Chapter 13 Testbank Key

1. The return on investment can be defined as:

A. capital invested divided by total sales.
B. total sales divided by capital invested.
C. profit divided by capital invested.
D. profit divided by total sales.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)

2. Calculate the return on investment of new equipment in the first year if:
profit = $3 000 000
invested capital = $45 000 000
increase in divisional profits = $45 000
purchase of new machine = $900 000
A. 5%
B. 6.66%
C. 1.5%
D. None of the given answers

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)

3. The asset turnover of an organisation can be calculated as:

A. the amount of sales revenue divided by total invested capital.
B. total invested capital divided by sales revenue.
C. total sales revenue divided by profit.
D. profit divided by sales margin.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)

4. Bricker Fabrics reported a profit margin during the year of 20 per cent and an investment turnover of 40 per cent. What
was its return on investment for the year?
A. 50%
B. 20%
C. 8%
D. 2%

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)
5. Joy Home Fashions reported a return on investment during the year of 6 per cent and a profit margin of 12 per cent.
What was the investment turnover for the year?
A. 18%
B. 50%
C. 72%
D. 20%

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)

6. For Mildura Ltd, if the sales are $1 500 000, the invested capital $450 000 and the profit $90 000, what is the asset
turnover for the year?
A. 20%
B. 5%
C. 30%
D. 333%

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)

7. The following information pertains to Bingo Concrete for the year 2008:
Sales are $1 500 000
Gross margin is $600 000
Profit is $90 000
What is the profit margin for the year?
A. 40%
B. 30%
C. 20%
D. 6%

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)

8. For Echuca Ltd sales are $1 500 000, profit is $90 000, invested capital is $450 000 and the interest rate is 8 per cent.
What is the residual income for the year?
A. ($30 000)
B. $54 000
C. $82 800
D. $36 000

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.04 Calculate residual income (RI) for an investment centre, and describe some advantages and disadvantages of using RI to
evaluate performance
9. Holt Company Ltd determined residual income for the year of $22 000. The company's cost of capital was 12 per cent,
the investment turnover was 2.0, and capital invested was $400 000. What was Holt Company's profit during the year?
A. $26 000
B. $48 000
C. $74 000
D. $70 000

AACSB: Analytical
Difficulty: Medium
Learning Objective: 13.04 Calculate residual income (RI) for an investment centre, and describe some advantages and disadvantages of using RI to
evaluate performance

10. Fine Furnishings Pty Ltd earned residual income of $40 000 during the year. The net profit was $160 000 during the
year and the cost of capital was 12 per cent. What was the return on investment for the year?
A. 9%
B. 12%
C. 16%
D. Insufficient information to determine

AACSB: Analytical
Difficulty: Medium
Learning Objective: 13.04 Calculate residual income (RI) for an investment centre, and describe some advantages and disadvantages of using RI to
evaluate performance

11. Precious Metals Pty Ltd earned residual income of $70 000 during the year. The net profit was $250 000 during the
year and the required return was 15 per cent. What was the invested capital?
A. $1 200 000
B. $1 500 000
C. $1 400 000
D. $1 300 000

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.04 Calculate residual income (RI) for an investment centre, and describe some advantages and disadvantages of using RI to
evaluate performance
12.

Calculate the asset turnover from the following data:

A. 0.07
B. 0.67
C. 0.53
D. 0.05

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)

13. One of the disadvantages of return on investment is that:

A. it focuses on profit only and disregards the cost of the assets.
B. it may discourage managers from investing in profitable projects.
C. it does not enable comparison of investment centres of different sizes.
D. it focuses only on long-term performance.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.02 Describe some advantages and limitations of ROI as a measure of performance of investment centres

14. The advantage of residual income as a measure of investment centre performance is:
A. it can be used to compare investment centres of different sizes.
B. it focuses on long-term performance.
C. it includes the organisation's minimum required rate of return.
D. it can be used to compare investment centres of different sizes AND it includes the organisation's minimum required
rate of return.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.04 Calculate residual income (RI) for an investment centre, and describe some advantages and disadvantages of using RI to
evaluate performance

15. Which of the following gives a more accurate calculation of return on investment and residual income?
A. Total capital invested
B. Total assets
C. Average invested capital
D. Average cost of capital

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.05 Recognise the reasons for the various definitions of profit and invested capital that can be used in the calculation of return on
investment and residual income
16. Net book value produces a misleading increase in return on investment because:
A. investment centres with old assets will show a higher return on investment than centres with new assets.
B. investment centres with old assets will show a lower return on investment than investment centres with new assets.
C. investment centres with old assets will show an equal return on investment centres with new assets.
D. book value reflects changing market values.

