The Sunny Division of Miami Corporation reported the following results from the past year. Shareholders require a return of 10%. Management calculated a weighted-average cost of capital (WACC)of 5%. Sunny's corporate tax rate is 30%. What is the division's Residual Income (RI)?

Question

The Sunny Division of Miami Corporation reported the following results from the past year. Shareholders require a return of 10%. Management calculated a weighted-average cost of capital (WACC)of 5%. Sunny's corporate tax rate is 30%.  What is the division's Residual Income (RI)?

Quizplus · Accepted Answer

To calculate the Residual Income (RI) for the Sunny Division, we need to use the following formula:

RI = Net Income - (Cost of Capital x Total Assets)

First, we need to calculate the Cost of Capital. Given that the WACC is 5%, we can assume that this is the Cost of Capital.

Next, we need to calculate the Total Assets. We are not given this information directly, but we can use the following formula to calculate it:

Total Assets = Net Income / (Required Return - WACC)

Plugging in the given values, we get:

Total Assets = $2,000,000 / (10% - 5%) = $40,000,000

Now we can calculate the RI:

RI = $2,000,000 - (5% x $40,000,000) = $100,000

Therefore, the division's Residual Income (RI) is $100,000, which corresponds to answer choice C.

The Sunny Division of Miami Corporation Reported the Following Results