“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 this year are given below:
|
|
|
| Sales |
$ |
21,600,000 |
| Variable expenses |
|
13,622,600 |
| Contribution margin |
|
7,977,400 |
| Fixed expenses |
|
6,010,000 |
| Net operating income |
$ |
1,967,400 |
| Divisional average operating
assets |
$ |
4,499,200 |
|
The company had an overall return on investment (ROI) of 17.00%
this year (considering all divisions). Next year the Office
Products Division has an opportunity to add a new product line that
would require an additional investment that would increase average
operating assets by $2,326,200. The cost and revenue
characteristics of the new product line per year would be:
|
|
| Sales |
$9,300,000 |
| Variable expenses |
65% of
sales |
| Fixed expenses |
$2,557,400 |
|
|
|
|
|
|
|
|
| 1. |
ROI for this
year |
|
% |
| 2. |
ROI for
the new product line by itself |
|
% |
| 3. |
ROI for next
year |
|
% |
|
|
6. Suppose that the company’s minimum required rate of return on
operating assets is 14% and that performance is evaluated using
residual income.
|
|
|
|
|
|
| 1. |
Residual income for
this year |
|
| 2. |
Residual
income for the new product line by itself |
|
| 3. |
Residual income for
next year |
|
|