Blackwood Industries manufactures die machinery. To meet its expansion needs, it recently (2014) acquired one of its suppliers, Delta Steel. To maintain Delta's separate indentity, Blackwood reports Delta's operations as an investment center. Blackwood monitors all of its investment centers on the basis of return on investment (ROI). Management bonues are based on ROI, and all investment centers are expected to earn a 10% minimum before income taxes. 

Delta's ROI has ranged from 14% to 18% since 2014. The company recently had the opportunity for a new investment that would have yielded a return of 13% (ROI). However, division management decided against the investment because it believed that the investment would decrease the division's overall ROI. The 2016 operating statement for Delta follows. The division's operating assets were $16,000 at the end of 2016, a 6% increase over the 2015 year-end balance. 

Problem Information

DELTA DIVISION

Operating Statement For Year Ended

December 31, 2016 (000s omitted)

Divisional assets, 31 December 2016 = 16000 (000's) 

% increase in divisional assets during 2016 = 0.06 

Minimum pre-tax rate of return = 0.1

Requirements:
1. Calculate the following performance measures for 2016 for the Delta division:
a. Return on average investment in operating assets.
b. Residual income (RI) calculated on the basis of average operating assets.
2. Which performance measure (ROI or RI) should Blackwood Industries use to provide the proper incentive for each division to act autonomously in the firm's best interests? Would Delta's management have been more likely to accept the capital investment opportunity if RI had been used as a performance measure instead of ROI? Explain.

3. What type of strategic performance measurement do you recommend for Vienna Division? Explain.

Transcribed Image Text:

Sales Cost of goods sold Gross profit Operating expenses: S29,500 19,920 9,580 Administration Selling erating income S2,808 4.3327,140 S2,440