Chapter 24, Problem 10E

To determine

Return on Investment, Profit margin and Investment Turnover/ Residual Income:

The above three ratios are important tool to measure the company ‘efficiency in earning profits and has been described as under:

Return on Investment: This suggest the percentage income earned by the company on the average amount of net assets employed in the company. The higher the ratio, better is the performance of the company.

Profit Margin: The ratio suggest that the percentage margin which the company is earning on the sales consideration.

Investment turnover ratio; The Investment turnover ratio suggest that the number of times the assets get converted in to sales. The efficiency of the company is counted on this ratio as the more number of times the assets get converted in to sales, more efficient is the company.

However, all the three ratios is integrated in the sense, that the Return on investment is a product of Margin and assets turnover ratio.

Residual income: It is also one of the measures of determining the efficiency of company in generating income. In this target income of the division/ company is provided (based on target rate of return on average assets employed). When the division/ company is earning more than the target income. It will be having positive residual income, otherwise, vice versa.

Requirement1:

To Determine: TheReturn on Investment for both the division need to be computed.

To determine

Requirement2:

To determine: The residual income for each department shall be computed.

To determine

Requirement 3:

To determine: The decision on whether to accept the new investment opportunity.