Question

Return on Investment and Investment Decisions

Leslie Blandings, division manager of Audiotech Inc., was debating the merits of a new product—a weather radio that would put out a warning if the county in which the listener lived were under a severe thunderstorm or tornado alert.

The budgeted income of the division was $825,000 with operating assets of $5,425,000. The proposed investment would add income of $640,000 and would require an additional investment in equipment of $4,000,000. The minimum required return on investment for the company is 13%.

Required:

1. Compute the ROI of the following (round to the nearest whole percent):

a. The division if the radio project is not undertaken.	fill in the blank 1 %
b. The radio project alone.	fill in the blank 2 %
c. The division if the radio project is undertaken.	fill in the blank 3 %

2. Compute the residual income of the following:

a. The division if the radio project is not undertaken.	$fill in the blank 4
b. The radio project alone.	$fill in the blank 5
c. The division if the radio project is undertaken.	$fill in the blank 6

Answer 1

SOLUTION:

1) COMPUTATION OF ROI:

A)IF THE RADIO PROJECT IS NOT UNDERTAKEN

BUDGETED INCOME=$825000

OPERATING ASSETS=$5425000

ROI=BUDGETED INCOME/OPERATING ASSETS

=825000/5425000*100

=15.20 OR 15%

B)THE RADIO PROJECT ALONE

BUDGETED INCOME=640000

OPERATING ASSETS=4000000

ROI=BUDGETED INCOME/OPERATING ASSETS

=640000/4000000*100

=16%

C)IF THE RADIO PROJECT IS UNDERTAKEN

BUDGETED INCOME=(825000+640000)=1465000

OPERATING ASSETS=(5425000+4000000)=9425000

ROI=BUDGETED INCOME/OPERATING ASSETS

=1465000/9425000*100

=15.54 OR 16%

2)RESIDUAL INCOME

REQUIRED RETUN=13%

RESIDUAL INCOME=OPERATING INCOME-(OPERATING ASSETS*MINIMUM REQUIRED RETURN)

A)IF THE RADIO PROJECT IS NOT UNDERTAKEN

BUDGETED INCOME=$825000

OPERATING ASSETS=5425000

RESIDUAL INCOME=825000-(5425000*13%)

=825000-705250

=$119750

B)THE RADIO PROJECT ALONE

BUDGETED INCOME=$640000

OPERATING ASSETS=4000000

RESIDUAL INCOME=640000-(4000000*13%)

=640000-(520000)

=$120000

C)

IF THE RADIO PROJECT IS UNDERTAKEN

BUDGETED INCOME=(825000+640000)=1465000

OPERATING ASSETS=(5425000+4000000)=9425000

RESIDUAL INCOME=1465000-(9425000*13%)

=1465000-1225250

=$239750

PLEASE UPVOTE, OR MENTION ANY QUERY