Question

Return on Investment and Investment Decisions Leslie Blandings, division manager of Audiotech Inc., was debating the merits of a new product—a weather radio that would put out a warning if the county in which the listener lived were under a severe thunderstorm or tornado alert. The budgeted income of the division was $975,000 with operating assets of $4,825,000. The proposed investment would add income of $640,000 and would require an additional investment in equipment of $4,000,000. The minimum required return on investment for the company is 13%. Required:

1. Compute the ROI of the following (round to the nearest whole percent):

a. The division if the radio project is not undertaken. 20 %

b. The radio project alone. 16 % c. The division if the radio project is undertaken. 13 %

2. Compute the residual income of the following:

a. The division if the radio project is not undertaken. $

b. The radio project alone. $

c. The division if the radio project is undertaken. $

Answer 1

1
a
Net Operating income	975000
Divide by Operating assets	4825000
The division if the radio project is not undertaken	20%
b
Net Operating income	640000
Divide by Operating assets	4000000
The radio project alone	16%
c
Net Operating income	1615000	=975000+640000
Divide by Operating assets	8825000	=4825000+4000000
The division if the radio project is undertaken	18%
2
a
Net Operating income	975000
Less: Minimum required return	627250	=4825000*13%
The division if the radio project is not undertaken	347750
b
Net Operating income	640000
Less: Minimum required return	520000	=4000000*13%
The radio project alone	120000
c
Net Operating income	1615000
Less: Minimum required return	1147250	=(4825000+4000000)*13%
The division if the radio project is undertaken	467750