Question

The manager of the snack division of Fairfax Industries is evaluated on her division’s return on investment and residual income. The company requires that all divisions generate a minimum return on invested assets of 8 percent. Consistent failure to achieve this minimum target is grounds for the dismissal of a division manager. The annual cash bonus paid to division managers is 1 percent of residual income in excess of $100,000. The snack division’s operating margin for the year was $8.337 million, during which time its average invested capital was $56.816 million.

Required: a. Compute the Snack Division's return on investment and residual income.

b. Will the manager of the Snack Division receive a bonus for her performance? If so, how much will it be?

c. In reporting her investment center’s performance for the past 10 years, the manager of the snack division accounted for the depreciation of her division’s assets by using an accelerated depreciation method allowed for tax purposes. As a result, virtually all of the assets under her control are fully depreciated. Given that the company’s other division managers use straight-line depreciation, is her use of an accelerated method ethical?

Compute the Snack Division's return on investment and residual income. (Round "Return on investment" to 2 decimal places. Enter your answer in dollars not in millions.)

Will the manager of the Snack Division receive a bonus for her performance? If so, how much will it be?

In reporting her investment center’s performance for the past 10 years, the manager of the snack division accounted for the depreciation of her division’s assets by using an accelerated depreciation method allowed for tax purposes. As a result, virtually all of the assets under her control are fully depreciated. Given that the company’s other division managers use straight-line depreciation, is her use of an accelerated method ethical?

Answer 1

a.) Return on Investment = (8.337/56.816)*100

= 14.67%

Residual Income = Operating Margin - (Invested Capital * Minimum Rate of Return)

= 8337000 - (56816000 * 8%)

= 8337000 - 4545280

=$3,791,720

b.) Yes, the manager of the Snack Division will receive a bonus for her performance, since the residual income is more than $100,000.

Amount of bonus = (3791720 - 100000) * 1%

= $36,917.20

c.) It might seem to be unethical to follow a method different from other division managers but it is considered as ethical as the method opt by the Snack Division manger is allowed for tax purposes.