ROI and Residual Income; Investment Evaluation Income: $150,000 Current residual income of the Northeast Division: $148,000 Megatronics Corporation, a massive retailer of electronic products, is organized in four separate divisions. The four divisional managers are evaluated at year-end, and bonuses are awarded based on ROI. Last year, the company produced a 13 percent return on its investment. During the past week, management of the company’s Northeast Division was approached about the possibility of buying a competitor that had decided to redirect its retail activities. (If the competitor is acquired, it will be acquired at its book value.) The data that follow relate to recent performance of the Northeast Division and the competitor Northeast Division Competitor
Variance Analysis
In layman's terms, variance analysis is an analysis of a difference between planned and actual behavior. Variance analysis is mainly used by the companies to maintain a control over a business. After analyzing differences, companies find the reasons for the variance so that the necessary steps should be taken to correct that variance.
Standard Costing
The standard cost system is the expected cost per unit product manufactured and it helps in estimating the deviations and controlling them as well as fixing the selling price of the product. For example, it helps to plan the cost for the coming year on the various expenses.
- Income: $150,000
- Current residual income
of the Northeast Division:
$148,000
Megatronics Corporation, a massive retailer of electronic products, is organized in four separate divisions.
The four divisional managers are evaluated at year-end, and bonuses are awarded based on ROI.
Last year, the company produced a 13 percent return on its investment.
During the past week, management of the company’s Northeast Division was approached about the
possibility of buying a competitor that had decided to redirect its retail activities. (If the competitor is
acquired, it will be acquired at its book value.) The data that follow relate to recent performance of the
Northeast Division and the competitor
Northeast Division Competitor
Sales ....................................................................................................... $8,400,000 $5,200,000
Variable costs ......................................................................................... 70% of sales 65% of sales
Fixed costs .............................................................................................. $2,150,000 $1,670,000
Invested capital ...................................................................................... $1,850,000 $625,000
Management has determined that in order to upgrade the competitor to Megatronics’ standards, an additional $375,000 of invested capital would be needed.
questions 1-3 already answered, please answer 4 and 5.
Required: As a group, complete the following requirements.
- Compute the current ROI of the Northeast Division and the division’s ROI if the competitor isacquired. 2.
- What is the reaction of divisional management toward the acquisition? Why? 3.
- What is thereactionof Megatronics’ corporate management toward the acquisition? Why?
4. Would the division be better off if it didn’t upgrade the competitor to Megatronics’ standards?
Show computations to support your answer.
5. Assume that Megatronics uses residual income to evaluate performance and desires a 12 percent minimum return on invested capital. Compute the current residual income of the Northeast
Division and the division’s residual income if the competitor is acquired. Will divisional management be likely to change its attitude toward the acquisition? Why?
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