**Question: What is the major shortcoming of using income from operations as a performance measure for investment centers?****Explanation:**When using income from operations as a performance measure for investment centers, one must consider the potential shortcomings. While income from operations is an important financial metric, relying solely on it to assess an investment center's performance can be misleading due to several factors:1. **Lack of Consideration for Asset Utilization**: Income from operations does not account for how efficiently a center is using its assets. This can lead to situations where a division with high income appears successful, but is, in fact, inefficient in its asset deployment.2. **Ignores Investment Size**: It does not adjust for the size of the investment. An investment center with a larger base of assets might produce more income, but when viewed proportionately, it might not be as effective in generating returns compared to a smaller center.3. **Short-term Focus**: Such a performance measure might encourage short-term profitability over long-term strategic investments. Managers may be tempted to cut essential expenses or defer important investments to boost short-term operational income.4. **Risk of Profit Manipulation**: There is a risk that managers might manipulate profits through accounting practices to appear more successful, rather than genuinely improving operational performance.5. **Not Comprehensive**: This measure does not encompass other critical factors such as market conditions, competitive environment, and financial health that may affect long-term sustainability.For a more comprehensive evaluation of an investment center's performance, it is advisable to use a combination of metrics such as Return on Investment (ROI), Economic Value Added (EVA), and Balanced Scorecards, which provide a holistic view of operational efficiency, strategic alignment, and financial health.

Investment center: A department or unit or division of a corporation where its manager is assigned…

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What is the major shortcoming of using income from operations as a performance measure for investment centers?

Managerial Accounting

15th Edition

ISBN:9781337912020

Author:Carl Warren, Ph.d. Cma William B. Tayler

Publisher:Carl Warren, Ph.d. Cma William B. Tayler

Chapter10: Evaluating Decentralized Operations

Section: Chapter Questions

Problem 4DQ: What is the major shortcoming of using operating income as a performance measure for investment...

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