The Asia Pacific Regional Director of the Olympus hotel group has told the regions hotel General Managers that he would like them to focus on maximising the ROI in their respective hotels. The Olympus group has a corporate long-term ROI target of 10 per cent. Last years performance data for two of the regions hotels appears below:
Hong Kong Hotel Singapore Hotel
Profit $900,000 $300,000
Investment $6,000,000 $6,000,000
The General Manager of the Hong Kong Hotel wants to sell one of his hotels lower performing assets for its book value of $400,000. The sale of this asset will reduce his hotels annual profit by $48,000. The hotels General Manager is justifying the asset sale on the grounds that it will increase the hotels ROI.
The General Manager of the Singapore Hotel has identified an asset that she believes will provide an annual profit of $40,000 and can be purchased for $500,000. She wants to purchase the asset as she believes it will increase her hotels ROI.
Required:
Are the two hotel General Managers correct that they would be increasing their respective hotels ROI if they were to make the asset purchase and sale that are being proposed.
Conduct a residual income analysis to determine if the two hotels should proceed with the proposed asset purchase and sale.
