The Seaton Company has two divisions the Wood Floor Division and the Tile Floor Division. Management...
The Seaton Company has two divisions the Wood Floor Division and the Tile Floor Division. Management of both divisions have been presented with the opportunity to invest in equipment that could be used to produce vinyl plank flooring.
The equipment would cost $1,000,000 dollars and would incur $200,000 worth of depreciation next year. Income associated with the production of the vinyl plank flooring is estimated to be $150,000.
Management of both divisions are evaluated based on their ability to improve Divisional ROI. Summary budgeted financial information for the two divisions for next year is presented below. This information does not include any projections related to the possible equipment acquisition and potential addition of the vinyl plank flooring line.
| Division | Sales | Income | Beginning of Year NBV of Div Asset | Next year’s Depreciation | End of year NBV of Divisional Assets |
| Wood Floor | $6,750,000 | $475,000 | $2,500,000 | $500,000 | $2,000,000 |
| Tile Floor | $12,400,000 | $800,000 | $6,000,000 | $1,000,000 | $5,000,000 |
1. Calculate next years projected ROI for each division using
average net book value of assets.
2. Which, if either, both, or neither Division Manager is/are
likely to want the project. Show supporting calculations and
explain the rationale for your conclusion.
3. If management performance is evaluated based on Residual Income instead of ROI and the company has a 15% target ROI would either manager be likely to change their decision about the project? Provide the rationale that supports your answer.
4. Is this project clearly acceptable if Seaton Company wants its managers to make decisions that increase the wealth of the firm? Explain the rationale that supports your answer.
Homework Answers
Ans 1. Calculate next years projected ROI for each division using average net book value of assets.
| SEATON COMPANY | |||
| Division | Wood Floor | Tile Floor | vinyl plank floorring |
| Sales | $ 67,50,000.00 | $ 124,00,000.00 | $ - |
| Income | $ 4,75,000.00 | $ 8,00,000.00 | $ 1,50,000.00 |
| Beginning of Year NBV of Div Asset | $ 25,00,000.00 | $ 60,00,000.00 | $ 10,00,000.00 |
| Next year’s Depreciation | $ 5,00,000.00 | $ 10,00,000.00 | $ 2,00,000.00 |
| End of year NBV of Divisional Assets | $ 20,00,000.00 | $ 50,00,000.00 | $ 8,00,000.00 |
| ROI(INCOME/NET BLOCK ASSETS) | 24% | 16% | 19% |
ANS 2.
| SEATON COMPANY | IF 100% INVESTMENT BY WOOD DIVISION | IF 100% INVESTMENT BY TILE DIVISION | 50% OF BOTH | 50% | |
| Division | WOOD+VINYL | TILE+VINYL | WOOD | TILE | |
| Sales | $ 67,50,000.00 | $ 124,00,000.00 | $ 67,50,000.00 | $ 124,00,000.00 | |
| Income | $ 6,25,000.00 | $ 9,50,000.00 | $ 5,50,000.00 | $ 8,75,000.00 | |
| Beginning of Year NBV of Div Asset | $ 35,00,000.00 | $ 70,00,000.00 | $ 30,00,000.00 | $ 65,00,000.00 | |
| Next year’s Depreciation | $ 7,00,000.00 | $ 12,00,000.00 | $ 6,00,000.00 | $ 11,00,000.00 | |
| End of year NBV of Divisional Assets | $ 28,00,000.00 | $ 58,00,000.00 | $ 24,00,000.00 | $ 54,00,000.00 | |
| ROI(INCOME/NET BLOCK ASSETS) | 22% | 16% | 23% | 16% |
NO NEED TO REQUIRED INVESTMENT BY FULLY OR PARTILY BY BOTH DIVISION BECAUSE EITHER ROI REDUCE OR NO EFFECT IN CHANGE IN ROI.
ANS 3.
| SEATON COMPANY | IF 100% INVESTMENT BY WOOD DIVISION | IF 100% INVESTMENT BY TILE DIVISION | 50% OF BOTH | 50% | ||||
| Division | Wood Floor | Tile Floor | vinyl plank floorring | WOOD+VINYL | TILE+VINYL | WOOD | TILE | |
| Sales | $ 67,50,000.00 | $ 124,00,000.00 | $ - | $ 67,50,000.00 | $ 124,00,000.00 | $ 67,50,000.00 | $ 124,00,000.00 | |
| Income | $ 4,75,000.00 | $ 8,00,000.00 | $ 1,50,000.00 | $ 6,25,000.00 | $ 9,50,000.00 | $ 5,50,000.00 | $ 8,75,000.00 | |
| Beginning of Year NBV of Div Asset | $ 25,00,000.00 | $ 60,00,000.00 | $ 10,00,000.00 | $ 35,00,000.00 | $ 70,00,000.00 | $ 30,00,000.00 | $ 65,00,000.00 | |
| Next year’s Depreciation | $ 5,00,000.00 | $ 10,00,000.00 | $ 2,00,000.00 | $ 7,00,000.00 | $ 12,00,000.00 | $ 6,00,000.00 | $ 11,00,000.00 | |
| End of year NBV of Divisional Assets | $ 20,00,000.00 | $ 50,00,000.00 | $ 8,00,000.00 | $ 28,00,000.00 | $ 58,00,000.00 | $ 24,00,000.00 | $ 54,00,000.00 | |
| ROI(INCOME/NET BLOCK ASSETS) | 24% | 16% | 19% | 22% | 16% | 23% | 16% | |
| TARGET ROI | 15% | 15% | 15% | 15% | 15% | 15% | 15% | |
| TARGET INCOME | $ 3,00,000.00 | $ 7,50,000.00 | $ 1,20,000.00 | $ 4,20,000.00 | $ 8,70,000.00 | $ 3,60,000.00 | $ 8,10,000.00 | |
| RESIDUALINCOME | $ 1,75,000.00 | $ 50,000.00 | $ 30,000.00 | $ 2,05,000.00 | $ 80,000.00 | $ 1,90,000.00 | $ 65,000.00 |
ACCORDING TO RESIDUAL VALUE BOTH DIVISION MAY INVEST BECAUSE RESIDUAL INCOME INCREASING IN BOTH CASE
ANS 4.
| SEATON COMPANY | TOTAL | |||
| Division | Wood Floor | Tile Floor | vinyl plank floorring | |
| Sales | $ 67,50,000.00 | $ 124,00,000.00 | $ - | $ 191,50,000.00 |
| Income | $ 4,75,000.00 | $ 8,00,000.00 | $ 1,50,000.00 | $ 14,25,000.00 |
| Beginning of Year NBV of Div Asset | $ 25,00,000.00 | $ 60,00,000.00 | $ 10,00,000.00 | $ 95,00,000.00 |
| Next year’s Depreciation | $ 5,00,000.00 | $ 10,00,000.00 | $ 2,00,000.00 | $ 17,00,000.00 |
| End of year NBV of Divisional Assets | $ 20,00,000.00 | $ 50,00,000.00 | $ 8,00,000.00 | $ 78,00,000.00 |
| ROI(INCOME/NET BLOCK ASSETS) | 24% | 16% | 19% | 18% |
| TARGET ROI | 15% | 15% | 15% | 15% |
| TARGET INCOME | $ 3,00,000.00 | $ 7,50,000.00 | $ 1,20,000.00 | $ 11,70,000.00 |
| RESIDUALINCOME | $ 1,75,000.00 | $ 50,000.00 | $ 30,000.00 | $ 2,55,000.00 |
YES THIS PROJECT IS ACCEPTED TO INCREASE THE WEALTH
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