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Division A of Aigburth Co is considering a project which will increase annual net profit after tax by
$30,000 but will require average inventory levels to increase by $200,000. The current target rate of
return on investments is 13% and the imputed interest cost of capital is 12%.
Based on the ROI and/or RI criteria would the project be accepted?
A ROI – yes, RI – no
B ROI – yes RI – yes
C ROI – no, RI – yes
D ROI – no, RI – no
I am unable to solve this. please help me sir
If average inventory levels (and therefore average net assets) increase by 200,000, the on ROI is will need to profit to increase by 13% x 200,000 = 26,000.
The profit increases by 30,000 so on ROI it will be accepted.
On RI, the RI will increase by 30,000 – (12% x 200,000) = 6,000.
So since there is an increase in the RI it should be accepted.