AACSB: Reflective
Difficulty: Medium
Learning Objective: 13.05 Recognise the reasons for the various definitions of profit and invested capital that can be used in the calculation of return on
investment and residual income

17. One of the advantages of using net book value to measure invested capital is that:
A. it maintains consistency with the balance sheet prepared for external reporting purposes.
B. it allows comparison of return on investment with different companies.
C. the return on investment will increase steadily over time.
D. it maintains consistency with the balance sheet prepared for external reporting purposes AND it allows comparison of
return on investment with different companies.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.05 Recognise the reasons for the various definitions of profit and invested capital that can be used in the calculation of return on
investment and residual income

18. Managers' performance in an investment centre can best be evaluated by:

A. the total revenue under their control.
B. the total capital invested in the organisation and the sizeable amount of return.
C. the profit earned during a period less all revenues.
D. those revenues, costs and investments that they can control.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)

19.

Which of the following statements is false?

A. Tying rewards to a profit-based measure can provide an incentive for managers to manipulate accounting results.
B. Pay systems can be used at all levels of the organisation.
C. Pay systems focus on long-term results.
D.

A pay system can include both cash and non-cash rewards.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.11 Identify the different forms of performance-related pay systems used in organisations
20. Which of the following is an example of an intrinsic reward?
A. Cash bonus
B. Personal satisfaction
C. Larger office
D. Certificate of merit

AACSB: Reflective
Difficulty: Medium
Learning Objective: 13.09 Recognise the difference between intrinsic and extrinsic sources of motivation

21. Which of the following statements is false?

A. Group reward schemes help people identify with the group.
B. Group reward schemes discriminate between good and bad performers.
C. Group reward schemes avoid excessive competition between employees.
D. Group reward schemes may encourage 'freeloaders'.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.11 Identify the different forms of performance-related pay systems used in organisations

22. The profitability of an investment centre can best be evaluated by:

A. the revenues, costs and investment the manager can control.
B. the total capital invested in the organisation and the sizeable amount of return.
C. the profit margin and the investment capital traceable to the investment centre.
D. the divisional contribution margin.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)

23. Which of the following statements is/are correct?

A. Invested capital is the assets that an investment centre has available to generate profit.
B. When evaluating an investment centre, only the profit is important.
C. Return on investment focuses on how effectively each investment centre has used its investment capital.
D. Invested capital represents the assets that an investment centre has available to generate profit AND return on
investment focuses on how effectively each investment centre has used its investment capital.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)

24. Which of the following is the correct mathematical expression for return on investment?
A. Sales margin  capital turnover
B. Sales margin – capital turnover
C. Sales margin  capital turnover
D. Capital turnover  sales margin

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)
25. White Hills Ltd reported a return on investment of 12 per cent, a capital turnover of 5 and income of $180 000. What
was the company's invested capital?
A. $300 000
B. $900 000
C. $1 500 000
D. $7 500 000

AACSB: Analytical
Difficulty: Medium
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)

26. The northern division of Aussie Estates has reported a profit of $4 million. Divisional invested capital is $2.5 million
and the imputed interest rate is 12 per cent. What is the residual income?
A. $180 000
B. $1.78 million
C. $2.15 million
D. $3 700 000

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.04 Calculate residual income (RI) for an investment centre, and describe some advantages and disadvantages of using RI to
evaluate performance

27. The Extan division of World Corporation reported a residual income of $200 000. The division had $8 million of
invested capital and a profit of $1 million. What is the imputed interest rate?
A. 7.5%
B. 10.0%
C. 12.5%
D. 20%

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.04 Calculate residual income (RI) for an investment centre, and describe some advantages and disadvantages of using RI to
evaluate performance

28. Speedy Ltd has an imputed interest rate of 12 per cent. Division Z of Speedy Ltd has invested capital of $800 000 and
a return on investment of 15 per cent. What is the residual income?
A. ($24 000)
B. $24 000
C. $96 000
D. None of the given answers

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.04 Calculate residual income (RI) for an investment centre, and describe some advantages and disadvantages of using RI to
evaluate performance
29. Return on investment may be improved by increasing:
A. cost of goods sold and expenses.
B. sales margin and cost of capital.
C. sales revenue and cost of capital.
D. capital turnover or sales margin.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)

30. All the following actions will increase return on investment except:
A. an increase in sales revenues.
B. a decrease in operating expenses.
C. a decrease in the company's invested capital.
D. a decrease in the number of units sold.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)

31. Given that return on investment measures performance over time, the invested capital would most appropriately be
calculated by using:
A. beginning of year assets.
B. average assets.
C. total assets.
D. current assets.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.05 Recognise the reasons for the various definitions of profit and invested capital that can be used in the calculation of return on
investment and residual income

32. Which of the following measures of performance is based, in part, on weighted average cost of capital?
A. Return on investment
B. Capital turnover
C. Return on sales
D. Economic value added

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.07 Evaluate and calculate economic value added (EVA®) and shareholder value added (SVA) as measures of investment centre
performance
33. Tentafield Ltd has an after tax operating income of $2.6 million, assets totalling $8 million and current liabilities totalling
$400 000. The weighted average cost of capital is 10 per cent. What is the economic value added?
A. $1 400 000
B. $1 800 000
C. $1 840 000
D. None of the given answers

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.07 Evaluate and calculate economic value added (EVA®) and shareholder value added (SVA) as measures of investment centre
performance

34.

