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MIDTERM-MAS Responsibility Accounting Transfer Pricing
MIDTERM-MAS Responsibility Accounting Transfer Pricing
CPA Review Batch 41 May 2021 CPA Licensure Examination Week No. 9
‘Operating income’ for most investment centers is based on earnings before interests & taxes (EBIT).
‘Operating assets’ are preferably based on the average balance for the reporting period and composed
of productive assets used to earn the operating income (i.e., idle assets are excluded).
The term ‘invested capital’ is sometimes used as the denominator of ROI. While the term means
operating assets for most investment centers, invested capital may also mean total assets, owners’
equity or total assets less current liabilities, depending on the situation and application.
RESIDUAL INCOME (RI):
RI = Operating Income – Required Income Minimum ROI is also known as desired rate of return,
business quota or minimum required rate of return.
where: Required Income = Operating Assets x Minimum ROI
The ‘Minimum ROI’ under RI is usually based on the imputed interest rate, which is imposed and set by a
higher authority like a head office (for branches) or a holding company (for subsidiaries).
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ReSA – THE REVIEW SCHOOL OF ACCOUNTANCY MAS-08
Week No. 9: RESPONSIBILITY ACCOUNTING & TRANSFER PRICING
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ReSA – THE REVIEW SCHOOL OF ACCOUNTANCY MAS-08
Week No. 9: RESPONSIBILITY ACCOUNTING & TRANSFER PRICING
REQUIRED:
1. Compute for each division’s missing items (1) to (8).
2. How many more units shall be sold by US to achieve a 40% ROI?
3. How much increase in selling price will allow UK to reach 50% ROI from its current unit sales?
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ReSA – THE REVIEW SCHOOL OF ACCOUNTANCY MAS-08
Week No. 9: RESPONSIBILITY ACCOUNTING & TRANSFER PRICING
REQUIRED:
1. Weighted Average Costs of Capital (WACC)
2. Economic Value-Added (EVA)
For Division S, the costs of producing the component part per unit are:
Direct materials P 10
Direct labor P8
Variable factory overhead P5
Fixed factory overhead P2
The product of Division S is being sold in a highly competitive market for P 30 per unit.
Division B is currently buying 80% of the production output of Division S at a negotiated price of P 28 per
unit. It is expected that 25,000 units of product will be produced by Division S.
With emphasis on divisional welfare rather than the company’s welfare, a new transfer price must be
developed. It is suggested that a 40% mark-up on cost will be added when transferring the product from
Division S to Division B.
The unit selling price of the product of Division B is P 45 while the additional unit processing cost is P 8.
REQUIRED:
Determine Division B’s gross profit per unit under each of the following independent assumptions:
A) Transfer price is full-cost based.
B) Transfer price is cost-based plus mark-up.
C) Transfer price is based on a negotiated price.
D) Transfer price is market-based.
7. Transfer Pricing
SB-17 Company’s Division ‘S’ (selling division) produces a small tool used by other companies as a key part
in their products. Cost and sales data related to the small tool are given below:
The company’s Division ‘B’ (buying division) is introducing a new product that will use the same tool such as
the one produced by Division S. An outside supplier has quoted the Division B a price of P 48 per tool.
Division B would like to purchase the tools from Division S, only if an acceptable transfer price can be
worked out.
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ReSA – THE REVIEW SCHOOL OF ACCOUNTANCY MAS-08
Week No. 9: RESPONSIBILITY ACCOUNTING & TRANSFER PRICING
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ReSA – THE REVIEW SCHOOL OF ACCOUNTANCY MAS-08
Week No. 9: RESPONSIBILITY ACCOUNTING & TRANSFER PRICING
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ReSA – THE REVIEW SCHOOL OF ACCOUNTANCY MAS-08
Week No. 9: RESPONSIBILITY ACCOUNTING & TRANSFER PRICING
17. The following information pertains to Silver Co.’s Gold Division for the current year:
Sales P 311,000
Variable cost 250,000 311K 11K
Traceable fixed cost 50,000 - 250K / 40K
Average invested capital 40,000 - 50K =27.5
Imputed interest rate 10% = 11K
What was Gold’s return on investment?
