Question

Meiji Isetan Corp. of Japan has two regional divisions with headquarters in Osaka and Yokohama. Selected data on the two divisions follow:

Division
Osaka Yokohama
Sales $3,000,000 $9,000,000
Net operating expenses $210,000 $720,000
Average operating assets $1,000,000 $4,000,000

Required:
a. For each divisions, compute the return on investment (ROI) in terms of margin and turnover. (Do not round intermediate calculations.)
b. Assume that the company evaluates performance using residual income and that the minimum required rate of return for any division is 15%. Compute the residual income for each division.

Answer 1

The Osaka division has an ROI of 21% and a residual income of $60,000, while the Yokohama division has an ROI of 18% and a residual income of $120,000.

Step-by-step explanation:

Part A: Calculating Return on Investment (ROI)

To calculate the ROI for each division, we need to compute two components: the margin and the turnover. Margin is calculated by dividing the Net Operating Income by Sales, and the Turnover is calculated by dividing Sales by Average Operating Assets. We will then multiply the Margin by the Turnover to get the ROI.

For the Osaka division:
Margin = Net Operating Income / Sales = $210,000 / $3,000,000 = 0.07 or 7%
Turnover = Sales / Average Operating Assets = $3,000,000 / $1,000,000 = 3
ROI = Margin × Turnover = 7% × 3 = 21%

For the Yokohama division:
Margin = Net Operating Income / Sales = $720,000 / $9,000,000 = 0.08 or 8%
Turnover = Sales / Average Operating Assets = $9,000,000 / $4,000,000 = 2.25
ROI = Margin × Turnover = 8% × 2.25 = 18%

Part B: Calculating Residual Income

Residual Income is calculated by subtracting the product of the Minimum Required Rate of Return and the Average Operating Assets from the Net Operating Income. A 15% minimum required rate of return is given.

For the Osaka division:
Residual Income = Net Operating Income - (Minimum Required Rate of Return × Average Operating Assets)
Residual Income = $210,000 - (15% × $1,000,000) = $210,000 - $150,000 = $60,000

For the Yokohama division:
Residual Income = Net Operating Income - (Minimum Required Rate of Return × Average Operating Assets)
Residual Income = $720,000 - (15% × $4,000,000) = $720,000 - $600,000 = $120,000

Answer 2

1. Rate of Interest = Net operating expenses/Average operating assets

Osaka = $210000/$1000000 = 0.21 = 21%

Yokohama = $720000 / $4000000 = 0.18 = 18%

2. Osaka Yokohama

Average operating assets $1,000,000 $4,000,000

M. required return at 15% $150,000 $600,000

Net operating income $210,000 $720,000

Minimum required return $150,000 $600,000

Residual income $60,000 $120,000