The following information relates to Black's Mount Ltd:

What is its economic value added?

A. $120 000
B. $180 000
C. $240 000
D. $292 000

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.07 Evaluate and calculate economic value added (EVA®) and shareholder value added (SVA) as measures of investment centre
performance

35. Which of the following are value drivers (i.e. create value for the business)?
i. Growth
ii. Sustainability
iii. Spread
iv. Cost of capital
A. i, ii and iii
B. ii, iii and iv
C. i, iii and iv
D. All of the given answers

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.06 Explain how shareholder value can be measured and used to manage performance
36. Which of the following strategies may increase economic value added?
A. Increase profit as a percentage of capital employed.
B. Borrow additional funds and invest in assets that earn more than the weighted average cost of capital.
C. Sell off assets that earn more than the weighted average cost of capital.
D.

Increase profit as a percentage of capital employed AND borrow additional funds and invest in assets that earn more than the weighted
average cost of capital.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.07 Evaluate and calculate economic value added (EVA®) and shareholder value added (SVA) as measures of investment centre
performance

37. Shareholder value added may be defined as:

A. corporate value – market value of the company.
B. corporate value – market value of debt.
C. corporate value – present value of liabilities.
D. corporate value – current liabilities.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.07 Evaluate and calculate economic value added (EVA®) and shareholder value added (SVA) as measures of investment centre
performance

38. Which of the following are, according to Herzberg, motivating factors?

A. Recognition
B. Working conditions
C. Relationships with colleagues
D. Recognition AND working conditions

AACSB: Analytic
Difficulty: Easy
Learning Objective: 13.10 Describe the differences between Herzberg's two-factor theory and the expectancy theory of motivation

39. Which of the following is/are, according to Herzberg, hygiene factors?

A. Recognition
B. Working conditions
C. Relationships with colleagues
D. Working conditions AND relationships with colleagues

AACSB: Analytic
Difficulty: Easy
Learning Objective: 13.10 Describe the differences between Herzberg's two-factor theory and the expectancy theory of motivation
40. Which of the following is/are an extrinsic reward?
A. Share options
B. Job satisfaction
C. Promotion
D. Share options AND promotion

AACSB: Analytic
Difficulty: Easy
Learning Objective: 13.09 Recognise the difference between intrinsic and extrinsic sources of motivation

41. Which of the following is/are an intrinsic reward?

A. Share options
B. Job satisfaction
C. Promotion
D. Share options AND job satisfaction

AACSB: Analytic
Difficulty: Easy
Learning Objective: 13.09 Recognise the difference between intrinsic and extrinsic sources of motivation

42. Which of the following statements is/are correct when describing expectancy theory?
i. The preference that an employee has for a particular reward is called valence.
ii. Expectancy is the likelihood of achieving the performance necessary to earn the reward.
iii. An individual's perception that the effort put into a task will lead to a specific reward outcome is fundamental to
expectancy theory.
A. i and ii
B. ii and iii
C. i and iii
D. All of the given answers

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.09 Recognise the difference between intrinsic and extrinsic sources of motivation

43. Which of the following are included in performance-related pay systems?

i. Share options
ii. Profit sharing
iii. Team-based bonuses
A. i and ii
B. i and iii
C. ii and iii
D. All of the given answers

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.11 Identify the different forms of performance-related pay systems used in organisations
44. Individual reward schemes have which of the following advantages?
i. They relate to individual effort.
ii. They reward only good performers.
iii. They discourage dysfunctional competition between individuals.
A. i and ii
B. i and iii
C. ii and iii
D. None of the given answers

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.11 Identify the different forms of performance-related pay systems used in organisations

45. For which of the following reasons are group pay systems often preferred to individual schemes?
i. They encourage teamwork.
ii. They reduce dysfunctional competition between employees.
iii. They promote equity between employees.
A. i and ii
B. ii and iii
C. i and iii
D. All of the given answers

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.11 Identify the different forms of performance-related pay systems used in organisations

46. Which of the following may be implemented as targets for a group or company-wide performance reward scheme?
i. Employee absenteeism
ii. Lost-time accidents
iii. Customer satisfaction
A. i and ii
B. ii and iii
C. i and iii
D. All of the given answers

AACSB: Analytic
Difficulty: Easy
Learning Objective: 13.11 Identify the different forms of performance-related pay systems used in organisations
47. Sunrise Dairies has a return on investment of 15 per cent. A Sunrise division, which currently has a return on
investment of 13 per cent and $750 000 of residual income, is contemplating a large investment that will (1) reduce
divisional return on investment and (2) produce residual income of $120 000. If Sunrise strives for goal congruence, the
investment:
A. should not be approved because it reduces divisional return on investment.
B. should not be approved because the division's return on investment is less than the corporate return on investment
before the investment is considered.
C. should be approved because it produces $120 000 residual income for the division.
D. should be approved because, after acquisition, the division's return on investment and residual income are both
positive numbers.