C a. 10% c. 27.50%
b. 13.33% d. 30%
18. Listed below is selected financial information for Western Division of the Pearl Company for 2021:
Average working capital P 625 4K 625
General and administrative expenses 75
400
- 3525 + 1775 / 2400
Net sales 4,000
- 75 = 2400 =16.67
Average plant and equipment 1,775
Cost of goods sold 3,525
= 400
If Pearl treats the Western Division as an investment center, what is the before-tax ROI for 2021?
D a. 34.78% c. 19.79%
b. 22.54% d. 16.67%
19. A firm earning a profit can increase its return on investment by
D a. Increasing sales revenues and operating expenses by the same peso amount
b. Decreasing sales revenues and operating expenses by the same percentage
c. Decreasing sales revenues and operating expenses by the same percentage
d. Increasing sales revenue and operating expenses by the same percentage
20. Mercury Co. plans to sell 200 units using P 20,000 of assets. The company incurs total costs of P 8,000 for these units.
If a return on investment of 10% is targeted, how much should be the selling price?
A a. P 50 c. P 30
b. P 40 d. Cannot be determined from given information
21. The segment margin of an investment center after deducting the imputed interest on the assets used by the
investment center is known as
B a. Return on investment c. Operating income
b. Residual income d. Return on assets
22. If a division’s ROI and the minimum required ROI are the same, what is the division’s residual income?
B a. Positive c. Negative
b. Zero d. None of the above
Items 23 and 24 are based on the following information
Jade Co.’s industrial photo finishing division VVV incurred the following costs and expenses in 2021:
Variable Fixed
Direct materials P 200,000
Direct labor 150,000
Factory overhead 70,000 P 42,000
General, selling and administrative 30,000 48,000
TOTAL P 450,000 P 90,000
During 2021, VVV produced 300,000 units of industrial photo-prints, which were sold for P 2.00 each. Jade’s
investment in VVV was P 500,000 and P 700,000 at January 1, 2021 and December 31, 2021, respectively. Jade
normally imputes interest on investment at 15% of average invested capital.
23. For the year ended December 31, 2021, what was VVV’s return on investment?
B a. 15.0% c. 8.6%
b. 10.0% d. (5.0%)
24. Assume that the net operating income was P 60,000 and that average invested capital was P 600,000. For the year
ended December 31, 2021, what was VVV’s residual income (loss)?
D a. P 150,000 c. (P 45,000)
b. P 60,000 d. (P 30,000)
25. Frank Co. is a computer service center. For the month of May, Frank had the following operating statistics:
Sales P 450,000 Total assets P 500,000
Operating income P 25,000 Shareholder’s equity P 200,000
Net profit after taxes P 8,000 Cost of capital 6%
Based on the above information, which one of the following statements is correct?
B a. Return on investment of 4% c. Return on investment of 1.6%
b. Residual income of (P 5,000) d. Residual income of (P 22,000)
26. Managerial performance can be measured in many different ways, including return on investment (ROI) and residual
income. A good reason for using residual income instead of ROI is that
B a. Residual income can be computed without regard to identifying an investment base.
b. Goal congruence is more likely to be promoted by using residual income.
c. Residual income is well understood and often used in the financial press.
d. ROI does not take into consideration both investment turnover ratio and return-on-sales percentage.
27. Residual income (RI) is a performance evaluation that is used in conjunction with, or instead of, return on investment
(ROI). In many cases, RI is preferred to ROI because
B a. RI is a measure over time, while ROI represents the results for one period
b. RI concentrates on maximizing absolute amount of income rather than a percentage return like ROI
c. The imputed interest rate used in calculating RI is more easily derived than the target rate that is
compared to the calculated ROI
d. Average investment is employed with RI while year-end investment is employed with ROI
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ReSA – THE REVIEW SCHOOL OF ACCOUNTANCY MAS-08
Week No. 9: RESPONSIBILITY ACCOUNTING & TRANSFER PRICING
28. Residual income is a better measure for performance evaluation of an investment center manager than return on
investment because
B a. The problems associated with measuring the asset base are eliminated
b. Desirable investment decisions will not be neglected by high-return divisions
c. Only the gross book value of assets needs to be calculated
d. The arguments about the implicit cost of interest are eliminated
29. Mr. Sy is the general manager of the XXX Division, and his performance is measured using the residual income
method. Mr. Sy is reviewing the following forecasts for his division for the next year:
Category Amounts
Working capital P 1,800,000
Revenue 30,000,000
Plant and equipment 17,200,000
If the imputed interest charge is 15% and Mr. Sy wants to achieve a residual income of P 2,000,000, what will costs
have to be in order to achieve the targeted residual income?
