Question

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	$	10,000,000	$	30,000,000
Net operating income	$	700,000	$	2,700,000
Average operating assets	$	2,000,000	$	15,000,000

Required:

1. For each division, compute the return on investment (ROI) in terms of margin and turnover.

2. Assume that the company evaluates performance using residual income and that the minimum required rate of return for any division is 15%. Compute the residual income for each division.

3. Is Yokohama’s greater amount of residual income an indication that it is better managed?

Required 1

ROI

Osaka? %

Yokohama? %

Required 2

Assume that the company evaluates performance using residual income and that the minimum required rate of return for any division is 15%. Compute the residual income for each division.

Residual Income

Osaka?

Yokohoma?

Answer 1

1. Computation of Return in Investment (ROI)
Meiji Isetan Corp.
	Division
	Osaka	Yokohama
Sales	$     10,000,000	$ 30,000,000
Net operating income	$          700,000	$   2,700,000
Average operating assets	$       2,000,000	$ 15,000,000
Margin (Net operating income ÷ Sales)	7.00%	9.00%
Turnover (Sales ÷Average operating assets)	5	2
Return on Investment (Margin × Turnover)	35%	18%

 

 

Requirement 2 :

 

	Osaka	Yokohama
Average operating assets (a)	$         2,000,000	$      15,000,000
Net operating income   [ 1 ]	$            700,000	$        2,700,000
Minimum required return on average
operating assets: 15% × (a) …. [2 ]	$            300,000	$        2,250,000
Residual income  [ 1 - 2 ]	$            400,000	$           450,000

Residual income can’t be used to compare the performance of divisions of different size.