Question

PA10-1 Calculating Return on Investment, Residual Income, Determining Effect of Changes in Sales, Expenses, Invested Asset, 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 $ 1,200,000 896,000 $ 304,000 $ 1,130,000 Stream Division $ 1,818,000 1,282,000 $ 536,000 $1,580,000 The company's hurdle rate is 7.76 percent. Required: 1. Calculate return on investment (ROI) and residual income for each division for last year. (Enter your ROI answers as a percentage rounded to two decimal places, (.e., 0.1234 should be entered as 12.34%.)) River Division Stream Division ROI Residual income (L.05) 2. Recalculate ROI and residual income for each division for each independent situation that follows: (Enter your ROI answers as a percentage rounded to two decimal places, (i.e., 0.1234 should be entered as 12.34%.)) a. Operating income increases by 11 percent.

Answer 1

Answer of Part 1:

For River Division:

ROI = Net Operating Income / Average Invested Assets *100
ROI = $304,000 / $1,130,000 *100
ROI = 26.90%

Residual Income = Net Operating Income – (Average Invested Assets * Hurdle Rate)
Residual Income = $304,000 – ($1,130,000 * 7.76%)
Residual Income = $304,000 - $87,688
Residual Income = $216,312

For Stream Division:

ROI = Net Operating Income / Average Invested Assets *100
ROI = $536,000 / $1,580,000 *100
ROI = 33.92%

Residual Income = Net Operating Income – (Average Invested Assets * Hurdle Rate)
Residual Income = $536,000 – ($1,580,000 * 7.76%)
Residual Income = $536,000 - $122,608
Residual Income = $413,392

Answer of Part 2-a:

For River Division:

New Operating Income = Old Operating Income + Operating Income *11%
New Operating Income = $304,000 + $304,000 * 11%
New Operating Income = $304,000 + $33,440
New Operating Income = $337,440

ROI = Net Operating Income / Average Invested Assets *100
ROI = $337,440 / $1,130,000 *100
ROI = 29.86%

Residual Income = Net Operating Income – (Average Invested Assets * Hurdle Rate)
Residual Income = $337,440 – ($1,130,000 * 7.76%)
Residual Income = $337,440 - $87,688
Residual Income = $249,752

For Stream Division:

New Operating Income = Old Operating Income + Operating Income *11%
New Operating Income = $536,000 + $536,000 * 11%
New Operating Income = $536,000 + $58,960
New Operating Income = $594,960

ROI = Net Operating Income / Average Invested Assets *100
ROI = $594,960 / $1,580,000 *100
ROI = 37.66%

Residual Income = Net Operating Income – (Average Invested Assets * Hurdle Rate)
Residual Income = $594,960 – ($1,580,000 * 7.76%)
Residual Income = $594,960 - $122,608
Residual Income = $472,352

Answer of Part –b:

For River Division:

New Operating Income = Old Operating Income + Operating Income *11%
New Operating Income = $304,000 - $304,000 * 11%
New Operating Income = $304,000 - $33,440
New Operating Income = $270,560

ROI = Net Operating Income / Average Invested Assets *100
ROI = $270,560 / $1,130,000 *100
ROI = 23.94%

Residual Income = Net Operating Income – (Average Invested Assets * Hurdle Rate)
Residual Income = $270,560 – ($1,130,000 * 7.76%)
Residual Income = $270,560 - $87,688
Residual Income = $182,872

For Stream Division:

New Operating Income = Old Operating Income + Operating Income *11%
New Operating Income = $536,000 - $536,000 * 11%
New Operating Income = $536,000 - $58,960
New Operating Income = $477,040

ROI = Net Operating Income / Average Invested Assets *100
ROI = $477,040 / $1,580,000 *100
ROI = 30.19%

Residual Income = Net Operating Income – (Average Invested Assets * Hurdle Rate)
Residual Income = $477,040 – ($1,580,000 * 7.76%)
Residual Income = $477,040 - $122,608
Residual Income = $354,432

Answer of Part 2-c:

For River Division:

New Operating Income = $304,000 + $107,000
New Operating Income = $411,000

New Average Invested Assets = $1,130,000 + $245,000
New Average Invested Assets = $1,375,000

ROI = Net Operating Income / Average Invested Assets *100
ROI = $411,000 / $1,        375,000 *100
ROI = 29.90%

Residual Income = Net Operating Income – (Average Invested Assets * Hurdle Rate)
Residual Income = $411,000 – ($1,375,000 * 7.76%)
Residual Income = $411,000 - $106,700
Residual Income = $304,300

For Stream Division:

New Operating Income = $536,000 + $107,000
New Operating Income = $643,000

New Average Invested Assets = $1,580,000 + $245,000
New Average Invested Assets = $1,825,000

ROI = Net Operating Income / Average Invested Assets *100
ROI = $643,000 / $1,825,000 *100
ROI = 35.23%

Residual Income = Net Operating Income – (Average Invested Assets * Hurdle Rate)
Residual Income = $643,000 – ($1,825,000 * 7.76%)
Residual Income = $643,000 - $141,620
Residual Income = $501,380

Answer of Part 2-d:

For River Division:

ROI = Net Operating Income / Average Invested Assets *100
ROI = $304,000 / $1,130,000 *100
ROI = 26.90%

Residual Income = Net Operating Income – (Average Invested Assets * Hurdle Rate)
Residual Income = $304,000 – ($1,130,000 * 5.76%)
Residual Income = $304,000 - $65,088
Residual Income = $238,912

For Stream Division:

ROI = Net Operating Income / Average Invested Assets *100
ROI = $536,000 / $1,580,000 *100
ROI = 33.92%

Residual Income = Net Operating Income – (Average Invested Assets * Hurdle Rate)
Residual Income = $536,000 – ($1,580,000 * 5.76%)
Residual Income = $536,000 - $91,008
Residual Income = $444,992