Raddington Industries produces tools and die machinery for various manufacturers. 2 years ago, the company expanded vertically by acquring Regis Steel Company, one of its suppliers of alloy steel plates. In order to manage the 2 separate businesses, the operations of Regis Steel are reported separately as an investment center.
Raddington monitors its divisions on the basis of both unit contribution and return on average investment (ROI), with the investment defined as average operating assests used. Raddington has a policy of basing all employee bonuses on divisional ROI. All investments in operating assests are expected to earn a minimum return of 11% before income taxes.
Regis cost of goods sold is considered to be entirely variable, whereas the divison's administrative expenses are not dependent on volume.Selling expenses are a mixed cost, with 40% attributed to sales volume. Over the lsat 2 years, Regis ROI has ranged from 11.8% to 14.7%. During the fiscal year ended nov. 30,2012, Regis contemplated a capital acquisition with an estimated ROI of 11.5%, however, division management decided against the investment because it believed that the investment would decrease Regis overall ROI.
The 2012 income statement for Regis is presented next. The divisions operating assets were $15,750,000 on Nov. 30,2012, a 5% increase over the 2011 year end balance.
Sales revenue- $25,000
Costs of goods sold- 16,500
Gross profit- $8,500
Administrative expenses- 3,955
Selling expenses- 2,700
Income from operations before income taxes- $1,845
A- Calculate the unit contribution for Regis Steel Division if 1,484,000 units were produced & sold during the year ended Nov. 30,2012.
B- Calculate the return on investment (ROI) for Regis Steel Division for 2012.
C- Calculate the residual income, using the average operating assets employed, for 2012 for Regis Steel Division.
D- Explain why the management of Regis Steel Division would have been more likely to accept the contemplated acquisition if residual income rather than ROI were used as a performance measure.
E- Regis Steel Division is a separate investment center within Raddington Industries. Identify several items that Regis Steel should control if it is to be evaluated fairly by either the Roi or the residual income performance measure.