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ACCAAPM Walkthrough: Divisional Performance — ROI, RI and EVA Compared
A worked ACCA APM question calculating ROI, residual income and EVA for a division, evaluating a proposed investment under each measure, and advising which metric best promotes goal congruence.
Divisional performance measurement is one of the most frequently tested topics in APM Section A and B questions. The examiner consistently reports that candidates calculate the metrics correctly but fail to explain the behavioural implications — why a manager measured on ROI will reject a project that is good for the group, and what this means for goal congruence. The calculation earns half the marks; the evaluation earns the other half.
The Creston Division reports operating profit of $3.2m on net assets of $18m. The group's required rate of return is 14%. WACC is 12%. The division is considering a new project with operating profit of $280,000 and net assets of $2.0m. EVA adjustments: add back goodwill amortisation of $120,000 to NOPAT; add $840,000 of capitalised goodwill back to capital employed. Tax rate 25%. (a) Calculate ROI, RI and EVA for the division before and after the proposed investment. (b) Evaluate which measure best promotes goal congruence in this context and recommend the appropriate action.
[20 marks]
Part (a) — Current Performance
| Measure | Formula | Current ($) |
|---|---|---|
| ROI | Operating profit / Net assets | $3.2m / $18m = 17.8% |
| RI | Operating profit − (Required return × Net assets) | $3.2m − (14% × $18m) = $3.2m − $2.52m = $680,000 |
| NOPAT (for EVA) | Adjusted operating profit × (1 − tax) | ($3.2m + $0.12m) × (1 − 0.25) = $3.32m × 0.75 = $2.49m |
| Adjusted CE (for EVA) | Net assets + capitalised goodwill | $18m + $0.84m = $18.84m |
| EVA | NOPAT − (WACC × Adjusted CE) | $2.49m − (12% × $18.84m) = $2.49m − $2.261m = $229,000 |
With Proposed Investment
| Measure | Calculation | Result |
|---|---|---|
| ROI | ($3.2m + $0.28m) / ($18m + $2.0m) | $3.48m / $20m = 17.4% |
| RI | ($3.48m) − (14% × $20m) | $3.48m − $2.80m = $680,000 |
| Project ROI | $0.28m / $2.0m | 14.0% |
| Project RI | $0.28m − (14% × $2.0m) | $0.28m − $0.28m = $0 |
| Project NOPAT (EVA) | $0.28m × 0.75 | $0.21m |
| Project EVA | $0.21m − (12% × $2.0m) | $0.21m − $0.24m = ($30,000) |
Part (b) — Evaluation and Recommendation
ROI result and behavioural implication
The project ROI is 14.0%, which is below the division's current ROI of 17.8%. A manager measured on ROI will REJECT the project because it dilutes their divisional ROI (17.8% → 17.4%), even though 14.0% exceeds the group required return of 14%. This is goal incongruence — what is good for the group is bad for the manager's reported metric.
RI result and behavioural implication
The project RI is exactly $0 — the project earns precisely the required return. Division RI remains $680,000. A manager measured on RI will be indifferent to this project. RI resolves the ROI goal incongruence: if RI increases (project RI > 0), accept; if RI decreases, reject. RI is better than ROI for divisional investment decisions, but is not comparable across divisions of different sizes.
EVA result and recommendation
The project EVA is negative ($30,000) — it does not generate returns above the WACC of 12% after tax adjustments. EVA suggests rejection, and it is the most theoretically rigorous measure as it uses WACC (the true cost of capital) and makes accounting adjustments to align reported profit with economic profit. Recommendation: reject the project on EVA grounds. The division manager should be measured on RI (as a minimum) rather than ROI to prevent the rejection of value-creating projects — but EVA most accurately reflects wealth creation.
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