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A company has two divisions. The divisions are identical type of machines that operates for production. One division was set up four years ago and the other was set up one year ago. Head office appraises the division using both return on the investment (ROI) and residual income (RI).
Which of the following statements is correct in relation to the outcome of the appraisal for each division?
The correct answer is: Both ROI and RI will favour the older division
My question is that why do ROI and RI favour older divisions?
It is because the older the machine is then the lower will be the book value of the machines (because they will have been depreciated more).
If the assets used in the calculation of the ROI and the RI are lower, then both the ROI and the RI will be higher.