Question

E10-7 Evaluating Managerial Performance Using Return on Investment, Residual Income [LO 10-4, 10-5]

Orange Corp. has two divisions: Fruit and Flower. The following information for the past year is available for each division:

	Fruit Division			Flower Division
Sales revenue	$	1,560,000		$	2,340,000
Cost of goods sold and operating expenses		1,170,000			1,755,000
Net operating income	$	390,000		$	585,000
Average invested assets	$	4,875,000		$	2,437,500

   

Orange has established a hurdle rate of 6 percent.   

Required:
1-a. Compute each division’s return on investment (ROI) and residual income for last year. (Enter your ROI answers as a percentage rounded to two decimal places, (i.e., 0.1234 should be entered as 12.34%.))

	Fruit Division		Flower Division
ROI		%		%
Residual Income (Loss)

1-b. Determine which manager seems to be performing better.

        

	Fruit Division
	Flower Division

   

2. Suppose Orange is investing in new technology that will increase each division’s operating income by $125,000. The total investment required is $2,000,000, which will be split evenly between the two divisions. Calculate the ROI and return on investment for each division after the investment is made. (Enter your ROI answers as a percentage rounded to two decimal places, (i.e., 0.1234 should be entered as 12.34%.))

	Fruit Division		Flower Division
ROI		%		%
Residual Income (Loss)

3. Which manager will accept the investment.

Fruit Division Manager
Flower Division Manager

Answer 1

1(a)

Q1(b)

Manager of flower division is performing better because it has a better return on investment and thus residual income is also higher.

Q2

Q3.

Fruit division manager will accept the investment because his ROI increases after the proposed investment.