C a. P 9,000,000 c. P 25,150,000
b. P 10,800,000 d. P 25,690,000
30. Lead Company presented the following information:
Units to be sold 50,000 units
Total costs of the units P 550,000
Fixed capital investments P 1,000,000
Variable capital on sales 20%
What would be the selling price in order to produce a 20% return on investment?
D a. P 15.652 c. P 16.525
b. P 15.256 d. P 15.625
31. The following information is available for the wholesale products division of Aluminum Company:
Net operating profit before interests and taxes P 30,000,000
Depreciation expense 10,000,000
Change in net working capital 5,000,000
Capital expenditures 4,000,000
Invested capital (total assets – current liabilities) 50,000,000
Weighted-average cost of capital 10%
Tax rate 40%
What is the economic value added (EVA) for the division?
D a. P 25,000,0000 c. P 13,500,000
b. P 18,000,0000 d. P 13,000,000
32. Myrrh Co. reported these data at year-end:
Pre-tax operating income P 4,000,000 Current liabilities P 2,000,000
Current assets 4,000,000 Long-term liabilities 5,000,000
Long-term assets 16,000,000 Tax Rate 25%
Assuming a weighted average cost of capital (WACC) of 9%, what is Myrrh Company’s economic value-added (EVA)?
A a. P 1,380,000 c. P 1,830,000
b. P 1,620,000 d. P 3,000,000
33. In theory, what is the optimal method for establishing a transfer price?
D a. Flexible budget cost c. Budgeted cost with or without a markup
b. Incremental cost d. Market price
34. The most fundamental responsibility center affected by the use of market-based transfer prices is a(n)
D a. Production center c. Cost center
b. Investment center d. Profit center
35. A limitation of transfer prices based on actual cost is that they
B a. Charge inefficiencies to the department that is transferring the goods
b. Can lead to suboptimal decisions for the company as a whole
c. Must be adjusted by some markup
d. Lack clarity and administrative convenience
36. Negotiated price is often employed when
B a. Market prices are stable c. Goal congruence is not a major objective
b. Market prices are volatile d. Market prices change by a constant rate each year
37. The AAA Division of a company, which is operating at capacity, produces and sells 1,000 units of a certain electronic
component in a perfectly competitive market. Revenue and cost data are as follows:
Sales: P 50,000
Fixed costs: P 12,000
Variable costs: P 34,000
What is the minimum transfer price that should be charged to the BBB Division for each component?
D a. P 12.00 c. P 46.00
b. P 34.00 d. P 50.00
38. Division A of company is currently operating at 50% capacity. It produces a single product and sells all its production
to outside customers for P 13 per unit. Variable costs are P 7 per unit, and fixed costs are P 6 per unit at the current
production level. Division B, which currently purchases this product from an outside supplier for P 12 per unit, would
like to purchase the product from Division A. Division A will operate at 80% capacity to meet outside customer’s and
Division B’s demand. What is the minimum price that Division A should charge Division B?
A a. P 7.00 per unit c. P 12.00 per unit
b. P 10.40 per unit d. P 13.00 per unit
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ReSA – THE REVIEW SCHOOL OF ACCOUNTANCY MAS-08
Week No. 9: RESPONSIBILITY ACCOUNTING & TRANSFER PRICING
39. An appropriate transfer price between two divisions of the Emerald Co. can be determined from the following data:
Fabricating Division:
Market price of sub-assembly P 50
Variable cost of sub-assembly P 20
Excess capacity 1,000
Assembling Division:
Number of items needed 900
What is the natural bargaining range for the two divisions?
