Question

Solomon Home Maintenance Company earned operating income of $6,865,500 on operating assets of $59,700,000 during Year...

Solomon Home Maintenance Company earned operating income of $6,865,500 on operating assets of $59,700,000 during Year 2. The Tree Cutting Division earned $1,198,290 on operating assets of $6,770,000. Solomon has offered the Tree Cutting Division $2,060,000 of additional operating assets. The manager of the Tree Cutting Division believes he could use the additional assets to generate operating income amounting to $407,880. Solomon has a desired return on investment (ROI) of 9.50 percent.

Required

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

  1. Return on Investment
    Solomon Home Maintenance Company %
    Tree Cutting Division %
    Additional investment opportunity %

  2. Calculate the residual income for Solomon, the Tree Cutting Division, and the additional investment opportunity.
    Residual Income
    Solomon Home Maintenance Company
    Tree Cutting Division
    Additional investment opportunity
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Homework Answers

Answer #1

Answer:

1)

Return on investment = operating income / operating assets *100

Return on investment

Solomon home maintenance company (6,865,500/59,700,000)*100

11.50%

Tree cutting division (1,198,290/6,770,000)*100

17.70%

Additional investment opportunity (407,880/2,060,000)*100

19.8%

2)

Residual income = operating income - (operating assets * return on investment)

Residual income

Solomon home maintenance company

$1,197,000

tree cutting division

$555,140

additional investment opportunity

$212,180

Working:

Solomon = 6,865,500- (59,700,000*9.50%) =1,197,000

Tree cutting division = 1,198,290 - (6,770,000*9.50%) =555,140

Additional investment opportunity = 407,880 - (2,060,000*9.50%)

=407,880-195,700

=212,180

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