AACSB: Analytic
Difficulty: Easy
Learning Objective: 13.03 Explain how the negative behavioural incentives associated with using return on investment to evaluate performance can be
minimised
Learning Objective: 13.04 Calculate residual income (RI) for an investment centre, and describe some advantages and disadvantages of using RI to
evaluate performance

48. The Fitzroy division of Brisbane Enterprises has negative residual income of $540 000. Fitzroy's management is
considering an investment opportunity that will reduce this negative amount to $400 000. The investment:
A. should be pursued because it is attractive from divisional and corporate perspectives.
B. should be pursued because it is attractive from a divisional perspective although not from a corporate perspective.
C. should be pursued because it is attractive from a corporate perspective, although not from a divisional perspective.
D. should not be pursued because it is unattractive from a divisional perspective although it is attractive from a corporate
perspective.

AACSB: Analytic
Difficulty: Easy
Learning Objective: 13.04 Calculate residual income (RI) for an investment centre, and describe some advantages and disadvantages of using RI to
evaluate performance
49. (p. 611)

Carlton division has been stagnant for the past ive years, neither growing nor contracing in size and proitability.
Investment in new property, plant and equipment has been minimal. Would the division's use of total assets (valued at
net book value) when measuring return on investment result in (1) using numbers that are consistent with those in the
balance sheet and (2) a rising return on investment over ime?

Consistent with numbers on the balance sheet Produce a rising return on investment over time

A.
Yes Yes

B.
No Yes

C.
No No

D.
Yes Need more information to judge

Difficulty: Medium
Learning Objective: 13.05 Recognise the reasons for the various definitions of profit and invested capital that can be used in the calculation of return on
investment and residual income

50. The income calculation for a divisional manager's return on investment should be based on:
A. divisional contribution margin.
B. profit margin controllable by the divisional manager.
C. profit margin traceable to the division.
D. division income before interest and income tax.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)

51. Which of the following is used in the calculation of both return on investment and residual income?
A. Total shareholders' equity
B. Retained earnings
C. Invested capital
D. Cost of capital

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.04 Calculate residual income (RI) for an investment centre, and describe some advantages and disadvantages of using RI to
evaluate performance
Learning Objective: 13.07 Evaluate and calculate economic value added (EVA®) and shareholder value added (SVA) as measures of investment centre
performance
52. Which of the following statements is/are false?
i. Return on investment encourages managers to take a long-term view of corporate performance.
ii. Return on investment may encourage managers to defer the replacement of worn assets.
iii. Return on investment may encourage managers to increase expenditure on research and development.
A. i and ii
B. ii and iii
C. i and iii
D. All of the given answers

AACSB: Reflective
Difficulty: Medium
Learning Objective: 13.02 Describe some advantages and limitations of ROI as a measure of performance of investment centres

53. A division of a firm has a net profit of $640 000 before imputed interest and a residual income of $240 000. If a rate of
10 per cent is used to compute imputed interest, calculate the division's return on investment (rounded to a whole
number).
A. 4%
B. 10%
C. 16%
D. 35%

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)
Learning Objective: 13.04 Calculate residual income (RI) for an investment centre, and describe some advantages and disadvantages of using RI to
evaluate performance

54. Which of the following items do not form part of the economic value added calculation?
A. Weighted average cost of capital
B.

Book value of equity

C. Market value of equity

D. Income tax rate

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.07 Evaluate and calculate economic value added (EVA®) and shareholder value added (SVA) as measures of investment centre
performance
55.

Richard's Division of Richard and Sons has the following data related to a particular period:

Calculate the amount of residual income for the period.

A. $70 000
B. $7000
C. $77 000
D. $680 000

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.07 Evaluate and calculate economic value added (EVA®) and shareholder value added (SVA) as measures of investment centre
performance

56.

Richard's Division of Richard and Sons has the following data related to a particular period:

Calculate the return on investment for the period.

A. 11%
B. 10%
C. 4%
D. Always the same as the imputed interest rate

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)
57.

Richard's Division of Richard and Sons has the following data related to a particular period:

Calculate the return on sales for the period.

A. 4%
B. 11%
C. 40%
D. 0.4%

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)

58.

Richard's Division of Richard and Sons has the following data related to a particular period:

Calculate the investment turnover (rounded) for the period.

