A dvistn is consdering the acqustion of a new asset that wil ceoet $2.520,000and

Question

A dvistn is consdering the acqustion of a new asset that wil ceoet $2.520,000and have a cash now of $700,000 per year for each of me our year of ts we Orprecation s computed on a stagh-ine bass with no savage vate gnore taxes Required: a. & b. What is he RCi for each year of the assets life if the dvision uses beginning-of-yer asset basiances and net book value for the compuraton? what is the nesiduial ncome each year i the cost of capita is 8 percenr (Etr Ror answers as a percentage rounded to 1 cecimal place (. 32.1 Negative amounts should be indicabed by a minus sign

Explanation / Answer

Year

Investment Base

ROI

Residual Income

1

25,20,000

2.78%

(131600)

2

1890000

3.70%

(81200)

3

1260000

5.56%

(30800)

4

630000

11.11%

19600

ROI Calculation

Year 1

Year 2

Year 3

Year 4

Cost of Asset

25,20,000

1890000

1260000

630000

Cash Flow

7,00,000

7,00,000

7,00,000

7,00,000

Depreciation

6,30,000

6,30,000

6,30,000

6,30,000

Net Income

70,000

70,000

70,000

70,000

Return on Investment (ROI)

2.78%

3.70%

5.56%

11.11%

***Depreciation = $2520000 / 4 = $630000

Residual Income Calculation

Year 1

Year 2

Year 3

Year 4

Cost of Asset

25,20,000

1890000

1260000

630000

Cost of capital

8%

8%

8%

8%

Required Return

201600

151200

100800

50400

Net Income

70,000

70,000

70,000

70,000

Residual Income

(131600)

(81200)

(30800)

19600

Year

Investment Base

ROI

Residual Income

1

25,20,000

2.78%

(131600)

2

1890000

3.70%

(81200)

3

1260000

5.56%

(30800)

4

630000

11.11%

19600

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