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Hello SIR
i have lil confusion
–>When we calculate Capital employed in ROI..we use profit after depreciation
So If we required to work BACKWARD required to add back depreciation<–
But in one BPP question i dont understand why dep is not added..
Q;An investment centre has prepared the following forecasts for the next financial year..
$
Operating profit before dep 85000
Dep 20000
Net current asset at the beginning of year 30000
Carrying value of non current asset at beginning year 180000
The centre manager is now considering whether to sell a machine that is included in these forecasts.The machine would add $2500 to divisional profit next year AFTER DEPRECIATION OF $500.It has a carrying value of $6000 and could be sold for this amount.He would use the proceeds from the sale plus additional cash from head office to purchase a new machine for $15000..this new machine would add $5200 to divisional profit next year after depreciation of $2000
What will be the ROI for the division next year,assume that the manager acquires the new machine and that the non current assert are valued at the stare of the yera carrying amount for the purpose of the ROI calculationANS=30.9%
Profit Capital imployed
$ $
Orignal forecast 65000 210000
**Effect on machine sale **(2500) (6000)
Effect of machine purchase 5200 15000
———– ———
67700 219000
Here if we deduct 2500 profit..also have to add back dep of $500..but this is not done in this MCQS..is the ans is correct? or i forget something??For ROI we need the profit after depreciation.
The current forecast profit after depreciation is 65,000.
This includes a profit after depreciation of 2,500 on the assets sold.Therefore the profit after depreciation if the asset is sold is 65,000 – 2,500 = 62,500.
There would be no logic in adding back depreciation.
Still not Understand Sorry
If we solve in this way..
Forecast profit=85000
Less the effect of sold machine=(2500)
Revised profit=82500–(equ=1)
Forecast dep=20000
Less effect of dep of sold machine=(500)
Revised depreciation=19500–(equ=2)
Therefore profit after depreciation if the asset is sold 82500-19500=63000??
Again dont understand sir why we cant add back dep.The forecast profit of 85,000 is before depreciation. The profit of 2,500 on the sold machine is after depreciation (so, if you prefer, it is 3,000 before depreciation).
So the profit before depreciation is 85,000 – 3,000 = 82,000
The depreciation is 20,000 – 500 = 19,500
Therefore the new profit after depreciation is 82,000 – 19,500 = 62,500.
(Although this is an unnecessarily longer way of arriving at the same figure).
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