A a. Between P 20 and P 50 c. Any amount less than P 50
b. Between P 50 and P 70 d. P 50 is the only acceptable price
40. The 1st division of Gold Company produces Part I that is to be used by Gold as a key part in its products. Costs and
sales data on Part I are as follows:
Selling price per unit: P 100
Variable cost per unit: P 60
Fixed cost per unit: P 24 (based on 40,000 units capacity per annum)
Gold’s 2nd division is introducing a new product that will use Part I. An outside supplier has quoted 2 nd division a price
of P 96 per unit. This represents the usual P 100 price less a quantity discount due to the large number of 2nd
division’s requirement. If the 2nd division would buy 15,000 units of Part I from the 1st division, the effect on the
corporate-profits would be:
D a. Increase by P 240,000 c. Increase by P 210,000
b. Increase by P 1,500,000 d. Reduce by P 60,000
41. If a transfer price of P 84 is determined using the transfer pricing formula and the lost contribution margin per unit on
outside sales is P 28, then the variable cost per unit must be
B a. P 3 c. P 112
b. P 56 d. P 2,352
42. Division A has the capacity for making 3,000 motors per month and regularly sells 1,950 motors each month on the
intermediate market at a contribution margin of P 62 per motor. Division B, a sister division, would like to obtain 1,400
motors each month from Division A. In computing a transfer price per motor using the transfer pricing formula, the lost
contribution margin per unit portion of the transfer price computation would be
B a. P 26.57 c. P 35.70
b. P 15.50 d. P 62.00
Items 43 to 45 are based on the following information
ABC and XYZ are the only two divisions in the Alphabet Company. ABC makes and sells units that can be sold either to
outside customers or to XYZ. The following data are available from last month:
ABC Division:
Unit selling price to outside customers P 45
Unit variable costs when sold to outside customers P 30
Capacity in units 12,000
Units sold to outside customers 6,000
XYZ Division:
Number of units needed per month 4,000
Unit price paid to an outside supplier P 42
If ABC sells the units to XYZ, ABC can avoid P 2 per wheel in sales commissions.
43. What transfer price would be used according to the transfer pricing formula?
A a. P 28 c. P 42
b. P 30 d. P 45
44. What is the maximum price per wheel that XYZ should be willing to pay ABC if a transfer were to take place?
C a. P 28 c. P 42
b. P 30 d. P 45
45. Suppose that ABC sells 9,000 units each month to outside customers and the transfer pricing formula is used to
determine the transfer price, what is the appropriate transfer price per unit?
B a. P 29.50 c. P 39.25
b. P 31.75 d. P 42.00
Clarifications/Solutions to Selected Self-Test Questions
17. ROI = (311,000 – 250,000 – 50,000) ÷ 40,000
18. ROI = (4,000 - 3,525 – 75) ÷ (625 + 1,775)
23. ROI = (600,000 – 450,000 – 90,000) ÷ [(500,000 + 700,000) ÷ 2]
24. RI = 60,000 – 15% (600,000)
29. RI = 2M = (30M – costs) – 15% (1.8M + 17.2M)
30. SP – selling price: Sales – Costs = Profit 50,000 (SP) – 550,000 = 20% [1M + 20% (50,000 SP)]
31. EVA = 30M (1 – 0.4) – 10% (50 M)
32. EVA = 4M (1 - 0.25) – 9% (4M + 16M – 2M)
35. Minimum transfer price (at capacity): P 50,000 ÷ 1,000 units
41. Transfer price = outlay costs + opportunity costs 84 = variable costs + 28
42. Excess capacity: 3,000 – 1,950 = 1,050 units Lost CM: (1,400 – 1,050) 62 = 21,700
Lost CM per unit: 21,700 ÷ 1,400 units
43. Transfer price: 30 – 2
44. Maximum transfer price (for buying vision) is based on the purchase price from outside supplier.
45. Excess capacity: 12,000 – 9,000 = 3,000 units Lost CM: (4,000 – 3,000) x (45 – 30) = 15,000
Transfer price: 28 + (15,000 ÷ 4,000)
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