Selected sales and operating data for three divisions of different structural en

Question

Selected sales and operating data for three divisions of different structural engineering firms are given as follows: Division A $16,200,000 $ 3,240,000 $761,400 Division B s 28,960,000 26,200,000 $ 7,240,000 5,240,000 $463,360 655,000 Division C Sales Average operating assets Minimum required rate of return 7.00% 7.50% 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 8% 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?

Explanation / Answer

Answer 1 Calculation of ROI

Margin= Net operating income/Sales Turnover=Sales/ Average operating assets

The above two formula have been used to calculate margin and Turnover

ROI= Margin * Turnover formula used for calculation of ROI . The values provided in question have been put in formulas to get the values as given in boxes below for respective divisions

Answer 2 Computation of Residual Income

Residual Income(RI)= Net operating income- (Min rate of return* Average oprating assets)

RI for A= 761,400-(.07*3,240,000) RI for B= 463,360-(.075*7,240,000)

RI for C=655,00-(.1250*5,240,000)

Answer 3

a) If performance is measured by ROI ,compare it with an investment yielding 8% return

b) If performance is measured by Residual Income, then as stated below the divsion will take decisions

Margin(%) Turnover ROI(%) Division A 761,400/16,200,000=.047 or 4.7% 16,200,000/3,240,000=5 times .047*5=.235 or 23.5% Division B 463,360/28,960,000=.016 or 1.6% 28,960,000/7,240,000= 4 times .016*4=.064 or 6.4% Division C 655,000/26,200,000=.025 or 2.5% 26,200,000/5,240,000= 5 times .025*5=.125 or 12,5%

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