   Chapter 24, Problem 24.5CP

Chapter
Section
Textbook Problem

Evaluating divisional performance The three divisions of Yummy Foods are Snack Goods, Cereal, and Frozen Foods. The divisions are structured as investment centers. The following responsibility reports were prepared for the three divisions for tile prior year:   Snack Goods Cereal Frozen Foods Revenues $2,200,000$2,520,000 $2,100,000 Operating expenses 1,366,600 1,122,000 976,800 Income from operations before service department charges$833,400 $1,398,000$1,123,200 Service department charges:       Promotion $300,000$600,000 $468,000 Legal 137,400 243,600 235,200 Total service department charges$437,400 $843.600$703,200 Income from operations $396,000$554,400 $420,000 Invested assets$2,000,000 $1,680,000$1,750,000  1.    Which division is making the best use of invested assets and should be given priority for future capital investments? 2.    Assuming that the minimum acceptable return on new projects is 19%, would all investments that produce a return in excess of 19% be accepted by the divisions? Explain. 3.    Identify opportunities for improving the company’s financial performance

(1)

To determine

Profit margin: This ratio gauges the operating profitability by quantifying the amount of income earned from business operations from the sales generated.

Formula of profit margin:

Profit margin=Income from operationsSales

Investment turnover: This ratio gauges the operating efficiency by quantifying the amount of sales generated from the assets invested.

Formula of investment turnover:

Investment turnover=SalesInvested assets

Return on investment (ROI): This financial ratio evaluates how efficiently the assets are used in earning income from operations. So, ROI is a tool used to measure and compare the performance of a units or divisions or a companies.

Formula of ROI according to Dupont formula:

Return on investment = Profit margin × Investment turnover=Income from operationsSales×SalesInvested assets=Income from operationsInvested assets

To determine: The Division which makes the best use of the invested assets

Explanation

Compute ROI of SG Division.

Return on investment = Income from operationsInvested assets=$396,000$2,000,000=19.8%

Compute ROI of C Division.

Return on investment = Income from operationsInvested assets

(2)

To determine

To discuss: Whether the projects earningmore than the 19% minimum acceptable return can be regarded as benchmark to be accepted by the divisions

(3)

To determine

To identify: The approaches to improve the financial performance of the divisions

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