A division is considering the acquisition of a new asset that will cost $740,000
ID: 2465432 • Letter: A
Question
A division is considering the acquisition of a new asset that will cost $740,000 and have a cash flow of $277,000 per year for each of the four years of its life. Depreciation is computed on a straight-line basis with no salvage value. Ignore taxes.
What is the ROI for each year of the asset's life if the division uses beginning-of-year asset balances and net book value for the computation? What is the residual income each year if the cost of capital is 25 percent? (Round "ROI" to 1 decimal place. Negative amount should be indicated by a minus sign. Round your dollar values to nearest whole dollar.)
A division is considering the acquisition of a new asset that will cost $740,000 and have a cash flow of $277,000 per year for each of the four years of its life. Depreciation is computed on a straight-line basis with no salvage value. Ignore taxes.
Required:What is the ROI for each year of the asset's life if the division uses beginning-of-year asset balances and net book value for the computation? What is the residual income each year if the cost of capital is 25 percent? (Round "ROI" to 1 decimal place. Negative amount should be indicated by a minus sign. Round your dollar values to nearest whole dollar.)
Year Investment Base ROI (%) Residual Income 1 $740,000 2 3 4Explanation / Answer
Year
Investment base
ROI
Residual income
1
740,000
12.40%
(93,000)
2
555,000
16.60%
(46,750)
3
370,000
24.90%
(500)
4
185,000
49.70%
45,750
Notes:
Net income = Cash flow each year – depreciation of the year
=277,000 - 740,000/4
=$92,000
ROI = Net income / investment base
Investment base = base – depreciation each year
Residual income = Net income – ( investment base each year * 25% cost of capital)
Year
Investment base
ROI
Residual income
1
740,000
12.40%
(93,000)
2
555,000
16.60%
(46,750)
3
370,000
24.90%
(500)
4
185,000
49.70%
45,750
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