A. 0.37 times
B. 11 times
C. 0.11 times
D. 2.7 times

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)
59. Which of the following items will be most relevant in determining the imputed interest rate for the purposes of
calculating residual income?
A. Final net profit
B. Return on investment
C. Investment turnover
D. Riskiness of investments undertaken

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.04 Calculate residual income (RI) for an investment centre, and describe some advantages and disadvantages of using RI to
evaluate performance

60. The return on investment of a division will increase if the division is able to:
A. increase return on sales and increase investment turnover.
B. increase return on sales or increase investment turnover.
C. increase sales revenue and decrease asset turnover.
D. increase return on sales and/or increase investment turnover.

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)

61. Jasmine Dimm is a call centre manager for Tostra, a mobile phone company. Call centre operators at her call centre
are responsible for answering calls from Tostra customers. Some calls are very short, relating to simple enquiries.
However, a majority of calls tend to be longer, coming from irate customers complaining about Tostra's services. In these
calls, customers are often very emotional and sometimes even abusive. Call operators have no control over what types of
calls they get.
Jasmine has developed a new incentive system for her call centre staff. Under the new system, call centre operators are
rewarded if they achieve two performance targets: (1) the duration of 90 per cent of the calls is less than 4 minutes and
(2) 80 per cent of customers rate Tostra's 'customer service quality' as 'excellent'. Achieving these two monthly
performance targets will result in a bonus worth 20 per cent of the call operator's monthly salary.
Based on expectancy theory, the major limitation(s) of Jasmine's reward system is:
A. the incentive system lacks valence and instrumentality.
B. the incentive system lacks expectancy.
C. the incentive system lacks instrumentality.
D. the incentive system lacks expectancy and instrumentality.

AACSB: Reflective
Difficulty: Medium
Learning Objective: 13.10 Describe the differences between Herzberg's two-factor theory and the expectancy theory of motivation
62. Jasmine Dimm is a call centre manager for Tostra, a mobile phone company. Call centre operators at her call centre
are responsible for making sales calls to customers to promote Tostra's new products. Jasmine sets two performance
targets for her operators: sales and average call duration. Every 6 months, any call centre operator who can achieve both
targets goes into a random draw with a one-in-ten chance of winning a $50 supermarket giftcard.
All her call centre operators agree that these two targets are clearly specified, objectively measured and achievable with
hard work. However, the call centre operators are still unhappy with the new incentive system. According to the
expectancy theory, this is because:
A. the incentive system lacks valence and instrumentality.
B. the incentive system lacks expectancy.
C. the incentive system lacks expectancy and valence.
D. the incentive system lacks expectancy and instrumentality.

AACSB: Reflective
Difficulty: Medium
Learning Objective: 13.10 Describe the differences between Herzberg's two-factor theory and the expectancy theory of motivation

63.

A group-based reward system is appropriate when:

i. team work is important and employees need to work together to achieve organisational goals.
ii. it is easy to see individual's effort and performance.
iii it is important to discriminate between good performers and bad performers.

A. i
B. i and ii
C. i and iii
D. ii and iii

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.12 Outline the advantages and disadvantages associated with group versus individual rewards

64. Which of the following information is required to compute SVA (shareholder value added)?
i. PV of cash flows from operations for a certain time period
ii Residual value of the business
iii EVA (economic value added)
A. i and ii
B. i and iii
C. i, ii and iii
D. i

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.07 Evaluate and calculate economic value added (EVA®) and shareholder value added (SVA) as measures of investment centre
performance
65. Which of the following is a key difference between EVA and residual income?
A. The weighted average cost of capital is used to calculate EVA, but not necessarily for residual income.
B. Net profit is used to calculate residual income but is irrelevant for EVA.
C. EVA has a long term focus, but residual income has a short term focus.
D. There is no difference between EVA and residual income.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.07 Evaluate and calculate economic value added (EVA®) and shareholder value added (SVA) as measures of investment centre
performance

66.

The following information is available for Jittie Ltd:

The WACC for Jittie Ltd is:

A. 7.6%
B. 9.25%
C. 10.9%
D. 9.5%

AACSB: Analytical
Difficulty: Easy
Learning Objective: 13.07 Evaluate and calculate economic value added (EVA®) and shareholder value added (SVA) as measures of investment centre
performance
67.

The following information is available for Nettie Ltd:

The company tax rate is 30 per cent. WACC is:

A. 11.2%
B. 10%
C. 7.8%
D. 9.5%

AACSB: Analytical
Difficulty: Medium
Learning Objective: 13.07 Evaluate and calculate economic value added (EVA®) and shareholder value added (SVA) as measures of investment centre
performance

68. Value-based management refers to:

A. a framework for applying EVA to all business decisions.
B. a framework for making key business decisions that add economic value to the business.
C. a philosophy that management should focus on creating customer value.
D. a valuation technique that uses discounted cash flows to estimate imputed cost of capital.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.06 Explain how shareholder value can be measured and used to manage performance

69. Which of the following statements about developing reward system is incorrect?
A. The key benefit of a profit sharing plan is to encourage employees to think like owners.
B. The key benefit of gain sharing plan is to introduce equity, ensuring the employees who contribute to the business can
get a share of the gains.
C. The key benefit of an employee share plan is to reduce free-riding problems.
D. The key benefit of an individual-based incentive system is to highlight improved expectancy and instrumentality.

