Question

Accustart Hospital is a division of Superior Healthcare that is organized as an investment center. In the past year, the hospital reported an after-tax income of $3,550,000. Total interest expense was $1,680,000, and the hospital’s tax rate was 35 percent. Hospital assets totaled $34,800,000, and noninterest-bearing current liabilities were $11,000,000. Superior has established a required rate of return equal to 18 percent of invested capital.

Calculate the residual income/EVA of Accustart Hospital. (Enter negative answers preceding either - sign, e.g. -45 or in parentheses, e.g. (45).) Residual income/EVA $

Answer 1

Answer 2

The formula for calculating residual income/EVA is:

Residual Income/EVA = After-tax operating income - (Invested capital × Required rate of return)

where "invested capital" is the total assets minus noninterest-bearing current liabilities.

First, we need to calculate the invested capital:

Invested capital = Total assets - Noninterest-bearing current liabilities Invested capital = $34,800,000 - $11,000,000 Invested capital = $23,800,000

Next, we need to calculate the after-tax operating income:

After-tax operating income = (1 - Tax rate) × (Operating income - Interest expense) After-tax operating income = (1 - 0.35) × ($3,550,000 - $1,680,000) After-tax operating income = $1,914,250

Now, we can calculate the residual income/EVA:

Residual Income/EVA = $1,914,250 - ($23,800,000 × 0.18) Residual Income/EVA = $1,914,250 - $4,284,000 Residual Income/EVA = -$2,369,750

Therefore, the residual income/EVA of Accustart Hospital is -$2,369,750 or (2,369,750) with parentheses. This indicates that the hospital did not earn enough to cover the required rate of return, resulting in a negative residual income.