One division of the Marvin Educational Enterprises has depreciable assets costin
ID: 2600230 • Letter: O
Question
One division of the Marvin Educational Enterprises has depreciable assets costing $4,140,000. The cash flows from these assets for the past three years have been:
The current (i.e., replacement) costs of these assets were expected to increase 15% each year. Marvin used the straight-line depreciation method; the estimated useful life is 10-years with no salvage value. For return on investment (ROI) calculations, Marvin uses end-of-year balances.
What is the residual income for each year, assuming the cost of capital is 11% and Marvin uses historical costs and net book values to compute residual income?
Option A
Option B
Option C
Option D
Year Cash flows 1 $ 1,410,000 2 $ 1,456,000 3 $ 1,634,000Explanation / Answer
ans) Option B
Depreciation = Cost - salvage value / estimated useful life
= 4140000 - 0 / 10 = 414,000
Residual income = Operating income - capital charge
Year 1 =( 1410,000 - 414000 ) - [(4140000 - 414000 ) X 11%]
= 996,000 - 409860
= 586140
Year 2 = ( 1456000 - 414000) - [ ( 4140000 - (414000 X 2)) X 11%]
= 1042000 - 364320
= 677680
Year 3 = ( 1634000 - 414000 ) - [(4140000 - (414000 X 3)) X 11%]
= 1220000 - 318780
= 901220
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