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Calculate Return On Invested Capital Before And After New Product Is Introduced

Question

Five years ago Ramon Millan quit his job as an associate at a large law firm and opened a burger joint in Malibu. His innovative use of aged blue cheeses and specialty sauces resulted in soaring popularity. He has since opened numerous stores around Los Angeles. While most of his stores are franchised, some are still company owned. Company stores are operated by managers, and those managers are evaluated on return on invested capital (ROIC), which equals profits divided by invested capital. A higher ROIC is viewed as better performance and is compensated accordingly. For purposes of this question, assume that tax rates are zero.

Two of the company units, Delbasso and Habermehl, are considering expanding their menus to include specialty pizzas. Purchase and installation of the necessary equipment costs $180,000 per store and adding pizza should increase profits by $30,600 for each store. The current investment in Delbasso, which is managed by Serena Delbasso, totals $890,000. Delbasso’s revenues are $1,100,500 and expenses are $924,420. Investment in the Habermehl store, which is managed by Deidre Habermehl, stands currently at $1,740,000. Habermehl’s revenues are $1,760,800 and expenses are $1,496,680. Answer the following questions.

(a)    Calculate ROIC for Delbasso for the two cases where the pizza investment is not made and where the pizza investment is made. Would Serena Delbasso seek to expand her menu to include pizza?
(b)    Calculate ROIC for Habermehl for the same two scenarios in part a). Would Deidre Habermehl seek to expand her menu to include pizza?
(c)    Would your answers to a) and b) change if the two stores were franchised? Whereas company stores are evaluated based on ROIC, assume that franchised stores are evaluated based on economic income. Assume also that the cost of capital is 14%.
(d)    Do you have any advice for Ramon Millan regarding the metric he uses to evaluate managers of company-owned stores?


Summary

The question belongs to Finance and it discusses about calculating return on invested capital for a burger joint with many branches. The return on invested capital before and after the installation of pizza in the menu needs to be calculated.

Total Word Count 459

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