Question

Coolbrook Company has the following information available for the past year:   

	River Division			Stream Division
Sales revenue	$	1,206,000		$	1,804,000
Cost of goods sold and operating expenses		887,000			1,283,000
Net operating income	$	319,000		$	521,000
Average invested assets	$	1,070,000		$	1,560,000

   
The company’s hurdle rate is 7.26 percent.

Required:
1. Calculate return on investment (ROI) and residual income for each division for last year. (Enter your ROI answers as a percentage rounded to two decimal places, (i.e., 0.1234 should be entered as 12.34%.))



2. Recalculate ROI and residual income for each division for each independent situation that follows: (Enter your ROI answers as a percentage rounded to two decimal places, (i.e., 0.1234 should be entered as 12.34%.))

a. Operating income increases by 11 percent.



b. Operating income decreases by 10 percent.



c. The company invests $241,000 in each division, an amount that generates $117,000 additional income per division.



d. Coolbrook changes its hurdle rate to 5.26 percent.

Answer 1

• All working forms part of the answer
• Requirement 1

Working		River Division	Stream Division
A	Net operating income	$        319,000.00	$        521,000.00
B	Average invested assets	$    1,070,000.00	$    1,560,000.00
C = (A/B) x 100	ROI	29.81%	33.40%
D	Hurdle rate	7.26%	7.26%
E = B x D	Expected Income	$          77,682.00	$        113,256.00
F = A - E	Residual Income	$        241,318.00	$        407,744.00

• Requirement 2

PART A

Working		River Division	Stream Division
A	Net operating income	$                354,090.00	$        578,310.00
B	Average invested assets	$            1,070,000.00	$    1,560,000.00
C = (A/B) x 100	ROI	33.09%	37.07%
D	Hurdle rate	7.26%	7.26%
E = B x D	Expected Income	$                  77,682.00	$        113,256.00
F = A - E	Residual Income	$                276,408.00	$        465,054.00

PART B

Working		River Division	Stream Division
A	Net operating income	$                287,100.00	$        468,900.00
B	Average invested assets	$            1,070,000.00	$    1,560,000.00
C = (A/B) x 100	ROI	26.83%	30.06%
D	Hurdle rate	7.26%	7.26%
E = B x D	Expected Income	$                  77,682.00	$        113,256.00
F = A - E	Residual Income	$                209,418.00	$        355,644.00

PART C

Working		River Division	Stream Division
A	Net operating income	$                436,000.00	$        638,000.00
B	Average invested assets	$            1,311,000.00	$    1,801,000.00
C = (A/B) x 100	ROI	33.26%	35.42%
D	Hurdle rate	7.26%	7.26%
E = B x D	Expected Income	$                  95,178.60	$        130,752.60
F = A - E	Residual Income	$                340,821.40	$        507,247.40

PART D

Working		River Division	Stream Division
A	Net operating income	$                319,000.00	$        521,000.00
B	Average invested assets	$            1,070,000.00	$    1,560,000.00
C = (A/B) x 100	ROI	29.81%	33.40%
D	Hurdle rate	5.26%	5.26%
E = B x D	Expected Income	$                  56,282.00	$          82,056.00
F = A - E	Residual Income	$                262,718.00	$        438,944.00