Question

Selected sales and operating data for three divisions of different structural engineering firms are given as follows: Division A Division B Division C Sales $ 7,100,000 $ 11,100,000 $ 10,200,000 Average operating assets $ 1,420,000 $ 2,775,000 $ 2,040,000 Net operating income $ 440,200 $ 1,132,200 $ 351,900 Minimum required rate of return 25.00 % 40.80 % 22.00 % Required: 1. Compute the return on investment (ROI) for each division using the formula stated in terms of margin and turnover. (Round your answers to 2 decimal places.) 2. Compute the residual income (loss) for each division. (Loss amounts should be indicated by a minus sign. Round your "Required rate of return" to 2 decimal places.) 3. Assume that each division is presented with an investment opportunity that would yield a 27% rate of return. a. If performance is being measured by ROI, which division or divisions will probably accept or reject the opportunity? b. If performance is being measured by residual income, which division or divisions will probably accept or reject the opportunity?

Answer 1

Req 1.
			Div A	Div B	Div C
Sales			7,100,000	11,100,000	10,200,000
Average operating assets			1,420,000	2,775,000	2,040,000
Net income			440,200	1,132,000	351,900
ROI			31%	40.79%	17.25%
(Net income/ Average Operating assets)
Req 2:
			Div A	Div B	Div C
Sales			7,100,000	11,100,000	10,200,000
Average operating assets			1,420,000	2,775,000	2,040,000
Net income			440,200	1,132,000	351,900
Min rate of return			25%	40.80%	22%
Target income			355000	1132200	448800
Residual income			85,200	-200	-96,900
Req 3.
When Investment opportunity is having 27% rate of return.
Division C will accept the opportunity, as the actual ROI eanre by the division is less than this ROI. It will improve its ROI.
Req 4:
In case of residual income criterion, DIVISION A AND C shall accept the opportunity.
Because the minimum rate of return is lower than actual ROI earned from investment. It will improve their residual income.