The following data pertain to the Ouster Division of Klandestine Company:Divisional contribution margin$700,000Profit margin controllable by the divisional manager320,000Profit margin traceable to the division294,400Average asset investment1,280,000The company uses responsibility accounting concepts when evaluating performance; Ouster's division manager is contemplating the following three investments. He can invest up to $400,000.?No. 1No. 2No. 3Cost$250,000$300,000$400,000Expected income50,00054,00096,000Required: A. Calculate the ROIs of the three investments.B. What is the division manager's current ROI, computed by using responsibility accounting concepts?C. Which of the three investments would be selected if the manager's focus is on Ouster's divisional performance, as judged by
ROI? Why?D. If Klandestine has an imputed interest charge of 22%, compute the residual income of investment no. 3. If Ouster's Division manager is evaluated by residual income, is this investment attractive from Ouster's perspective? From Klandestine's perspective? Why?
What will be an ideal response?
A. No. 1: $50,000 ÷ $250,000 = 20%
No. 2: $54,000 ÷ $300,000 = 18%
No. 3: $96,000 ÷ $400,000 = 24%
B. Controllable profit margin ($320,000) ÷ asset investment ($1,280,000) = 25%
C. None, as all will lower the current ROI.
D. Residual income: $96,000 - ($400,000 × 22%) = $8,000
This investment is attractive from both Ouster and Klandestine's perspectives. The positive residual income indicates that the investment income covers the imputed interest charge.
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