Question

Zachary Cough Drops operates two divisions. The following information pertains to each division for Year 1.
 

	Division A				Division B
Sales	$	220,000			$	88,000
Operating income	$	16,500			$	9,000
Average operating assets	$	60,000			$	45,000
Company's desired rate of return		11	%			11	%

Required

 

 

1. Compute each division’s residual income.

2. Which division increased the company’s profitability more?

    

Answer 1

a. residual Income equals Operating Income - the product of Operating Assets and Desired return on investment

RI= OI -( OA x Desired ROI)

Division A:

RI= $16,500 - (60,000 x 0.11)

RI= $9,900

Division B:

RI= $9,000 - (45,000 x 0.11)

RI= $4,050

 

b. The division that increased the company's profitability more is Division A.

a. The residual Income for division A is $9,900.

The residual Income for division A is $4,050.

b. The division that increased the company's profitability more is Division A.