Malibu Corporation is a decentralized wholesaler with four autonomous divisions.
ID: 2524905 • Letter: M
Question
Malibu Corporation is a decentralized wholesaler with four autonomous divisions. The divisions are evaluated on the basis of ROI, with year-end bonuses given to divisional managers who have the highest ROI. Operating results for the Company’s Surf Division for last year are given below:
Sales
$21,000,000
Variable Expenses
$13,400,000
Contribution Margin
$ 7,600,000
Fixed Expenses
$ 5,920,000
Net Operating Income
$ 1,680,000
Divisional operating assets
$ 5,250,000
The company had an overall ROI of 18% last year (considering all divisions). The company’s Surf Division has an opportunity to add a new product line that would require an investment of $3,000,000. The cost and revenue characteristics of the new product line per year would be as follows:
Sales
$9,000,000
Variable Expenses
65% of sales
Fixed Expenses
$2,520,000
1. What was the Surf Division’s ROI for last year?
2. What is the projected ROI of the new product line?
3. Assuming that that the Surf Division has the same operating results as last year, what would be their projected ROI including the new product line?
4. Based on your ROI analysis, should the Surf Division manager add the new product line?
5. Malibu Corp. has decided to switch to using a residual income measure with a 15% minimum required rate of return. What was the Surf Division’s residual income last year?
6. What is the projected residual income of the new product line?
7. Assuming that that the Surf Division has the same operating results as last year, what would be their projected residual including the new product line?
8. Based on your residual income analysis, should Surf Division manager add the new product line?
Sales
$21,000,000
Variable Expenses
$13,400,000
Contribution Margin
$ 7,600,000
Fixed Expenses
$ 5,920,000
Net Operating Income
$ 1,680,000
Divisional operating assets
$ 5,250,000
Explanation / Answer
ans 1 Surf division ROI ROI=net operating Income/Divisional operating assets 1680000/5250000*100 32.0 % ans 2 Projected ROI of new product line 21 % 630000/3000000*100 Sales $9,000,000 Variable Expenses $5,850,000 Fixed Expenses $2,520,000 Net operating Income $630,000 ans 3 ROI=(1680000+630000)/(5250000+3000000)*100 28 % ans 4 No it should not add the product line as it will decrease the ROI of surf division. ans 5 Surf division Net operating Income N $1,680,000 Avg operating assets A 5250000 Min req rate M 15% Min required amt R=A*M 787500 Residual Income N-R $892,500 ans 6 New product line Net operating Income N $630,000 Avg operating assets A 3000000 Min req rate M 15% Min required amt R=A*M 450000 Residual Income N-R $180,000 ans 7 Net operating Income N $2,310,000 Avg operating assets A $8,250,000 Min req rate M 15% Min required amt R=A*M 1237500 Residual Income N-R $1,072,500 ans 8 Yes the residual income analysis the new product line
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