AACSB: Reflective
Difficulty: Medium
Learning Objective: 13.11 Identify the different forms of performance-related pay systems used in organisations
70. Braham Farms has a return on investment of 15 per cent. A Braham division, which currently has a return on
investment of 13 per cent and $375 000 of residual income, is contemplating a large investment that will (1) reduce
divisional return on investment and (2) produce residual income of $60 000. If Braham strives for goal congruence, the
investment:
A. should not be approved because it reduces divisional return on investment.
B. should not be approved because the division's return on investment is less than the corporate return on investment
before the investment is considered.
C. should be approved because it produces $60 000 residual income for the division.
D. should be approved because, after acquisition, the division's return on investment and residual income are both
positive numbers.

AACSB: Analytic
Difficulty: Easy
Learning Objective: 13.03 Explain how the negative behavioural incentives associated with using return on investment to evaluate performance can be
minimised
Learning Objective: 13.04 Calculate residual income (RI) for an investment centre, and describe some advantages and disadvantages of using RI to
evaluate performance

71. When employees feel that they have made a significant achievement in reaching the purpose of the task they are
working on, this has been identified (Robbins et al., 2004; Thomas, 2000) as:
A. competence.
B. progress.
C. meaningfulness.
D. choice.

AACSB: Reflective
Difficulty: Medium
Learning Objective: 13.08 Explain how reward systems can be designed and used to enhance goal congruence

72. When employees have the opportunity in the larger scheme of things, to pursue a task that they consider worthy, this
has been identified (Robbins et al., 2004; Thomas, 2000) as:
A. competence.
B. progress.
C. meaningfulness.
D. choice.

AACSB: Reflective
Difficulty: Medium
Learning Objective: 13.08 Explain how reward systems can be designed and used to enhance goal congruence

73. Which of the following would be considered an advantage of a group scheme?

A. Equity among employees
B. Rewarding only good performers
C. Competitiveness between employees
D. Individual identification

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.12 Outline the advantages and disadvantages associated with group versus individual rewards
74. Under a deferred payment incentive schemes managers are likely to:
A. maximise short-term profit.
B. focus on short-term plans.
C. maximise medium and long-term profits.
D. strive for short-term performance.

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.13 Recognise the importance of the frequency and timing of the payment of incentive payments to enhance motivation and
performance

75. Providing an employee incentive scheme that offers more frequent and timely incentives will:
A. discourage employees from making performance targets.
B. continually motivate employees.
C. not impact on an employee's performance.
D. provide no indication of an employee's target achievements.

AACSB: Reflective
Difficulty: Medium
Learning Objective: 13.13 Recognise the importance of the frequency and timing of the payment of incentive payments to enhance motivation and
performance

76. Jasmine Dimm is a call centre manager for Tostra, a mobile phone company. Call centre operators at her call centre
are responsible for answering calls from Tostra customers. Some calls are very short, relating to simple enquiries.
However, a majority of calls tend to be longer, coming from irate customers complaining about Tostra's services. For these
calls, customers are often very emotional and sometimes even abusive. The call centre operators are only responsible for
documenting the complaints and are generally unable to solve the problems for the customers.
Jasmine has developed a new reward system for her call centre staff. Under the new system, call centre operators are
rewarded with a substantial bonus (20 per cent of annual salary) if they achieve two performance targets: (1) a target set
on average call duration; and (2) a target based on 'customer service quality'. While the call centre operators working for
Jasmine all agree that these performance targets are reasonable, they are unhappy with Jasmine's overbearing
personality. Many operators are also experiencing a lot of stress when dealing with rude customers.
Discuss the limitations of Jasmine's new reward system, using the concept of intrinsic motivation and extrinsic motivation.

Extrinsic motivations are derived from outside of the individual. Intrinsic motivations are derived from the interests and
enjoyment at work. Jasmine's reward system focuses only on extrinsic rewards, namely the substantial financial bonuses.
However, because of Jasmine's overbearing personality, it is likely employees do not feel happy or satisfied working under
her. Answering calls from complaining customers are not likely to result in job satisfaction, especially if there is nothing the
operator can do to solve customers' problems. Thus, the work is unlikely to be meaningful and intrinsic motivation will be
low.

