MANAGEMENT ACCOUNTING
CONCEPTS AND TECHNIQUES
By Dennis Caplan, University
at Albany (State University of New York)
CHAPTER
22: Divisional Performance Measures
Exercises
and Problems:
22-1: The Purini Dog Food Company has two divisions, the Puppy Chow Division and the Canine Elder Division. Operating results for the two divisions are as follows:
Puppy Chow Division Canine Elder Division
Net Operating Income $10,000 $ 6,000
Average Operating Assets $50,000 $42,000
The required rate of return, which is equal to the cost of capital, is 10%.
Required: A project with a return of $20,000 on an investment of $130,000 exists. If the divisions are evaluated based on return on investment, which division(s) would like to accept the project? If the divisions are evaluated based on residual income, which division(s) would like to accept the project?
22-2: Nummi Motors operates two divisions: the
truck division and the car division. Nummi’s hurdle rate
(i.e., the cost of capital) is 10%. Following is information about the two
divisions:
Truck
Division Car
Division
Divisional Income $ 1 million $ 2 million
Divisional Operating Assets $12 million $10 million
Required:
A) Calculate
the truck division’s residual income
B) Calculate
the car division’s return on investment
22-3: A company has two divisions: the Eastern division and the Western division. The cost of capital is 15%. Following is information about the two divisions:
|
|
Eastern Division |
Western Division |
|
Divisional profits Divisional investment |
$ 100,000 1,000,000 |
$ 200,000 1,000,000 |
Required:
A) Calculate
each division’s residual income, and residual income
for the company as a whole
B) Calculate
each division’s return on investment, and return on investment for the company
as a whole.
22-4: In 1980, the truck division of Motown Motors had return on sales of
15% and an asset turnover ratio of 50%. Sales were $100 million. Calculate the
division’s return on investment.
22-5: Recall that Residual Income is calculated by subtracting from NOPAT
(Net operating profit after taxes) a charge for the cost of capital. If a
company has interest expense and income tax expense, but no other income or
expense line-items between operating income and net income, then NOPAT simply
adds back to net income the after-tax effect of interest expense.
Arbatax
has after-tax net income in 2007 of $34,000,000. The company has a marginal tax
rate of 35%. The company incurred interest expense in 2007 of $6,000,000 (and
the company earned no interest income). Arbatax had
total assets in 2007 of $400,000,000. The company’s cost of capital is 8%.
Required: Determine the company’s Residual Income for
2007.
22-6: Following is selected information from the 2005 Annual Report of
General Motors (some small miscellaneous line-items have been excluded, so that
net income calculated from these numbers differs slightly from net income as
per the annual report):
|
|
2005 |
2004 |
|
Automotive and Other
Operations Revenue COGS, SG&A and other Financing and Insurance
Business Revenue Expenses Interest expense Net income tax benefit
(increases income) Total assets Shareholders equity |
$158,221,000,000 175,395,000,000 34,383,000,000 18,372,000,000 15,768,000,000 5,878,000,000 480,530,000,000 14,597,000,000 |
$161,545,000,000 162,087,000,000 31,972,000,000 18,264,000,000 11,980,000,000 916,000,000 482,347,000,000 27,360,000,000 |
Required: Calculate GM’s pre-tax income, after-tax income,
return on investment, and residual income for both 2005 and 2004. Combine both
segments of the company for this exercise (automotive and financing). For
return on investment, use pre-tax income in the numerator and total assets in
the denominator. For residual income, use a 7% cost of capital, and a marginal
tax rate of 30% to adjust for the tax effect of interest expense.
22-7: Following is selected information from the 2005 or 2006 financial
statements of four airlines. All amounts are in 000’s.
|
|
Southwest Airlines |
|
Frontier Airlines |
|
|
Revenue Operating income Net interest expense Pre-tax income After-tax income Total assets Shareholders equity |
$7,584,000 820,000 75,000 874,000 548,000 14,218,000 6,675,000 |
$2,416,100 -10,800 18,700 124,200 -2,300 3,511,900 626,900 |
$994,273 -7,897 12,392 -20,469 -13,971 970,432 228,776 |
$522,989 -65,168 -142 -65,026 -64,886 351,344 17,256 |
Required: Calculate ROI for each airline using net income and
total assets. Break out each airline’s ROI into return on sales and the asset
turnover ratio.
22-8: Following is selected financial information for four companies for 2005
(all amounts are in millions):
|
|
Apple Computer |
Pepsi |
Chevron |
The GAP |
|
Revenue Total assets Shareholder equity Operating income Net income |
$13,931 11,551 7,466 1,650 1,335 |
$32,562 31,727 14,320 6,382 4,078 |
$198,200 125,833 62,676 25,197 14,099 |
$16,023 8,821 5,425 1,745 1,113 |
Required: Calculate each firm’s return on investment (net
income on total assets), return on sales, asset turnover ratio, and residual
income using an 8% cost of capital. None of these firms incurred significant
interest expense during the year.
22-9: Following is selected segment information for 2005
from the Annual Report for Starbucks.
|
|
United States (000’s) |
International (000’s) |
Unallocated Corporate (000’s) |
Total (000’s) |
|
Revenue Pre-tax earnings Identifiable assets |
$5,334,460 945,926 1,633,721 |
$1,034,840 86,421 605,750 |
$ 0 - 235,903 1,274,594 |
$6,369,300 796,444 3,514,065 |
The total column agrees to the company’s 2005 income
statement. In answering the following questions, because Starbucks has
virtually no debt, interest expense can be ignored. Also, assume a 33%
effective tax rate and a 7% cost of capital.
Required:
A) Calculate post-tax return on investment and post-tax
residual income for the
B) Explain why corporate-level residual income is less than the sum of the residual income of the two segments. Speculate as to the types of assets and expenses that are included as unallocated corporate. Identify the advantages and disadvantages of failing to allocate to the operating divisions significant corporate-level assets and expenses.
Return
to the Table of Contents
Management
Accounting Concepts and Techniques; copyright 2006; most recent update:
November 2010
For a printer-friendly version, contact Dennis Caplan at dcaplan@uamail.albany.edu