AAT L4 Transfer Pricing and Divisional Performance

Question 1

Division A has operating profit of £150,000 and net assets of £600,000. What is Division A's Return on Investment (ROI)?

Accepted Answer

25%

Answer

ROI = Operating Profit ÷ Capital Employed = £150,000 ÷ £600,000 = 25%.

Question 2

What is the MINIMUM transfer price a selling division should accept when operating at full capacity?

Accepted Answer

Variable cost plus contribution foregone on lost external sales

Answer

At full capacity there is an opportunity cost; the minimum transfer price must cover variable cost plus the contribution foregone from displaced external sales.

Question 3

Residual Income (RI) is calculated as:

Accepted Answer

Operating profit minus imputed interest on capital employed

Answer

RI = Operating Profit − (Cost of Capital × Capital Employed), deducting a capital charge to reflect the cost of funding.

Question 4

A company has a cost of capital of 12%. Division B has capital employed of £500,000 and operating profit of £80,000. What is Division B's Residual Income?

Accepted Answer

£20,000

Answer

Imputed interest = 12% × £500,000 = £60,000; RI = £80,000 − £60,000 = £20,000.

Question 5

Which of the following is an advantage of using Return on Investment (ROI) as a divisional performance measure?

Accepted Answer

It is widely understood and can be compared across divisions of different sizes

Answer

ROI is expressed as a percentage, making it straightforward to compare performance across divisions of different absolute sizes.

AAT Level 4 Practice Test

AAT Level 4 Practice Test

AAT L4 Transfer Pricing and Divisional Performance