Example would include the vice president of North America manufacturing General

# Example would include the vice president of north

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has control over cost, revenue, and investments in operating assets. Example would include the vice president of North America manufacturing (General Motors) would have a great deal of discretion over investments in manufacturing— such as investing in equipment to produce more fuel-efficient engines. Investment center managers are often evaluated using return on investment (ROI) or residual income measures .

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Return on Investment “ROI” ROI = NET OPERATING INCOME divided by AVERAGE OPERATING ASSETS Net operating income is equivalent to EBIT (Earnings before interest and taxes). Items that would NOT be included would be: Interest revenue or Interest expense Tax expense or Tax benefit
Return on Investment “ROI” ROI = NET OPERATING INCOME divided by AVERAGE OPERATING ASSETS Operating assets would include cash, accounts receivable, inventory, plant and equipment, and all other assets held for operating purposes. Operating assets would not include land held for future use, an investment in another company, or a building rented to someone else.

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Return on Investment “DuPont Formula” Another way to calculate ROI is from the DuPont Formula : ROI = Margin x Turnover Margin = Net operating income divided by Sales Turnover = Sales divided by average operating assets
Residual Income Residual income is another approach to measuring an investment center's performance. Residual income is the net operating income that an investment center earns above the minimum required return on its operating assets. Residual income = Net operating income – (Avg. Operating Assets x Minimum required rate of return)

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Residual Income The residual income approach encourages managers to make investments that are profitable for the entire company but that would be rejected by managers who are evaluated using the ROI formula. A manager who is evaluated based on ROI will reject any project whose rate of return is below the division's current ROI even if the rate of return on the project is above the company's minimum required rate of return. Because it is in the best interests of the company as a whole to accept any project whose rate of return is above the minimum required rate of return, managers who are evaluated based on residual income will tend to make better decisions concerning investment projects than managers who are evaluated based on ROI.
• Fall '19
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