Question

Megamart, a retailer of consumer goods, provides the following information on two of its departments (each considered an investment center).

Investment Center	Sales			Income			Average Invested Assets
Electronics	$	40,500,000		$	2,916,000		$	16,200,000
Sporting goods		20,740,000			2,074,000			12,200,000

1. Compute return on investment for each department. Using return on investment, which department is most efficient at using assets to generate returns for the company?
2. Assume a target income level of 11% of average invested assets. Compute residual income for each department. Which department generated the most residual income for the company?
3. Assume the Electronics department is presented with a new investment opportunity that will yield a 15% return on investment. Should the new investment opportunity be accepted

Compute return on investment for each department. Using return on investment, which department is most efficient at using assets to generate returns for the company?

Return on Investment
	Choose Numerator:	/	Choose Denominator:	=	Return on Investment
		/		=	Return on Investment
Electronics		/		=
Sporting Goods		/		=
Which department is most efficient at using assets to generate returns for the company?

Assume a target income level of 11% of average invested assets. Compute residual income for each department. Which department generated the most residual income for the company?

Investment Center	Electronics	Sporting Goods
Net income
Target net income
Residual income
Which department is most efficient at using assets to generate returns for the company?

ssume the Electronics department is presented with a new investment opportunity that will yield a 15% return on investment. Should the new investment opportunity be accepted?

Should the new investment opportunity be accepted?

Answer 1

(1)- Return on Investment

Return on Investment = [Net Income / Average Operating Assets] x 100

Electronics = [$29,16,000 / 162,00,000] x 100 = 18%

Sporting goods = [$20,74,000 / 122,00,000] x 100 = 17%

“ELECTRONICS” department is most efficient at using assets to generate returns for the company

(2)-Residual Income

	Electronics	Sporting goods
Net Income	29,16,000	20,74,000
Target Income	(17,82,000) [$162,00,000 x11%]	(13,42,000) [$122,00,000 x 11%]
Residual Income	11,34,000	7,32,000

“ELECTRONICS“ department is most efficient at using assets to generate returns for the company

(3)-“YES”. The new investment opportunity should be accepted, since the Return on the Investment (15%) is greater than the Minimum Requires Rate of Return of 11%