Question

Exercise 9-6 Contrasting Return on Investment (ROI) and Residual Income [LO9-1, LO9-2]

Meiji Isetan Corp. of Japan has two regional divisions with headquarters in Osaka and Yokohama. Selected data on the two divisions follow:

	Division
	Osaka		Yokohama
Sales	$	10,700,000	$	37,000,000
Net operating income	$	749,000	$	3,330,000
Average operating assets	$	2,675,000	$	18,500,000

Required:
1.	For each division, compute the return on investment (ROI) in terms of margin and turnover. (Do not round intermediate calculations. Enter your answers as a percent (i.e., 0.12 should be entered as 12).) Osaka Yokohama ROI % %

2.

Assume that the company evaluates performance using residual income and that the minimum required rate of return for any division is 16%. Compute the residual income for each division. Osaka Yokohama Average operating assets Net operating income Minimum required return on average assets Residual income

3.

Is Yokohama’s greater amount of residual income an indication that it is better managed? Yes or No Exercise 9-8 Computing and Interpreting Return on Investment (ROI) [LO9-1] Selected operating data for two divisions of Outback Brewing, Ltd., of Australia are given below: Division Queensland New South Wales   Sales $ 855,000    $ 2,200,000     Average operating assets $ 570,000    $ 550,000   Net operating income $ 44,460    $ 48,400   Property, plant, and equipment (net) $ 244,000    $ 194,000 Required: 1. Compute the rate of return for each division using the return on investment (ROI) formula stated in terms of margin and turnover. (Round your Turnover answers to 2 decimal places. Round your Margin and ROI percentage answers to 2 decimal places (i.e., 0.1234 should be entered as 12.34).) Margin Turnover ROI Queensland division % % New South Wales division % % . Which divisional manager seems to be doing the better job? option A: Queensland division Option B: New South Wales division

Answer 1

Exercise 9-6
Ans.1		Osaka	Yokohama
	ROI	28%	18%
	*Calculations:
	ROI   = Margin * Turnover
	Osaka	7% * 4	28%
	Yokohama	9% * 2	18%
	Margin = Net operating income / sales * 100
	Osaka	749000 / 10700000 * 100		7%
	Yokohama	3330000 / 37000000 * 100		9%
	Turnover = Sales / Average operating assets
	Osaka	10700000 / 2675000		4 times
	Yokohama	37000000 / 18500000		2 times
Ans.2		Osaka	Yokohama
	Average operating assets	2675000	18500000
	Net operating income	749000	3330000
	Minimum required return on average assets	428000	2960000
	Residual income	321000	370000
	Minimum required return on average assets = Average operating assets * minimum required rate of return
	Osaka		2675000 * 16%	428000
	Yokohama		18500000 * 16%	2960000
	Residual income = Net operating income - Minimum required return on average assets
	Osaka		749000 - 428000		321000
	Yokohama		3330000 - 2960000		370000
Ans.3	No, the greater residual income does not indicate a better management of Yokohama.
	It is a large industry so naturally it has a large residual income.
	Osaka is well managed industry as its ROI (28%) is higher than Yokohama (18%).
Exercise 9-8
Ans.1			Margin	Turnover	ROI
	Queensland division		5.2%	1.5 times	7.8%
	New South Wales division		2.2%	4 times	8.8%
	*Calculation:
	Margin = Net operating income / sales * 100
	Queensland division	44460 / 855000 * 100		5.2%
	New South Wales division	48400 / 2200000 * 100		2.2%
	Turnover = Sales / Average operating assets
	Queensland division	855000 / 570000		1.5 times
	New South Wales division	2200000 / 550000		4 times
	ROI = Margin * Turnover
	Queensland division	5.2% * 1.5	7.8%
	New South Wales division	2.2% * 4	8.8%
Ans.2	New South Wales division, as its ROI (8.8%) is higher than Queensland division (7.8%).