Namibia. Due to the divisionalized nature of Sunlux, performance measurement is of crucial importance to determine the progress each division is making and to reward those divisions who are performing exceptionally well. Sunlux currently uses return on investment (ROI) and residual income (RI) to assess the performance of the divisions.
The following financial records have been extracted for the Malawian Division. The Malawian Division reports in Namibian dollars.
Year ending 31 August
2022 N$000 6,450 (1,070) 5,380 (3,350) 2,030 3,200
2021 N$000 6,200 (1,040) 5,160 (3,600) 1,560 4,000
2020 N$000 6,000 (1,000) 5,000 (3,800) 1,200 5,000
Revenue Direct expenses Gross profit Other operational expenses Operating profit Capital employed (close of year)
Sunlux uses a cost of capital of 5% to assess divisional performance. The capital employed shown in the table above represents the carrying amounts of the division's non-current assets. Other operational expenses are inclusive of annual depreciation charge.
The Malawian Division did not add or dispose non-current assets at any time in the three years. Neither additions nor disposal are anticipated in the 2023 financial period. For the current financial year (2023), revenues and expenses (excluding depreciation) will maintain the 2022 figures.
New project
The board of directors for Sunlux are proposing a project that would require an investment of N$2,000,000. They believe this is a lucrative project and have provided the following details:
Revenue per year Cost per year (exclusive of depreciation) Life span
N$750,000 N$225,000 5 years
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FACULTY OF COMMERCE, MANAGEMENT AND LAW
OLD CURRICULUM MODULES
Sunlux will apply the same depreciation policy as other non-current assets. There are no additional assets to be procured for this project and it will not have any resale value at the end of the 5 years. The project was anticipated to start at the beginning of September 2022.
Marks Required Sub-Total Total
Determine the return on investment and the residual income for 2022 1.1 10 10
and 2023 (ignore the new project in this question).
Using the incremental approach, determine the forecast return on investment and the residual income for 2023 assuming that the 1.2 8 18
Malawian Division has been entrusted to undertake the project and the project started on the planned date.
The manager of the Malawian Division was not willing to undertake the project. Explain using relevant calculations why the use of ROI and RI may impede goal congruence when assessing capital projects and offer 1.3 14 32
advice to the board of Sunlux.
Hint: Your advice should be based on the relevant calculations
Total
32