“I know headquarters wants us to add that new product line,” said Dell Havasi, m
ID: 2713564 • Letter: #
Question
“I know headquarters wants us to add that new product line,” said Dell Havasi, manager of Billings Company’s Office Products Division. “But I want to see the numbers before I make any move. Our division’s return on investment (ROI) has led the company for three years, and I don’t want any letdown.”
Billings Company is a decentralized wholesaler with five autonomous divisions. The divisions are evaluated on the basis of ROI, with year-end bonuses given to the divisional managers who have the highest ROIs. Operating results for the company’s Office Products Division for the most recent year are given below:
The company had an overall return on investment (ROI) of 15% last year (considering all divisions). The Office Products Division has an opportunity to add a new product line that would require an additional investment in operating assets of $1,000,000. The cost and revenue characteristics of the new product line per year would be:
Compute the Office Products Division’s ROI for the most recent year; also compute the ROI as it would appear if the new product line is added. (Round the "Turnover", "ROI" answers to 1 decimal place.)
Suppose that the company’s minimum required rate of return on operating assets is 12% and that performance is evaluated using residual income.
Compute the Office Products Division’s residual income for the most recent year; also compute the residual income as it would appear if the new product line is added.
Billings Company is a decentralized wholesaler with five autonomous divisions. The divisions are evaluated on the basis of ROI, with year-end bonuses given to the divisional managers who have the highest ROIs. Operating results for the company’s Office Products Division for the most recent year are given below:
Explanation / Answer
Existing product Line
New product Line
Total
Sales
$
10,000,000
2,000,000
12,000,000
Variable Expenses
6,000,000
1,200,000
7,200,000
Contribution Margin
4,000,000
800,000
4,800,000
Fixed Expenses
3,200,000
640,000
3,840,000
Net OperatingIncome
800,000
160,000
960,000
Operating Assets
4,000,000
1,000,000
5,000,000
ROI = Net operating Income/Operating Assets
800000/4000000
160000/1000000
960000/5000000
ROI
16%
20%
19%
Residual Income (RI)= Net operating Income-(Minimum Required return on Assets* Average operating Assets)
800000-(12%*4000000)
160000-(12%*1000000)
960000-(12%*5000000)
RI
320,000
40,000
360,000
Existing product Line
New product Line
Total
Sales
$
10,000,000
2,000,000
12,000,000
Variable Expenses
6,000,000
1,200,000
7,200,000
Contribution Margin
4,000,000
800,000
4,800,000
Fixed Expenses
3,200,000
640,000
3,840,000
Net OperatingIncome
800,000
160,000
960,000
Operating Assets
4,000,000
1,000,000
5,000,000
ROI = Net operating Income/Operating Assets
800000/4000000
160000/1000000
960000/5000000
ROI
16%
20%
19%
Residual Income (RI)= Net operating Income-(Minimum Required return on Assets* Average operating Assets)
800000-(12%*4000000)
160000-(12%*1000000)
960000-(12%*5000000)
RI
320,000
40,000
360,000
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