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	$	12,840,000		$	28,840,000		$	26,050,000
Average operating assets	$	3,210,000		$	7,210,000		$	5,210,000
Net operating income	$	564,960		$	346,080		$	755,450
Minimum required rate of return		6.00	%		6.50	%		14.50	%

Required:

1. Compute the return on investment (ROI) for each division using the formula stated in terms of margin and turnover.

2. Compute the residual income (loss) for each division.

3. Assume that each division is presented with an investment opportunity that would yield a 7% 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?

1

Margin Turnover ROI Division A Division B Division C

2

3a

3b

Answer 1

1) Calculate ROI

	Margin	Turnover	ROI
Division A	4.4%	4	4.4*4 = 17.6%
Division B	1.2%	4	4.8%
Division C	2.9%	5	14.50%

2) residual income

	Division A	Division B	Division C
Net operating income	564960	346080	755450
Minimum operating income	192600	468650	-755450
Residual income	372360	-122570	0

3a) Division accept not accept

Division A	Accept
Division B	Reject
Division C	Accept

3b) Division accept not accept

Division A	Accept
Division B	Reject
Division C	Accept