Assume All About Shoes Corporation has a division manager that is considering in

Question

Assume All About Shoes Corporation has a division manager that is considering investing in the Hiking Shoes Project which had the following results last year (in thousands) Management's target rate of return is 20% The division manager's current ROI before the investment is 30% Sales Operating income Total assets Current liabilities $5,000,000 250,000 1,000,000 750,000 What is the the project's Residual Income (Ri) and would the corporation's division manager accept or reject the project if the manager was evaluated using RI? 0 A. $250,000 and reject 0 B. $250,000 and accept O C. $50,000 and accept OD. S50,000 and reject

Explanation / Answer

SOLUTION

Correct option is Option C, i.e $50,000 and accept.

Residual Income = Net operating income - (Minimum required return on assets * Average operating assets)

= $250,000 - (20% * $1,000,000)

= $250,000 - $200,000 = $50,000

Positive Residual income means that the company has met the minimum return requirement. So, it should accept the project.

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