AACSB: Communication
Difficulty: Hard
Learning Objective: 13.09 Recognise the difference between intrinsic and extrinsic sources of motivation
77. Identify and describe two advantages and two limitations of using return on investment (ROI) to evaluate the
performance of investment centres.

The Advantages of ROI

Return on investment is used by many decentralised businesses to evaluate the performance of investment centres. It has some
positive features:
1. It encourages managers to focus on both profits and the assets required to generate those profits. Thus, managers of investment
centres must consider the relationships between profits and invested capital. It discourages excessive investment in assets, which may
occur if performance is measured only on absolute profit. It also encourages managers to focus on increasing revenue and reducing
costs.
2. Return on investment can be used to evaluate the relative performance of investment centres, even when those business units have
different scales of operations. Thus, we can compare the ROI of a small business with that of a large business.
THE LIMITATIONS OF ROI
Against these advantages, a significant emphasis on achieving ROI can lead to dysfunctional decisions:
1. It can encourage managers to focus on short-term financial performance, at the expense of the long term. Many ways of increasing
ROI can result in reduced performance in the future. Excessive cost-cutting activities can improve profit, and hence short-term ROI, but
weaken future profits and the business's future competitiveness. For example, research and development, or training expenditure, can
be deferred. Reducing employee numbers can increase profit but may affect product quality or the level of customer service.
2. Return on investment can encourage managers to defer asset replacement. Asset replacement may be deferred (particularly when
those old assets are fully depreciated), as the purchase of new assets would boost the size of the invested capital. Deferring the
replacement of assets may improve ROI in the short term, but erode the competitiveness and profits of the business in later years.
Disposing of productive assets can decrease the investment base and increase ROI, but also reduce the capacity of the business and
future profits/ROI. These problems are partially caused by the way in which assets are measured in the ROI calculation.
3. Return on investment may discourage managers from investing in projects that are acceptable from the total organisation's point of
view. This will occur when the project decreases the investment centre's ROI.

AACSB: Communication
AACSB: Reflective
Difficulty: Medium
Learning Objective: 13.02 Describe some advantages and limitations of ROI as a measure of performance of investment centres

78. Discuss three ways that the problems associated with using Return on Investment (ROI) can be minimised.

The problems associated with ROI can be minimised in the following ways.
1. Using ROI as only one of a series of performance measures that focus on both short-term and long-term performance.
This approach is taken by many companies. A more balanced set of measures (both financial and non-financial) can
counter the dysfunctional incentives associated with ROI.
2. Considering alternative ways of measuring invested capital, so that the replacement of an asset is less likely to result in
a reduction of ROI. Many businesses measure invested capital at its carrying amount, which is often low at the time of
asset replacement. If alternative measures of invested capital, such as market value or replacement cost, are used, the
replacement decision will not cause a major change in the investment base.
3. Using alternative financial measures, such as residual income or economic value added.

AACSB: Communication
AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.03 Explain how the negative behavioural incentives associated with using return on investment to evaluate performance can be
minimised
79. When measuring profit and invested capital, managers have to decide how they will define what will be included in
invested capital, then apply that definition consistently throughout the one organisation. Identify and explain with an
example, the three definitions of invested capital that can be applied.

Exhibit 13.1 shows that the Smelting business had balances at the end of the financial year of $185 million in current assets; $700
million in non-current assets such as plant and equipment; and $15 million tied up in a plant under construction. In addition, the balance
of current liabilities was $110 million.
There are several ways of defining 'invested capital':
Total assets. This measure of invested capital is appropriate if the investment centre manager is responsible for decisions about all of
the assets of the investment centre, including non-productive assets.
Total productive assets. In some companies, investment centre managers may be directed by corporate management to retain non-
productive assets such as vacant land or construction in progress. In such cases it is appropriate to exclude these non-productive
assets from the measure of invested capital. Under this alternative, $885 million would have been used in the ROI and residual income
calculations (total assets of $900 million less $15 million for the plant under construction).
Total assets less current liabilities. In some companies, managers in investment centres manage certain short-term liabilities, including
short-term bank loans and employee entitlements such as the provision for long-service leave. In these cases, invested capital can be
measured as total assets less current liabilities. This approach encourages the managers to minimise resources tied up in assets and to
manage the use of short-term credit to finance operations. If this approach had been used by the Smelting business, the invested
capital would have been $790 million (total assets of $900 million less current liabilities of $110 million).

AACSB: Analytical
AACSB: Communication
AACSB: Reflective
Difficulty: Medium
Learning Objective: 13.05 Recognise the reasons for the various definitions of profit and invested capital that can be used in the calculation of return on
investment and residual income
80. Value-based management (VBM) is a framework for making key decisions that add economic value to the business.
Morin & Jarrell (2001) identified four aspects of VBM. Identify these four aspects and in your own words outline how these
aspects assist managers in their decision making.

