Question 3 Answer ALL parts of this question Selected sales

Question 3 Answer ALL parts of this question. Selected sales and operating data for three divisions of a multinational structural engineering firm are given below Sales Average operating assets Operating profit Minimum required rate of return Division Asia Europe E12 500 000 £14 000 000 E3 200 000 £6 000000 £500000 £650 000 11% North America £22 000 000 £4 000 000 £780 000 17% 14% 1. Compute the return on investment (ROID for each division using the formula stated in terms of margin and turnover (7 marks) 2. Compute the residual income for each division. (6 marks) 3. Assume that each division is presented with an investment opportunity that would yield a 15% rate of return. (a) If performance is being measured by ROl, which division or divisions will probably accept the opportunity? Reject? Why? (6 marks) (b) If performance is being measured by residual income, which division or divisions will probably accept the opportunity? Reject? Why? (6 marks) Total -25 marks)

Solution

Req. Particulars Asia Europe N. America 1 ROI: Margin OP/Sales = 0.5/12.5 =0.04 0.65/14=0.046 0.78/22=0.035 Turnover Sales/AOAssets = 12.5/3.2=3.91 14/6=2.33 22/4=5.5 2 Residual income Op-(AOA*MRRR) = 0.5-(3.2*14%) = 0.052M 0.65-(6*11%) = 0.01M 0.78-(4*17%) = 0.1m 3 a) ROI 15% 3.2*15% = 0.48 6*15% = 0.9 4*15% = 0.6 REJECT ACCEPT REJECT B) 0.5-0.48=0.02 0.65-0.9= -2.5 0.78-0.6= 0.18 REJECT REJECT ACCEPT