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 tomado alert. The budgeted income of the division was $775,000 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 15%. Required: 1. Compute the ROI of the following (round to the nearest whole percent): a. The division if the radio project is not undertaken. b. The radio project alone. c. The division if the radio project is undertaken. 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. 3. This depends on whether Leslie's division is evaluated on the basis of ROI or on the basis of residual income. Overall division ROI wills the investment. On the other hand, residual income for the project is and will income, the project will be so if ROI is the basis for evaluation, she will overall residual income. If the division is evaluated on the basis of residual raise reduce

Answer 1

Problem 1

1 ROI ( to the nearest whole %)

a) If the Radio Project is not undertaken  

Budgeted Income= $775,000

Operating Assets=$4,825,000

=$775,000/4,825,000 *100 = 16.06% Say 16%

b) Of the Radio Project alone   

Budgeted Income= $640,000

Operating Assets=$4,000,000

= $640,000/4,000,000*100 =16%

c)If the Radio Project is undertaken

Budgeted Income= $1,415,000

Operating Assets=$8,825,000

= $1,415,000/ 8,825,000*100 =16.03% Say, 16%

2 Residual Income

Residual Income = Operating Income-( Operating Assets*Minimum Reqd Return )

Minimum Reqd return =15%

a) If the Radio Project is not undertaken

Budgeted Income= $775,000

Operating Assets=$4,825,000

Residual Income =$775,000(4,825,000*15%)

=$775,000-723,750 = $51,250

b) Of the Radio Project alone   

Budgeted Income= $640,000

Operating Assets=$4,000,000

Residual Income =$640,000(4,000,000*15%)

=$640,000-600,000 = $40,000

c)If the Radio Project is undertaken

Budgeted Income= $1,415,000

Operating Assets=$8,825,000

Residual Income =$1,415,000(8,825,000*15%)

=$1,415,000-1,323,750 = $91,250

3 Overall Division RoI will be slightly reduced from 16.06% to 16.03% if the new project is undertaken. So if ROI is the basis for evaluation,additional investment can be made still ,since it is more than the minimum required return of 15%. On the other hand, Residual Income for the project is $40,000 and will increase the   overall residual income to $91,250 . if the division is evaluated on the basis of Residual income also, the project can be undertaken..

Problem 2

1 Theoretical cycle time in minutes per unit

Maximum units produced in a quarter = 90,000

Hours of Production in a quarter= 20,000

Theoretical cycle time in minutes per unit =20,000*60/90,000

=13.3 minutes

2 Actual Cycle time in minutes per unit

Actual Production 78,000 units

Actual Cycle time in minutes per unit = 20,000*60/78000

=15.4 Minutes

3 Theoretical velocity in units per hour

Maximum production in a quarter 90,000 units

Hours available in a quarter 20,000

Theoretical velocity in units per hour = 90,000/20000

= 4.5 units per hour

4 Actual velocity in units per hour

= 78,000/20,000

= 3.9 units per hour