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Responsibility Accounting and Transfer Pricing - Math Problem Example

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P5-6 "Metal Press" Your firm uses return on assets (ROA) to evaluate investment centers and is considering changing the valuation basis of assets from historical cost to current value. When the historical cost of the asset is updated, a price index is used to approximate replacement value…

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Responsibility Accounting and Transfer Pricing

Required: a. Calculate depreciation expense and book value of the metal press under both historical cost and price-level-adjusted historical cost. For the historical cost, the metal fabrication press would depreciate $43,500 per year ($522,000/12). In terms of the book value of the metal fabrication press under historical cost, the net book value would be $217,500 ($522,000-($43,500*7)). In comparison, the price-level-adjusted historical cost would give a new cost of $621,180 (Increase of 19% on the original cost. If this is so, the new book value would amount to $316,680 ($621,180-$304,500). Because this value would depreciate over the remaining five years of its life, the depreciation expense would be$63,336 ($316,680/5). b. In general, what is the effect on ROA of changing valuation bases from historical cost to current values? Because assets are generally higher, the return on assets would be lower because a fraction always becomes less when the denominator is increased. This would result in the managers having more motivation to change the equipment because the return on the equipment would not be as great. c. The manager of the investment center with the metal press is considering replacing it because it is becoming obsolete. ...
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