Steelwall Inc. uses the return on investment as a performance measure and defines investment as the average operating assets. The company bases management bonuses in part on the ROI and expects all investments to earn a minimum rate of return of 18%.
Stonewall is a division of Steelwall Inc. Its ROI has ranged from 22% to 25% since it was acquired. Stonewall had an investment opportunity in 2012 that had an estimated ROI of 20%. Stonewall's management decided against the investment because it believed the investment would decrease the division's overall ROI.
Selected financial information for Stonewall are presented below. The division's average operating assets were $25 million for the year 2012.
STONEWALL DIVISION
Selected Financial Information
Year Ended December 31, 2012
Sales...........................................................$29,100,000
Contribution margin............................................9,100,000
Controllable margin.............................................5,000,000
Instructions
(a) Calculate the following performance measures for 2012 for the Stonewall division:
(1) Return on investment, and
(2) Residual income.
(b) Would the management of the division have been more likely to accept the investment opportunity it had in 2012 if residual income had been used as a performance measure instead of the ROI? Explain your answer.