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Presented below is selected information for three regional divisions of Medina Company. Divisions North West South Contribution margin $300,300 $499,000 $399,200 Controllable margin $139,700 $360,600 $209,900 Average operating assets $997,857 $1,567,826 $1,499,286 Minimum rate of return 13 % 14 % 9 % Compute the return on investment for each division. (Round ROI to 0 decimal places, e.g. 15.) North Division % West Division % South Division % Compute the residual income for each division. (Round final answers to 0 decimal places, e.g. 1,255.) North Division $ West Division $ South Division $ Assume that each division has an investment opportunity that would provide a rate of return of 16%. (1) If ROI is used to measure performance, which division or divisions will probably make the additional investment? (2) If residual income is used to measure performance, which division or divisions will probably make the additional investment?

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Answer:

                                                     North     West           South

Contribution margin           $300,300 $499,000 $399,200

Controllable margin            $139,700 $360,600 $209,900

Average operating assets    $997,857 $1,567,826 $1,499,286

Minimum rate of return             13%            14%           9%

return on investment (ROI) = controllable margin / average operating assets

North's ROI = $139,700 / $997,857 = 14%

West's ROI = $360,600 / $1,567,826 = 23%

South's ROI = $209,900 / $1,499,286  = 14%

residual income = controllable margin - (average operating assets x minimum rate of return)

North's RI = $139,700 - ($997,857 x 13%) = $9,978.59

West's RI = $360,600 - ($1,567,826 x 14%) = $141,104.36

South's RI = $209,900 - ($1,499,286  x 9%) = $74,964.26

(1) If ROI is used to measure performance, which division or divisions will probably make the additional investment?

North and South divisions should probably make the additional investments since their current ROI is less than 16%

(2) If residual income is used to measure performance, which division or divisions will probably make the additional investment?

All the divisions since their minimum required rate of return is less than 16%.

The ROI of North, West and South are 14%, 23% and 14% respectively. North and south divisions need to make more investment as their ROI is less than 16%. All the division need to make investments.

What is ROI?

Return on Investment is the performance measure to evaluate the earnings or profit earned from an investment.It is the ration between the net profit/loss to the initial investment made.

                                              North          West            South

Given:

Contribution margin=          $300,300   $499,000   $399,200

Controllable margin=           $139,700   $360,600    $209,900

Average operating assets=  $997,857  $1,567,826   $1,499,286

Minimum rate of return=             13%            14%           9%

Return on Investment= (controllable margin/ average operating assets) X 100

  • North=  ($139,700 / $997,857) X 100= 14%
  • West = ($360,600 / $1,567,826) X 100= 23%        
  • South= ($209,900 / $1,499,286) X 100 = 14%

Residual Income= controllable margin - (average operating assets x minimum rate of return)

  • North = $139,700 - ($997,857 x 13%) = $9,978.59
  • West = $360,600 - ($1,567,826 x 14%) = $141,104.36
  • South= $209,900 - ($1,499,286  x 9%) = $74,964.26

  1. North and South divisions are required to make the additional investments since their current ROI is less than 16%
  2. If residual income is used to measure performance, all the divisions requires additional investment, as their minimum required rate of return is less than 16%.

Therefore, the above calulations aptly describes the statements.

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