I know headquarters wants us to add that new product line, said Clem Baker, manager of Westwood Inc.s Office Products Division. But I want to see the numbers before I make any move. Our division has led the company for three years, and I dont want any letdown.

Westwood Inc. is a decentralised organisation with five autonomous divisions. The divisions are evaluated on the basis of the return that they are able to generate on invested assets, with year-end bonuses given to the divisional managers who have the highest ROI figures. Operating results for the companys Office Products Division for the most recent year are given below:

Sales $9,000,000

Less variable expenses 5.400,000

Contribution margin $3,600,000

Less fixed expenses $2,520,000

Net operating income $1,080,000

Divisional operating assets $4,500,000

The company had an overall ROI of 18% 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 $250,000. The cost and revenue characteristics of the new product line per year would be:

Sales $1,000,000

Variable expenses 60% of sales

Fixed expenses $350,000

Required:

1) Compute the Office Products Divisions ROI for the most recent year; also compute the ROI as it will appear if the new product line is added.

2) If you were in Clem Bakers position, would you be inclined to accept or reject the new product line? Explain!

3) Why do you suppose headquarters is anxious for the Office Products Division to add the new product line?

4) Suppose that the company views a return of 15% on invested assets as being the minimum that any division should earn and that performance is evaluated by the residual income approach.

(a) Compute the Office Products Divisions residual income for the most recent year; also compute the residual income as it would appear if the new product line were added.

(b) Under these circumstances, if you were in Clem Bakers position, would you accept or reject the new product line? Explain!