ROI, Residual Income

Raddington Industries produces tool and die machinery formanufacturers. The company expanded vertically in 20x1 by acquiringone of its suppliers of alloy steel plates, Keimer Steel Company.To manage the two separate businesses, the operations of Keimer arereported separately as an investment center.

Raddington monitors its divisions on the basis of both unitcontribution and return on average investment (ROI), withinvestment defined as average operating assets employed. Managementbonuses are determined on ROI. All investments in operating assetsare expected to earn a minimum return of 22 percent before incometaxes.

Keimer's cost of goods sold is considered to be entirelyvariable, while the division's administrative expenses are notdependent on volume. Selling expenses are a mixed cost with 40percent attributed to sales volume. Keimer contemplated a capitalacquisition with an estimated ROI of 24.20 percent; however,division management decided against the investment because itbelieved that the investment would decrease Keimer's overallROI.

The 20x2 operating statement for Keimer follows. The division'soperating assets employed were $12,831,000 at November 30, 20x2, a5 percent increase over the 20x1 year-end balance.

Keimer Steel Company Operating Statement For the Year Ended November 30, 20x2
Sales revenue				$25,436,000
Less expenses:
Cost of goods sold		$15,770,320
Administrative expenses		3,886,400
Selling expenses		2,700,000		22,356,720
Operating income before income taxes				$3,079,280

Required:

1. Calculate the unit contribution for KeimerSteel Company if 1,233,500 units were produced and sold during theyear ended November 30, 20x2. Round your answer to the nearestcent.
$  per unit

2. Calculate the following performance measuresfor 20x2 for Keimer Steel Company:

a. Pretax return on average investment in operating assetsemployed (ROI). Round your percentage answer to two decimal places(for example, the decimal .10555 would be entered as "10.56"percent).
%

b. Residual income calculated on the basis of average operatingassets employed.
$

3. Explain why the management of Keimer SteelCompany would have been more likely to accept the contemplatedcapital acquisition if residual income rather than ROI were used asa performance measure.
The investment would have increased both the division's residualincome and the management bonuses.

4. Keimer Steel Company is a separateinvestment center within Raddington Industries. Identify severalitems that Keimer should control if it is to be evaluated fairly byeither the ROI or residual income performance measures. (CMAadapted)
Keimer must be able to control all items related to profits andinvestment.