Discuss advantage of using ri in brief

Reference no: EM132761340

Question: The income statement for Division A is as follows:Division AIncome statement for the year ended 31 December 2018
Sales RM120,000

(-) Cost of goods sold RM79,000

Gross income RM41,000

(-) Selling and administrative expenses RM28,700

Operating income RM12,300

(-) Tax RM3,690

Net income RM8,610

Division A is an investment centre that uses return on investment (ROI) for its performance measure. Management bonuses are also based on ROI. All investments are expected to earn a minimum return of 15%. At the end of 2018, the division's total productive assets is RM63,000 which is a 5% increase over the beginning balance. The total cost of capital is 10%.

Division A has an investment opportunity of RM60,000 that will generate additional sales of RM16,000. This investment will incur additional variable cost of 6% on sales and RM600 of fixed cost. By accepting this investment, Division A will increase current liabilities by RM4,000.

Required: (a) Calculate ROI for Division A for the following:

(i) Without new investment

(ii) With new investment

(b) Determine whether Division A will accept the new investment if residual income (RI) is used as performance measurement. Show all workings.

(c) Determine whether Division A will accept the new investment if economic value added (EVA) is used as performance measurement. Shows all workings.

(d) Discuss ONE (1) advantage of using RI as compared to ROI in evaluation of investment centre.

Reference no: EM132761340

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