P13.34 LO13.1 13.2 13.3 13.4 ROI and residual income; evaluation of new investment: retailer Electromart is a retailer of electrical products and has four divisions. At the end of each year the four divisional managers are evaluated and bonuses are awarded based on ROI. Last year, the company as a whole produced an ROI of 13 per cent. During the past week, management of the company's Little River division was approached about the possibility of buying the operations of a competitor, SuperEl, which wished to cease its retail operations. The following data relate to recent performance of the Little River division and SuperEl. Little River SuperEI Sales $8 400 000 $5 200 000 Variable costs 70% of sales 65% of sales Fixed costs Invested capital $2 150 000 $1 850 000 $1 670 000 $ 625 000 If the acquisition occurs, the operations of SuperEl will be absorbed into the Little River division. The operations of SuperEl will need to be upgraded to meet the high standards of Electromart, which would require an additional $375 000 of invested capital. Required: 1. Calculate the current ROI of the Little River division and the ROI of the division if SuperEl is acquired. 2. What is the likely reaction of divisional management towards the acquisition? Why? 3. What is the likely reaction of Electromart's corporate management to the acquisition? Explain why. 4. Would the Little River division be better off if it did not upgrade the operation of SuperEl to Electromart's standards? Show calculations to support your answer. 5. Assume that Electromart uses residual income to evaluate performance and desires a minimum required rate of return of 12 per cent on invested capital. Calculate the current residual income of the division and the division's residual income if SuperEl is acquired. Will divisional management be likely to change its attitude towards the acquisition? Explain why