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Greetings.
16.3
My mistake in this was I did not pay attention to the current liability also increasing. However, I have another contention with the answer provided at the back , and I feel there is an arithmetic error.For Acid Ratio, if the inventory increased by say $1m as mentioned at the back, and considering inventory is already $0.5m as stated in the question, then the current asset in the new calculation should not equal $1.8m as used in the new calculation, but $1.8m-$0.5m-$1m = $0.3m
16.4
For all we know, the profit from which we got residual income of $300,000 could have been from profit much higher than the percentage proposed in the question – 17%. $300,000 should be a critical part to solve this question and is not even being considered in the answer at the back, as there is not enough clues given in the question – ie it is a badly formed question as per my assumption giving wrong sets of clues.Anyhow, I would like you to elaborate further on the logic how we got both the ROI and the RI. The brief answer is confusing at the back.
Thankyou
16.3 Yes, the examiner has made a mistake. However it is only to illustrate because numbers were not required to answer the question, and the choice of answers is correct.
16.4 The new project gives a return of 17% and so I do not understand why you suggest that it could have been much higher.
Since the return from the project is lower than the current return of 18%, then the overall return must decrease.
Since the return from the project is higher than the cost of capital of 15%, then it must have a positive RI and therefore the overall RI will increase.
I was suggesting the unknown profit from which we derived the RI of $300,000 could have been higher than the new projects return. That is, both the unknown profit from which we got the original residual income of $300,000 and the new return 17% both surpass 15% and therefore the RI would be positive. But all I contend , how do we know 17% was higher than the original unknown profit from which we got a positive RI of $300,000 , that we could claim that the RI would also increase, besides being positive.
I hope you get me now.
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