Answer:
Residual income is therefore $732,000.
Explanation:
This can be computed by following the following steps:
Step 1: Calculation of ending net book value
<u>Particulars $'000 </u>
Beginning investment 6,900
add: Additional investment 8,100
Less: Depreciation - Other <u> (2,850) </u>
Ending net book value <u> 12,150 </u>
Step 2: Calculation of Minimum required return
Minimum required return = Ending net book value * Required return rate = $12,150,000 * 12% = $1,458,000
Step 3: Calculation of profit (loss) on disposal
First year depreciation on investment = (Investment cost - Salvage value) / Useful life = ($6,600,000 - $660,000) / 3 = $1,980,000
Profit (loss) on disposal = Salvage value - Investment cost - First year depreciation on investment = $660,000 - $6,600,000 - $1,980,000 = $3,960,000 loss
Step 4: Calculation of residual income
<u>Particulars $'000 </u>
Given operating profit of the division 6,150
Less: Loss on disposal <u> (3,960) </u>
Revised operating income 2,190
less: Minimum required return <u> (1,458) </u>
Residual income <u> 732 </u>
Residual income is therefore $732,000.
