02 Jan Comparing return on investment and residual income
Comparing return on investment and residual incomeAngelo Corporation operates three investment centers. The following financial statements apply to the investment center named Owen Division. Income StatementFor the Year Ended December 31, 2008 Sales revenue $113,385 Cost of goods sold (60,420) Gross margin 52,965 Operating expenses Selling expenses (1,345) Depreciation expense (1,300) Operating income 52,320 Nonoperating income Gain on sale of land 4,460 Net income $ 54,780OWEN DIVISION Balance Sheet As of December 31, 2008 Assets Cash $18,303 Accounts receivable 37,032 Merchandise inventory 37,455 Equipment less accum. dep. 90,000 Non-operating assets 10,000 Total assets $192,790 Liabilities Accounts payable $6,700 Notes payable 67,310 Stockholders’ equity Common stock 64,000 Retained earnings 54,780 Total liab. and stk. equity $192,790Requireda. Should operating income or net income be used to determine the rate of return (ROI) for the Owen investment center? Explain your answer.b. Should operating assets or total assets be used to determine the ROI for the Owen investment center? Explain your answer.c. Calculate the ROI for Owen.d. Angelo has a desired ROI of 10 percent. Headquarters has $91,000 of funds to assign its investment centers. The manager of the Owen division has an opportunity to invest the funds at an ROI of 13 percent. The other two divisions have investment opportunities that yield only 12 percent. Even so, the manager of Owen rejects the additional funding. Explain why the manager of Owen would reject the funds under these circumstances.e. Explain how residual income could be used to encourage the manager to accept the additional funds.
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