August Twenty-Six Manufacturing (Pty) Ltd is a manufacturer of Specialised Garments, Footwear, and Leather products such as Personal Protective Wear, Corporate wear, School Uniforms, and Shoes. August Twenty-Six has many trading divisions and Return on investment (ROI) is the main measure of each division’s performance. Each divisional Manager’s salary is linked only to their division’s ROI. The following information relating to the Mega division summarises the financial performance of the three years including the projected figures for 2023.
Other operating costs include asset depreciation calculated at the rate of 20% per annum on a reducing balance basis. The figures shown in the above table for the capital invested as at the end of the year is the net book value of the division’s non-current assets. At the beginning of 2023, the Manager of the Mega division considered investing in an additional machine to boost production capacity. The new machine will cost N$100 000 with an expected life of five years depreciated using the same depreciation rate as the existing machinery on the straight-line method. The new machine will increase sales by 10% and costs by 3%. The divisional cost of capital is 8% per annum. The company has evaluated the investment and correctly determined that it has a positive Net Present Value (NPV) of N$24 536.
A, Calculate the return on investment (ROI) for a three-year period (i.e., without the new investment).
B, Calculate ROI for 2023 after considering the new investment and comment on whether the Management of Mega Division will still go ahead with the new investment.
C, Using Residual Income (RI) comment on whether the Management of Mega Division will go ahead with the new investment.