When organisations use shareholder value analysis to manage their business, they are said to be practising value-based management
(VBM), which is a framework for making key business decisions that add economic value to the business. A particular strategy or
decision creates shareholder value, where the return on capital is greater than the cost of capital. Thus, managers need to understand
how to generate, evaluate and select business strategies, or undertake activities that will increase the value of the firm. This involves
being able to measure the value created from decisions, such as whether to acquire a new business or move into new markets. Product
lines or business units that are not providing sufficient value may be deleted, and the outcomes of a proposed project or asset
acquisition can be analysed in terms of value creation.
There are four aspects of VBM: valuation, strategy, finance and corporate governance (Morin & Jarrell, 2001).
Valuation
Value can be measured in several ways. Discounted cash flow (DCF) models are commonly used to measure value. The use of DCF
to measure shareholder value makes sense, as investors and the capital markets often value a business based on the discounted
future cash flows of the business. In some cases, however, it is difficult to measure such cash flows, so surrogates may be used. For
example, the market capitalisation of the company—that is, the market price per share multiplied by the number of shares on issue—
may be used.
To increase the value of a firm, managers need to understand the drivers of value. Value drivers are the activities or actions that create
value for a business. These drivers include:
spread, which is the degree to which a firm can earn a return that is greater than its cost of capital;
growth in funds available to invest in value-creation activities;
sustainability of those funds over many years; and
cost of capital.
The first three drivers increase cash flow, which interacts with the cost of capital to increase shareholder value.
Strategy, finance and corporate governance
The other three aspects of VBM are strategy, finance and corporate governance. Strategic decisions have a substantial and continuing
impact on the value of a business. Valuation techniques can assist managers to compare the value created by alternative differentiation
or cost strategies. Financial policies, such as the adoption of particular financial and capital structures that reduce the cost of capital,
will also influence value creation.
Corporate governance involves selecting and implementing systems that contribute to value creation. Performance measures can be
developed to measure the value-creating performance of business units and managers. Managerial reward systems can be designed to
link managers' compensation to their performance in creating value, as well as to guide managers' value creation activities.

AACSB: Communication
AACSB: Reflective
Difficulty: Hard
Learning Objective: 13.06 Explain how shareholder value can be measured and used to manage performance

81. Motivation of staff is a key factor in a company achieving their goals and ensuring goal congruence.
TRUE

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.09 Recognise the difference between intrinsic and extrinsic sources of motivation

82. Invested capital can be defined as net assets, total assets, productive assets or working capital.
FALSE

AACSB: Reflective
Difficulty: Medium
Learning Objective: 13.05 Recognise the reasons for the various definitions of profit and invested capital that can be used in the calculation of return on
investment and residual income
83. When using residual income, some companies prefer to use the weighted average cost of capital as a basis for
determining the imputed interest charge.
TRUE

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.04 Calculate residual income (RI) for an investment centre, and describe some advantages and disadvantages of using RI to
evaluate performance

84. Companies using value-based management operate within a framework of making key decisions that add economic
value to the business.
TRUE

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.07 Evaluate and calculate economic value added (EVA®) and shareholder value added (SVA) as measures of investment centre
performance

85. The formula for economic value added and the residual income are interchangeable.
FALSE

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.07 Evaluate and calculate economic value added (EVA®) and shareholder value added (SVA) as measures of investment centre
performance

86. Gainsharing is one system companies can use to distribute cash bonuses to employees when the performance of
their segment outperforms the set target.
TRUE

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.11 Identify the different forms of performance-related pay systems used in organisations

87. One of the main advantages of return on investment is that it can be used with some responsibility centres to evaluate
performance.
TRUE

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.02 Describe some advantages and limitations of ROI as a measure of performance of investment centres

88. Expectancy theory relates employee motivation to valence, expectancy and instrumentality.
TRUE

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.09 Recognise the difference between intrinsic and extrinsic sources of motivation
89. Designing incentive schemes systems is an easy process and is a definite way of ensuring goal congruence.
FALSE

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.08 Explain how reward systems can be designed and used to enhance goal congruence

90. Return on equity and investment turnover are the components of the expanded return on investment [ROI] formula
that enables management to identify ways of improving the ROI.
FALSE

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.01 Calculate an investment centre's return on investment (ROI)

91. The imputed interest rate is the firm's required rate of return.
TRUE

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.04 Calculate residual income (RI) for an investment centre, and describe some advantages and disadvantages of using RI to
evaluate performance

92. Value drivers are the activities or actions that decrease value for a business.
FALSE

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.06 Explain how shareholder value can be measured and used to manage performance

93. According to Herzberg's two-factor theory, the degree to which the outcome satisfies the individual's goals, and the
attractiveness of the reward for the individual is known as valence.
TRUE

AACSB: Reflective
Difficulty: Easy
Learning Objective: 13.10 Describe the differences between Herzberg's two-factor theory and the expectancy theory of motivation