A Division Within a Firm Has an Average Return on Assets

question 1

Multiple Choice

A division within a firm has an average return on assets employed of 12% and is considering purchasing a new asset.The new asset is expected to generate cash flows of $17,000 per year for the next seven years but these have a beta coefficient of 1.3 compared to the portfolio return on the other assets in the division.The risk free rate of return is 2%; the weighted average cost of capital is 9%; and, the cost of the new asset is $170,000.
-What is the residual income?

• A)$(3,400)
• B)$5,100
• C)$0
• D)$6,800
• E)$15,300

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Definitions:

Limit Liability

A legal principle or provision that caps the amount one can be held responsible for in case of damage or loss.

Stop-payment Order

A request made to a bank by an account holder not to pay a check or transaction previously authorized.

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The failure to take reasonable care to prevent harm to others that a reasonably prudent person would have taken under the same circumstances.

Check 21 Act

A U.S. federal law that facilitates check truncation by creating a new type of negotiable instrument called a substitute check.