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Residual in come economic value added Intervilles SA operates two divisions a Lorry Rental Division that rents to individuals and a Transportation Division that transports goods from one

Residual in ome, onomic alue added ® .

Intervilles SA operates two divisions, a Lorry Rental Division that rents to individuals and a Transportation Division that transports goods from one city to another. Results reported for the last year are as follows:

 

 

 

Lorry Rental

Division

Transportation

Division

 

Total assets

 

€650 000

 

€950 000

Current liabilities

120 000

200 000

Operating profit before tax

75 000

160 000

 

Required

 

 

 

1 Calculate the residual income for each division using operating profit before tax and

investment equal to total assets minus current liabilities. The required rate of return on investments is 12%.

2 The company has two sources of funds: long-term debt with a market value of €900 000 at an interest rate of 10% and equity capital with a market value of €600 000 at a cost of equity of 15%. Intervilles’ income tax rate is 40%. Intervilles applies the same weighted- average cost of capital to both divisions, since each division faces similar risks. Calculate the economic value added (EVA ® ) for each division.

3 Using your answers to requirements 1 and 2, what would you conclude about the per- formance of each division? Explain briefly.

Jun 19 2020 View more View Less

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