Question

I know headquarters wants us to add that new product line," said Dell Havasi, manager of Billings Company’s Office Products Division. "But I want to see the numbers before I make any move. Our division’s return on investment (ROI) has led the company for three years, and I don’t want any letdown."

Billings Company is a decentralized wholesaler with five autonomous divisions. The divisions are evaluated on the basis of ROI, with year-end bonuses given to the divisional managers who have the highest ROIs. Operating results for the company’s Office Products Division for this year are given below:
Sales $10,000,000
Variable expenses 6,000,000
Contribution margin 4,000,000
Fixed expenses 3,200,000
Net operating income $800,000
Divisional operating assets $4,000,000
The company had an overall return on investment (ROI) of 15% last year (considering all divisions).The Office Products Division has an opportunity to add a new product line that would require an additional investment in operating assets of $1,000,000. The cost and revenue characteristics of the new product line per year would be:
Sales $2,000,000
Variable expenses 60% of sales
Fixed expenses $640,000
Requirement:
Compute the Office Products Division's ROI for the most recent year; also compute the ROI as it would appear if the new product line is added.

Answer 1

1. 20.0%

2. 16.0%

Step-by-step explanation:

1. Computation for the Office Products Division's ROI for the most recent year

Using this formula

ROI = Net operating income /Divisional average operating assets

Let plug in the formula

ROI= $800000/$4000000

ROI= 20.0%

Therefore the Office Products Division's ROI for the most recent year will be 20%

2. Computation for the ROI as it would appear if the new product line is added.

First step is to calculate the Net operating income using this formula

Net operating income = Sales - Variable expenses - Fixed expenses

Let plug in the formula

Net operating income= $2000000 - (60% x $2000000) - $640000

Net operating income= $160000

Now let compute the ROI

ROI = $160000/$1000000

ROI = 16.0%

Therefore the ROI as it would appear if the new product line is added is 16.0%