Question

PA10-1 (Algo) Calculating Return on Investment, Residual Income, Determining Effect of Changes in Sales, Expenses, Invested Assets, Hurdle Rate on Each (LO 10-4, 10-5) Coolbrook Company has the following information available for the past year: Sales revenue Cost of goods sold and operating expenses Net operating income Average invested assets River Division $1,216,000 B80,000 $ 336.000 $1,010,000 Stream Division $1,811.000 1,298.000 $ 511.000 $1,470,000 The company's hurdle rate is 7.26 percent. Required: 1. Calculate return on investment (ROI) and residual income for each division for last year. 2. Recalculate ROL and residual income for the division for cach independent situation that follows: a. Operating income increases by 10 percent b. Operating income decreases by 10 percent. C. The company Invests $247,000 in each division, an amount that generates $104,000 additional income per division d. Coolbrook changes its hurdle rate to 5.26 percent.

Answer 1

Req 1)

	River Division	Stream Division
ROI	33.27%	34.90%
Residual income (Loss)	$262,674	$406,278

Explanation:-

ROI = Net operating income/ Average Invested Assets

River Division = $336,000/$1,010,000 = 33.27%

Stream Division = $513,000/$1,470,000 = 34.90%

Residual income = Net operating income - (Average invested assets × Hurdle rate)

River Division= $336,000 - ($1,010,000 × 7.26%)

River Division = $336,000 - $73,326 = $262,674

Stream Division = $513,000 - ($1,470,000 × 7.26%)

Stream Division = $513,000 - $106,722 = $406,278

Req 2A)

	River Division	Stream Division
ROI	36.59%	38.39%
Residual income	$296,274	$457,578

Explanation:-

ROI = Net operating income/ Average invested assets

River Division (Net operating income )= $336,000 +10% = $369,600

Stream Division (Net operating income) = $513,000 +10% = $564,300

River division = $369,600/$1,010,000 = 36.59%

Stream division = $564,300/$1,470,000 = 38.39%

Residual income = Net operating income - (Average invested assets × Hurdle rate)

River division = $369,600 - ($1,010,000 × 7.26%) = $296,274

Stream division $564,300 - ($1,470,000 × 7.26%) = $457,578

Req 2B)

	River Division	Stream Division
ROI	29.94%	31.41%
Residual income	$229,074	$354,978

Explanation:-

ROI = Net Operating income/ Average invested assets

Net operating income (River division)= $336,000 - 10% = $302,400

Net operating income (Stream Division) = $513,000 -10% = $461,700

River division = $302,400/$1,010,000 = 29.94%

Stream division = $461,700/$1,470,000 = 31.41%

Residual income = Net operating income - (Average invested assets × Hurdle rate)

River division = $302,400 - ($1,010,000 × 7.26%) = $229,074

Stream division = $461,700 - ($1,470,000 × 7.26%) = $354,978

Req 2C)

	River Division	Stream Division
ROI	35%	35.93%
Residual income	$348,741.8	$492,345.8

Explanation:-

Net operating income:

River Division = $336,000 + $104,000 = $440,000

Stream Division = $513,000 + $104,000 = $617,000

Average investment assets:

River division = $1,010,000 + $247,000 = $1,257,000

Steam division = $1,470,000 + $247,000 = $1,717,000

ROI = Net operating income/ average invested assets

River division = $440,000/$1,257,000 = 35%

Stream division = $617,000/$1,717,000 = 35.93%

Residual income = Net operating income - (Average invested assets × Hurdle rate)

River division = $440,000 - ($1,257,000 × 7.26%) = $348,741.8

Stream division = $617,000 - ($1,717,000 × 7.26%) = $492,345.8

Req. 2D)

	River division	Stream division
ROI	33.27%	34.90%
Residual income	$282,874	$435,678

Explanation:-

ROI= Net operating income/ Average invested assets

River division = $336,000/$1,010,000 = 33.27%

Stream division = $513,000/$1,470,000 = 34.90%

Residual income = Net operating income - (Average invested assets × Hurdle rate)

River division = $336,000 × ($1,010,000 × 5.26%) = $282,874

Stream division = $513,000 ×($1,470,000 ×5.26%) = $435,678