Question:
You are the division manager of Flotex Engineering. Your performance as a division manager is evaluated primarily on one measure: after-tax divisional segment income less the cost of capital invested in divisional assets. For existing operations in your division, projections for 2001 follow:
|
Sales
|
$20,000,000
|
|
Expenses
|
-17,500,000
|
|
Segment income
|
$2,500,000
|
|
Taxes
|
-750,000
|
|
After-tax segment income
|
$1,750,000
|
The value of invested capital of the division is $12,500,000, the required return on capital is 12 percent, and the tax rate is 30 percent. At this moment, you are evaluating an investment in a new product line that would, according to projections, increase 2001 pretax segment income by$200,000. The cost of the investment has not yet been determined.
a. Ignoring the new investment, what is your projected EVA for 2001?
b. In light of your answer in part (a), what is the maximum amount that you would be willing to invest in the new product line?
c. Assuming the new product line would require an investment of $1,100,000, what would be the revised projected EVA for your division in 2001 if the investment were made?