Below are the sales, income from operations, and invested assets for each depart

Question

Below are the sales, income from operations, and invested assets for each department of The Baking Company are as follows: Sales Income from Operations Invested Assets Department 1 $5,000,000 $630,000 $3,900,000 Department 2 6,800,000 760,000 4,300,000 Department 3 3,750,000 750,000 7,250,000 Management has established a minimum rate of return for invested assets of 8%. (a) Determine the residual income for each department. (b) Based on residual income, which of the departments is the most profitable?

Explanation / Answer

a)

b) based on the residual income approach, Department 2 is most profitable

Particulars Department 1 Department 2 Department 3 Sales $ 50,00,000.00 $ 68,00,000.00 $ 37,50,000.00 Income - A $    6,30,000.00 $    7,60,000.00 $    7,50,000.00 Invested Assets- B $ 39,00,000.00 $ 43,00,000.00 $ 72,50,000.00 minimum rate of return on invested assets- C 8% 8% 8% Required return on invested assets (B * C) $    3,12,000.00 $    3,44,000.00 $    5,80,000.00 Residual Income (Operating Income - Required retrun on invested assets) $    3,18,000.00 $    4,16,000.00 $    1,70,000.00

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