Question

Calculating Residual Income Barnard Manufacturing earned operating income last year as shown in the following income statement: Sales $4,000,000 Cost of goods sold 2,100,000 Gross margin $1,900,000 Selling and administrative expense 1,100,000 Operating income $800,000 Less: Income taxes (@ 40%) 320,000 $480,000 Net income At the beginning of the year, the value of operating assets was $2,700,000. At the end of the year, the value of operating assets was $2,300,000. Barnard requires a minimum rate of return of 15% Required: Calculate: 1. Average operating assets 2. Residual income

Answer 1

1. Average operating assets = assets at beginning + assets at ending / 2

= 2,700,000 + 2,300,000 / 2

= 2,500,000

2. Residual income = net income - (minimum required return x operating asset)

= 480,000 - (15% x 2,300,000)

= 480,000 - 345,000

= 135,000