Asked by Anusree Nambiar on Jul 02, 2024
Verified
The Clipper Corporation had net operating income of $380,000 and average operating assets of $2,000,000.The corporation requires a return on investment of 18%.
Required:
a.Calculate the company's return on investment (ROI)and residual income (RI).
b.Clipper Corporation is considering an investment of $70,000 in a project that will generate annual net operating income of $12,950.Would it be in the best interests of the company to make this investment?
c.Clipper Corporation is considering an investment of $70,000 in a project that will generate annual net operating income of $12,950.If the division planning to make the investment currently has a return on investment of 20% and its manager is evaluated based on the division's ROI, will the division manager be inclined to request funds to make this investment?
d.Clipper Corporation is considering an investment of $70,000 in a project that will generate annual net operating income of $12,950.If the division planning to make the investment currently has a residual income of $50,000 and its manager is evaluated based on the division's residual income, will the division manager be inclined to request funds to make this investment?
Return On Investment
A financial metric used to evaluate the efficiency or profitability of an investment, calculated by dividing the net profit from the investment by the original cost of the investment.
Residual Income
The income that remains after deducting all required costs of capital from operating income.
Net Operating Income
This is the total profit of a company after operating expenses are subtracted from gross income but before income from investments, interest, and taxes are calculated.
- Evaluate the return on investment (ROI) and appreciate its repercussions.
- Figure out and scrutinize residual profits.
- Critically review investment opportunities by their residual income and ROI figures.
Verified Answer
RD
rajesh dasari7 days ago
Final Answer :
a.Return on investment = Net operating income ÷ Average operating assets = $380,000 ÷ $2,000,000 = 19%
Residual income = Net operating income - (Average operating assets × Minimum required rate of return)= $380,000 - ($2,000,000 × 0.18)= $20,000
b.Return on investment = Net operating income ÷ Average operating assets = $12,950 ÷ $70,000 = 18.5%.Because the return on investment of the project exceeds the company's minimum required rate of return, the project should be accepted.It would increase both the company's residual income and its return on investment.
c.The manager of the division would not be inclined to request funds to make the investment in the new project because its return on investment is only 18.5%, which is less than the division's current return on investment of 20%.The new project would drag down the division's return on investment.
d.The manager of the division would be inclined to request funds for the new project.The project's return on investment of 18.5% exceeds the minimum required rate of return of 18%, which would result in an increase in residual income if the project were accepted.
Residual income = Net operating income - (Average operating assets × Minimum required rate of return)= $380,000 - ($2,000,000 × 0.18)= $20,000
b.Return on investment = Net operating income ÷ Average operating assets = $12,950 ÷ $70,000 = 18.5%.Because the return on investment of the project exceeds the company's minimum required rate of return, the project should be accepted.It would increase both the company's residual income and its return on investment.
c.The manager of the division would not be inclined to request funds to make the investment in the new project because its return on investment is only 18.5%, which is less than the division's current return on investment of 20%.The new project would drag down the division's return on investment.
d.The manager of the division would be inclined to request funds for the new project.The project's return on investment of 18.5% exceeds the minimum required rate of return of 18%, which would result in an increase in residual income if the project were accepted.
Learning Objectives
- Evaluate the return on investment (ROI) and appreciate its repercussions.
- Figure out and scrutinize residual profits.
- Critically review investment opportunities by their residual income and ROI figures.