Calculating Return on Investment (ROI) and Residual Income (RI); Comparing Results B...

Calculating Return on Investment (ROI) and Residual Income (RI); Comparing Results Blackwood Industries manufactures die machinery. To meet its expansion needs, it recently (2011) acquired one of its suppliers, Delta Steel. To maintain Delta’s separate identity, Blackwood reports Delta’s operations as an investment center. Blackwood monitors all of its investment centers on the basis of return on investment (ROI). Management bonuses are based on ROI, and all investment centers are expected to earn a minimum 10% return before income taxes.

Delta’s ROI has ranged from 14% to 18% since 2011. The company recently had the opportunity for a new investment that would have yielded a 13% ROI. However, division management decided against the investment because it believed that the investment would decrease the division’s overall ROI.

The 2013 operating statement for Delta follows. The division’s operating assets were $15,000,000 at the end of 2013, a 5% increase over the 2012 year-end balance.

Required

1. Calculate the following performance measures for 2013 for the Delta division:

a. Return on average investment in operating assets.

b. Residual income (RI) calculated on the basis of average operating assets.

2. Which performance measure (ROI or RI) should Blackwood Industries use to provide the proper incentive for each division to act autonomously in the firm’s best interests? Would Delta’s management have been more likely to accept the capital investment opportunity if RI had been used as a performance measure instead of ROI? Explain.

3. What type of strategic performance measurement do you recommend for the Delta division? Explain.