Question

Solano Company has sales of $800,000, cost of goods sold of $520,000, other operating expenses of $35,000, average invested assets of $2,350,000, and a hurdle rate of 11 percent. 2. Several possible changes that Solano could face in the upcoming year follow. Determine each scenario’s impact on Solano’s ROI and residual income. (Note: Treat each scenario independently.) (Enter your ROI percentage answers to 2 decimal places, (i.e., 0.1234 should be entered as 12.34%.)) 2. Several possible changes that Solano could face in the upcoming year follow. Determine each scenario’s impact on Solano’s ROI and residual income. (Note: Treat each scenario independently.) (Enter your ROI percentage answers to 2 decimal places, (i.e., 0.1234 should be entered as 12.34%.))    a. Company sales and cost of goods sold increase by 40 percent.     

Answer 1

Existing ROI and Residual Income

Net Operating Income    = $800000 - $520000 - $35000 = $2,45,000

Average invested assets           = $23,50,000

ROI       = (Net Operating Income / Average invested assets) x 100

              = $2,45,000/$23,50,000)x100

              = 10.43%

Residual Income   = Net Operating Income – (Average invested assets x Hurdle Rate)

= $245000 – ($23,50,000 x 11%)

= $245000 - $ 258500

= ($13500) Negative

Scenario A - Company sales and cost of goods sold increase by 40 percent.

New Net Operating Income= ($800000 x 140%) -( $520000 x 140%) - $35000

= $1120000 - $728000 - $35000

= $3,57,000

Average invested assets           = $23,50,000

New ROI = (Net Operating Income / Average invested assets) x 100

= ($3,57,000 / $23,50,000) x 100

= 15.19%

New Residual Income= Net Operating Income – (Average invested assets x Rate) Rate)

= $357000 – ($23,50,000 x 11%)

= $357000 - $ 258500

= $98,500

Conclusions

Company sales and cost of goods sold increase by 40 percent , Then the Company’s ROI increased from 10.43% to 15.19% and Residual Income turned out to $98,500 from ($13500)