Problem F Shaq Company operates with three segments, Louisiana, Orlando, and LA.

Question

Problem F Shaq Company operates with three segments, Louisiana, Orlando, and LA. Data regarding these segment follow Louisiana Orlande LA segment segment segment Contribution to indirect expenses $324,000 180,000 $144,000 Assets directly used and identified with the segment 1000,000 1,440,000 720,000 a. Calculate the return on investment for each segment. Rank them from highest to lowest. b. Assume the cost of capital is 12% for a segment. Calculate residual income for each segment. Rank them from highest to lowest c. Repeat (b), but assurme the cost of capital is 17% for a segment. Rank them from highest to lowest d. Comment on the rankings achieved.

Explanation / Answer

Req A: LOUSINIA ORIANDO LA Contribution 324000 180000 144000 Assets directly used and identified 1,800,000 1440000 720000 Return on Investment 18% 12.50% 20% (Contribution/Assets used *100) Ranking II III I Req b: LOUSINIA ORIANDO LA Contribution 324000 180000 144000 Assets directly used and identified 1,800,000 1440000 720000 Minimum returns 216000 172800 86400 (Assets used *12%) Residual Income 108000 7200 57600 Ranking I III II Req C: LOUSINIA ORIANDO LA Contribution 324000 180000 144000 Assets directly used and identified 1,800,000 1440000 720000 Minimum returns 126000 100800 50400 (Assets used *7%) Residual Income 198000 79200 93600 Ranking I III II Req D: Ranking under Return on investment is different from ranking under residual income method. This is due the fact of larger size of Lousinia Segmen in terms of assets employed. Therefore, with lareger assets employed and at lower Return on investment than LA, it will be be able to generate more residual income only because of larger investment.

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