Question

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Lumberton Home Maintenance Company (LHMC) earned operating income of $6,000,000 on operating assets of $62,500,000 during...

Lumberton Home Maintenance Company (LHMC) earned operating income of $6,000,000 on operating assets of $62,500,000 during 2018. The Tree Cutting Division earned $1,000,000 on operating assets of $10,000,000. LHMC has offered the Tree Cutting Division $1,250,000 of additional operating assets. The manager of the Tree Cutting Division believes he could use the additional assets to generate operating income amounting to $112,500. LHMC has a desired return on investment (ROI) of 8 percent.

Required

Calculate the return on investment for LHMC, the Tree Cutting Division, and the additional investment opportunity.

Calculate the residual income for LHMC, the Tree Cutting Division, and the additional investment opportunity.

Solutions

Expert Solution

1

Calculate the return on investment for LHMC, the Tree Cutting Division, and the additional investment opportunity.

return on investment

=Operating income / Operating assets

return on investment for LHMC

=6,000,000/62,500,000

=9.60%

return on investment for Tree Cutting Division

=1,000,000/10,000,000

=10%

Additional Investment opportunity

=112,500/1,250,000

=9%

___________________________________________________________

2

Calculate the residual income for LHMC, the Tree Cutting Division, and the additional investment opportunity.

Residual income =Operating income -(Operating assets*Desired rate of return)

Residual income for LHMC

=Operating income -(Operating assets*Desired rate of return)

=6,000,000- (62,500,000*8%)

=6,000,000-5,000,000

=$1,000,000

Residual income for Tree Cutting Division,

=Operating income -(Operating assets*Desired rate of return)

=1,000,000- (10,000,000*8%)

=1,000,000-800,000

=$200,000

residual income for additional investment opportunity.

=Operating income -(Operating assets*Desired rate of return)

=112,500- (1,250,000*8%)

=112500-100,000

=$12500

ekkarill92 answered 1 year ago
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