In: Accounting
Megamart, a retailer of consumer goods, provides the following
information on two of its departments (each considered an
investment center).
Investment Center | Sales | Income |
Average Invested Assets |
||||||
Electronics | $ | 42,000,000 | $ | 3,360,000 | $ | 16,800,000 | |||
Sporting goods | 19,456,000 | 2,432,000 | 12,800,000 |
1. Compute return on investment for each
department. Using return on investment, which department is most
efficient at using assets to generate returns for the
company?
2. Assume a target income level of 10% of average
invested assets. Compute residual income for each department. Which
department generated the most residual income for the
company?
3. Assume the Electronics department is presented
with a new investment opportunity that will yield a 14% return on
investment. Should the new investment opportunity be accepted?
Investment Center | Sales | Income | Average | ||||||||||||||||
Invested Assets | |||||||||||||||||||
Electronics | $ | 42,000,000 | $ | 3,360,000 | $ | 16,800,000 | |||||||||||||
Sporting goods | 19,456,000 | 2,432,000 | 12,800,000 | ||||||||||||||||
1a | Compute return on investment for each department. | ||||||||||||||||||
Investment Center | Choose Numerator | / | Choose Denominator | = | Return on Investment | ||||||||||||||
Net Incme | / | Average Invested Asset | = | Return on Investment | |||||||||||||||
Electronics | $ | 3,360,000 | / | $ | 16,800,000 | = | 20% | ||||||||||||
Sporting goods | $ | 2,432,000 | / | $ | 12,800,000 | = | 19% | ||||||||||||
1b | Electronice Deptt is more effeicient at usingassets to generte returns for the company | ||||||||||||||||||
2a | Investment Center | Electronics | Sporting goods | ||||||||||||||||
Net Income | $ 3,360,000 | $ 2,432,000 | |||||||||||||||||
Target Net Income | $ (1,680,000) | $ (1,280,000) | |||||||||||||||||
[10% of average invested asset] | |||||||||||||||||||
Residual Income | $ 1,680,000 | $ 1,152,000 | |||||||||||||||||
2b | Electronice Deptt enerated the most residual income for the company | ||||||||||||||||||
3 | Assume that the Electronics department is presented with a new investment opportunity that willyield a 14% return on assets. Should the new investment opportunity be accepted? | ||||||||||||||||||
Yes, the new investment opportunity should be accepted | |||||||||||||||||||