“I know headquarters wants us to add that new product line,” said Dell Havasi, m
ID: 2543503 • Letter: #
Question
“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 the most recent year are given below:
The company had an overall return on investment (ROI) of 16.00% last year (considering all divisions). The Office Products Division has an opportunity to add a new product line that would require an additional investment in operating assets of $2,387,500. The cost and revenue characteristics of the new product line per year would be:
Compute the Office Products Division’s ROI for the most recent year; also compute the ROI as it would appear if the new product line is added. (Round the "Margin", "Turnover" and "ROI" answers to 2 decimal places.)
Sales
Net operating income
Operating assets
Margin % % %
Turnover
ROI % % %
If you were in Dell Havasi’s position, would you accept or reject the new product line?
Why do you suppose headquarters is anxious for the Office Products Division to add the new product line?
Suppose that the company’s minimum required rate of return on operating assets is 12.00% and that performance is evaluated using residual income
Compute the Office Products Division’s residual income for the most recent year; also compute the residual income as it would appear if the new product line is added.
Present New Line Total
Sales
Net operating income
Operating assets
Margin % % %
Turnover
ROI % % %
Under these circumstances, if you were in Dell Havasi’s position, would you accept or reject the new product line?
“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.”
Explanation / Answer
income on new line contribution (9,550,000*35%)= 3342500 less Fixed expense -2,578,500 Net operating income 764000 1,2&3) present new line total Sales 22,100,000 9,550,000 31,650,000 Net operating income 2,121,600 764,000 2,885,600 operating assets 5,200,000 2,387,500 7,587,500 margin 9.60% 8.00% 9.12% turnover 4.25 4.00 4.17 ROI 40.80% 32.00% 38.03% where margin = net operating income/sales turnover = sale/average operating assets ROI = margin *turnover 4) Reject 5) Addint the new product line would improve overall ROI 6) Residual income = net operating income -(average assets *min rate or return) present new line total operating assets 5,200,000 2,387,500 7,587,500 minimum required return 12% 12% 12% min net opeerating income 624000 286500 910500 actual net operating income 2,121,600 764,000 2,885,600 min net operating income 624000 286500 910500 residual income 1,497,600 477,500 1,975,100 b) Accept
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