Question

Watkins Associated Industries is a highly diversified company with three divisions: Trucking, Seafood, and Construction. Assume that the company uses return on investment and residual income as two of the evaluation tools for division managers. The company has a minimum desired rate of return on investment of 10% with a 30% tax rate. Selected operating data for three divisions of the company follow.

Trucking Division Seafood Division Construction Division
Sales $1,250,000 $800,000 $950,000
Operating assets 650,000 300,000 400,000
Net operating income 146,250 52,800 79,600
1) Compute the return on investment for each division.
2) Compute the residual income for each division.

Answer 1

Trucking Seafood Construction

division division division

Sales $1,250,000 $800,000 $950,000

Net operating income $146,250 $52,800 $79,600

Income taxes ($43,875) ($15,840) ($23,880)

Net income $102,375 $36,960 $55,720

Operating assets $650,000 $300,000 $400,000

rrr x operating assets $65,000 $30,000 $40,000

1) ROI 15.75% 12.32% 13.93%

(net income/investment)

2) Residual income $81,250 $22,800 $39,600

operating income - (rrr x operating assets)