400 ACCOUNTING FOR MANAGERS
on the value of the investment at the beginning of each year). The cash flows from
theprojectareexpectedtobe:
Inflow Outflow
Year 1 75,000 30,000
Year 2 90,000 40,000
Year 3 100,000 45,000
Year 4 100,000 50,000
Year 5 75,000 40,000žWhat is the payback period?
žWhat is the return on investment (each year and average)?
žAssuming a cost of capital of 10% and ignoring inflation, what is the net present
value of the cash flows? (Use the tables rather than a spreadsheet to answer
this question.)
žShould the project be accepted?
Questions for Chapter 13
13.1 Jakobs Ladder has capital employed of £10 million and currently earns an
ROI of 15% per annum. It can make an additional investment of £2 million for a
five-year life. The average net profit from this investment would be 14% of the
original investment. The division’s cost of capital is 12%.
Calculate the residual income before and after the investment.
13.2 China Group has a division with capital employed of £10 million that
currently earns an ROI of 15% per annum. It can make an additional investment
of £2 million for a five-year life with no scrap value. The average net profit from
this investment would be £280,000 per annum after depreciation. The division’s
cost of capital is 9%.
Calculate the ROI and residual income for the:
žoriginal investment;
žadditional investment; and
žtotal new level of investment.
13.3 Brummy PLC consists of several investment centres. Green Division has
a controllable investment of £750,000 and profits are expected to be £150,000 this
year. An investment opportunity is offered to Green that will yield a profit of
£15,000 from an additional investment of £100,000. Brummy accepts projects if the
ROI exceeds the cost of capital, which is 12%.
žCalculate Green’s ROI currently, for the additional investment and after
the investment.
žHow will Green and Brummy view this investment opportunity?
žCalculate the effect of the new investment opportunity on Green’s resid-
ual income.