Calculating the return on investment

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Reference no: EM1334743

Tam Burger has opened more than 200 stores within the past five years; 80% of which are franchised (independently owned). Two of the company-operated units, Northside and Southside, are among the fastest-growing stores. Both are considering expanding their menus to include pizza. Installation of the necessary ovens and purchase of the necessary equipment would cost $180,000
per store.

The current investment in the Northside store totals $890,000; its revenues are $1,100,500 and expenses are $924,420. Expansion of Northside's menu should increase profits by $30,600.

The current investment in the Southside store totals $1,740,000, its revenues are $1,760,800 and expenses are $1,496,680. Adding pizza to Southside's menu should increase its profits by $30,600 also.

Tam Burger evaluates its managers based on return on investment. Managers of individual stores have responsibilities over the pizza expansion.

a. Calculate the return on investment for both stores using current numbers for the expansion project and for the stores after expansion. (hint: set the answer up as ROI before pizza; ROI of pizza only; and ROI after pizza.)

b. Assuming a 14% cost of capital, calculate residual income for both stores
before and after the potential expansion. (hint: set this up the same way)

c. Will the Tam Burger stores choose to expand? How would your answer change if the stores were franchised units and owned by value-
maximizing investors?

Reference no: EM1334743

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