New Stone manufactures a number of electronic products, including household appliances, recreational products, and electronic games. Marching is a division under New Stone that focus on electronic games. Under COVID-19, electronic games that involve physical exercises gained in popularity. New Stone thus has been encouraging Marching to diversify the lines of electronic games. ScaleUp is a start-up firm focusing on electronic sport games and looking for a buyer.

New Stone's top management believes that ScaleUp would be a valuable addition to their existing portfolio and ScaleUp's assets could be acquired for an investment of only $5.2 million and has strongly urged William Crook, the divisional manager of Marching, to consider acquiring ScaleUp. William has reviewed the financial statements of ScaleUp and he believes that the acquisition may not be in the best interests of Marching.

New Stone has always evaluated the divisions on the basis of ROI, and the target ROI for each division is 20 percent. The management team of any division that reports an annual increase in their ROl is given a bonus, but the managers of divisions where the ROI declines must provide a very convincing explanation as to why they should get a bonus. Where RI has declined, the bonus is limited to only 50 per cent of the bonus that is paid to the divisions that report an increase in ROl.

William thus explains his concerns to his divisional management team, 'If only we could convince them to base our bonuses on something other than ROI, this acquisition would look more attractive. If only our bonuses were based on residual income, using the company's weighted average cost of capital of 15 per cent'. The following data relate to the most recent financial year:

ScaleUp Marching

Sales revenue $4,550,000 $15,250,000

Less

Variable expense 1,850,000 $900,000

Fixed expense 1,800,000 3,250,000

Operating profit $900,000 $3,000,000

Current assets $2,350,000 $3,450,000

Long-term assets 2,650,000 8,550,000

Total assets 5,000,000 12,000,000

Current liability 1,175,000 2,100,000

Long-term liability 1,800,000 5,700,000

Stakeholders' equity 2,025,000 5,000,000

Total liabilities and equity 4,200,000 12,000,000

Required:

1. Explain why Marching Division may be reluctant to acquire ScaleUp. Provide calculations based on the compensation plan discussed above.

2. If Division managers were evaluated based on divisional residual income, would William be more motivated to acquire ScaleUp? Provide calculations to support your answer.

3. Comment on the current bonus scheme. What are the non-financial performance measures that may be considered?