Reference no: EM133090701

Question - ROI and residual income - Orleans Inc., is a multidivision company. The current ROI for Orleans Inc. as a whole is 12 percent. Orleans Inc. has a minimum required rate of return on all investments of 10 percent. The most successful division within Orleans Inc. is the Shellfish Division. Currently the Shellfish Division has total assets of $4,000,000 with operating income of $800,000. The manager of the Shellfish Division is considering the purchase of a small company called Shrimp, Inc. The purchase of Shrimp, Inc., will require an investment of $800,000 and with the synergy between the two companies will increase the Shellfish Division operating income by $100,000. Bonuses in all the Orleans's divisions are awarded to managers with increasing ROIs.

Required -

a. What is the ROI for the Shellfish Division, before and after the proposed purchase of Shrimp, Inc.?

b. What is the residual income for the Shellfish Division, before and after the purchase of Shrimp, Inc.?

c. If the Shellfish Division purchases Shrimp, Inc., and income increases as expected, what will happen to the ROI of Orleans Inc.?

d. Given the current bonus structure within Orleans Inc., and assuming the manager of the Shellfish Division is a self-maximizing individual, what would you expect the manager of the Shellfish Division to do?