Responsibility Accounting and Transfer Pricing in Decentralized Organizations

Use the following information for questions 4447.

Responsibility Accounting and Transfer Pricing in Decentralized Organizations

A service department includes which of the following?

Responsibility Accounting and Transfer Pricing in Decentralized Organizations