Answered step by step
Verified Expert Solution
Link Copied!

Question

1 Approved Answer

Jarriot, Inc., presented two years of data for its Furniture Division and its Houseware Division. Furniture Division: Year 1 Year 2 Sales $35,500,000 $38,300,000 Operating

Jarriot, Inc., presented two years of data for its Furniture Division and its Houseware Division.

Furniture Division:
Year 1Year 2
Sales$35,500,000$38,300,000
Operating income1,430,0001,560,000
Average operating assets7,770,0007,770,000

Houseware Division:
Year 1Year 2
Sales$11,700,000$12,700,000
Operating income640,000530,000
Average operating assets5,800,0005,800,000

At the end of Year 2, the manager of the Houseware Division is concerned about the division’s performance. As a result, he is considering the opportunity to invest in two independent projects. The first is called the Espresso-Pro; it is an in-home espresso maker that can brew regular coffee as well as make espresso and latte drinks. While the market for espresso drinkers is small initially, he believes this market can grow, especially around gift-giving occasions. The second is the Mini-Prep appliance that can be used to do small chopping and dicing chores that do not require a full-sized food processor. Without the investments, the division expects that Year 2 data will remain unchanged. The expected operating incomes and the outlay required for each investment are as follows:

Espresso-ProMini-Prep
Operating income$28,000$15,300
Outlay180,000130,000

Jarriot’s corporate headquarters has made available up to $510,000 of capital for this division. Any funds not invested by the division will be retained by headquarters and invested to earn the company’s minimum required rate of return, 7 percent.

Required:

1. Compute the residual income for each of the opportunities. (Round to the nearest dollar.)

Espresso-Pro residual income$
Mini-Prep residual income$

2. Compute the divisional residual income for each of the following four alternatives: (Round to the nearest dollar.)

a. The Espresso-Pro is added.
$

b. The Mini-Prep is added.
$

c. Both investments are added.
$

d. Neither investment is made; the status quo is maintained.
$

Assuming that divisional managers are evaluated and rewarded on the basis of residual income, which alternative do you think the divisional manager will choose?

3. Assuming that management acts as you recommend in requirement 2, compute the change in profit (loss) from the divisional manager's investment decision.

$

Was the correct decision made?

Step by Step Solution

There are 3 Steps involved in it

Step: 1

Residual Income RI Residual income is a metric used to measure perform... blur-text-image

Get Instant Access to Expert-Tailored Solutions

See step-by-step solutions with expert insights and AI powered tools for academic success

Step: 2

blur-text-image

Step: 3

blur-text-image

Ace Your Homework with AI

Get the answers you need in no time with our AI-driven, step-by-step assistance

Get Started

Recommended Textbook for

Principles of managerial finance

Authors: Lawrence J Gitman, Chad J Zutter

12th edition

9780321524133, 132479540, 321524136, 978-0132479547

More Books

Students also viewed these Accounting questions