The Caribbean Division of Mega-Entertainment Corporation just started operations
ID: 2762697 • Letter: T
Question
The Caribbean Division of Mega-Entertainment Corporation just started operations. It purchased depreciable assets costing $40 million and having a four-year expected life, after which the assets can be salvaged for $8 million. In addition, the division has $40 million in assets that are not depreciable. After four years, the division will have $40 million available from these non-depreciable assets. This means that the division has invested $80 million in assets with a salvage value of $48 million. Annual depreciation is $8 million. Annual operating cash flows are $15 million. In computing ROI, this division uses end-of-year asset values in the denominator. Depreciation is computed on a straight-line basis, recognizing the salvage values noted. Ignore taxes. Assume that all cash flows increase 10 percent at the end of each year. This has the following effect on the assets' replacement cost and annual cash flows: End of Year Replacement Cost Annual Cash Flow 1 $ 80,000,000 × 1.1 = $ 88,000,000 $ 15,000,000 × 1.1 = $ 16,500,000 2 $ 88,000,000 × 1.1 = $ 96,800,000 $ 16,500,000 × 1.1 = $ 18,150,000 3 Etc. Etc. 4
Depreciation is as follows: Year For the Year "Accumulated" 1 $ 8,800,000 $ 8,800,000 (= 10% × $88,000,000) 2 9,680,000 19,360,000 (= 20% × 96,800,000) 3 10,648,000 31,944,000 4 11,712,800 46,851,200
Note that "accumulated" depreciation is 10 percent of the gross book value of depreciable assets after one year, 20 percent after two years, and so forth. Required:
(a) Compute ROI using historical cost, net book value and gross book value. (Do not round intermediate calculations. Round your answers to 1 decimal place.)
(b) Compute ROI using current cost, net book value and gross book value. (Do not round intermediate calculations. Round your answers to 1 decimal place.)
Explanation / Answer
a. ROI using historical cost, net book value and gross book value
B. ROI Using current cost using the data given
Year Annual Operating Cash Flow($) Depreciation($) Net Income($) Gross Book Value($) Depreciation($) Net Book Value($) ROI Using Gross Book Value (Net Income/Gross Book Value) ROI Using Gross Net Value (Net Income/Net Book Value) 1 1,50,00,000 80,00,000 70,00,000 8,00,00,000 80,00,000 7,20,00,000 8.75% 9.72% 2 1,50,00,000 80,00,000 70,00,000 8,00,00,000 80,00,000 6,40,00,000 8.75% 10.94% 3 1,50,00,000 80,00,000 70,00,000 8,00,00,000 80,00,000 5,60,00,000 8.75% 12.50% 4 1,50,00,000 80,00,000 70,00,000 8,00,00,000 80,00,000 4,80,00,000 8.75% 14.58%