Question

You have been asked to value Ausbiz, a private company, using an excess earnings method, given the following information: Working capital balance = $365,000 Fair value of fixed assets = $725,000 Book value of fixed assets = $500,000 Normalized earnings of firm = $105,000 Required return on working capital = 7.0 percent Required return on fixed assets = 8.0 percent Required return on intangible assets = 12.0 percent Weighted average cost of capital = 10.0 percent Long-term growth rate of residual income = 6.0 percent

What is Ausbiz’s residual income?

		$17,900
		$18,020
		$19,600
		$21,450

Answer 1

Given,

Working capital = $365,000

Fair value of fixed asset = $725,000

Normalised earning = $105,000

Required return on working capital = 7%

Required return on fixed asset = 8%

WACC = 10%

Residual Income = Operating Income - (Minimum required return × Operating Asset)

= 105,000 - [(365,000 × 7%) + (725,000×8%)]

= 105,000 - (25,550 + 58,000)

= 105,000 - 83,550

= 21,450

Ausbiz's residual income is $ 21,450