Capital Investments has three divisions. Each division's required rate of return is 15%. Planned operating results...

Capital Investments has three divisions. Each division's required rate of return is 15%. Planned operating results for 2018 are as follows:

Division	Operating income	Investment
A	$15,000,000	$100,000,000
B	$25,000,000	$125,000,000
C	$11,000,000	$ 50,000,000

The company is planning an expansion, which will require each division to increase its investments by $25,000,000 and its income by $4,500,000.

Required:

a. Compute the current ROI for each division.

b. Compute the current residual income for each division.

c. Rank the divisions according to their current ROIs and residual incomes.

d. Determine the effects after adding the new project to each division's ROI and residual income.

e. Assuming the managers are evaluated on either ROI or residual income, which divisions are pleased with the expansion and which ones are unhappy?

Solutions

Expert Solution

Part-a: Computation of ROI- Capital Investmnet
Division	A	B	C
Incremntal operating Income (a)	$15,000,000.00	$25,000,000.00	$11,000,000.00
Investment (b)	$100,000,000.00	$125,000,000.00	$50,000,000.00
ROI (a/b)	15.00%	20.00%	22.00%


Part-b: Computaiton of Residual income - Capital Investment
Division	A	B	C
Incremntal operating Income (a)	$15,000,000.00	$25,000,000.00	$11,000,000.00
Investment (b)	$100,000,000.00	$125,000,000.00	$50,000,000.00
Minmimu Return (c= bX 15%)	$15,000,000.00	$18,750,000.00	$7,500,000.00
Residual income (a-c)	$0.00	$6,250,000.00	$3,500,000.00

Part-C: ranking as per ROI & Residual income - Capital Investment
Division	A	B	C
ROI	15%	20%	22%
Rank	III	II	I

Residual income	0	6250000	3500000
Rank	III	I	II

Part-d
Computation of ROI- Capital Investmnet
Division	A	B	C
Revised operating Income (a)	$19,500,000.00	$29,500,000.00	$15,500,000.00
Revised Investment (b)	$125,000,000.00	$150,000,000.00	$75,000,000.00
ROI (a/b)	15.60%	19.67%	20.67%


Computaiton of Residual income - Capital Investment
Division	A	B	C
Revised operating Income (a)	$19,500,000.00	$29,500,000.00	$15,500,000.00
Revised Investment (b)	$125,000,000.00	$150,000,000.00	$75,000,000.00
Minmimu Return (c= bX 15%)	$18,750,000.00	$22,500,000.00	$11,250,000.00
Residual income (a-c)	$750,000.00	$7,000,000.00	$4,250,000.00

ekkarill92 answered 1 year ago

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