Westerville Company reported the following results from last year’s operations: |
Sales | $ | 1,400,000 |
Variable expenses | 680,000 | |
Contribution margin | 720,000 | |
Fixed expenses | 440,000 | |
Net operating income | $ | 280,000 |
Average operating assets | $ | 875,000 |
This year, the company has a $300,000 investment opportunity with the following cost and revenue characteristics: |
Sales | $ | 480,000 | |
Contribution margin ratio | 80 | % of sales | |
Fixed expenses | $ | 336,000 | |
The company’s minimum required rate of return is 15%. |
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Required: |
1. | What is last year’s margin? |
2. | What is last year’s turnover? (Round your answer to 1 decimal place.) |
3. | What is last year’s return on investment (ROI)? |
4. | What is the margin related to this year’s investment opportunity? |
5. | What is the turnover related to this year’s investment opportunity? (Round your answer to 1 decimal place.) |
6. | What is the ROI related to this year’s investment opportunity? |
7. | If the company pursues the investment opportunity and otherwise performs the same as last year, what margin will it earn this year? (Round your percentage answer to 1 decimal place (i.e .1234 should be entered as 12.3)) |
8. | If the company pursues the investment opportunity and otherwise performs the same as last year, what turnover will it earn this year? (Round your answer to 2 decimal places.) |
9. | If the company pursues the investment opportunity and otherwise performs the same as last year, what ROI will it earn this year? (Round your percentage answer to 1 decimal place (i.e .1234 should be entered as 12.3)) |
10-a. | If Westerville’s chief executive officer will earn a bonus only if her ROI from this year exceeds her ROI from last year, would she pursue the investment opportunity? | ||
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10-b. | Would the owners of the company want her to pursue the investment opportunity? | ||
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11. | What is last year’s residual income? |
12. | What is the residual income of this year’s investment opportunity? |
13. | If the company pursues the investment opportunity and otherwise performs the same as last year, what residual income will it earn this year? |
14. | If Westerville’s chief executive officer will earn a bonus only if her residual income from this year exceeds her residual income from last year, would she pursue the investment opportunity? | ||
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15-a. | Assume that the contribution margin ratio of the investment opportunity was 75% instead of 80%. If Westerville’s Chief Executive Officer will earn a bonus only if her residual income from this year exceeds her residual income from last year, would she pursue the investment opportunity? | ||
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15-b. | Would the owners of the company want her to pursue the investment opportunity? | ||
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The process of calculating ROI is a straightforward one. It can be determined using one of these two methods. You will take the growth in sales from the business or product line and subtract the marketing expenses and split it up by marketing expenses. ROI = (Sales Growth – Marketing Costs) / Marketing Costs
(1) Margin = operatin income/ net sales
= 280,000/1,400,000
= 20%
(2) turonver = sales/ Average total assets
= 1,400,000/875,000
= 1.6
(3) ROI =
1.6*20 = 32%
(4) Margin = 480,[email protected]% – 336,000 =
$48,000
= 48,000/480,000 = 10%
(5) Turnover = 480,000/300,000 = 1.6
(6)
ROI = 10*1.6
= 16%
(7) Margin = (280,000+48,000)/ (1,400,000
+480,000)
= 17.45%
(8) Turnover = 1,880,000/1,175,000 = 1.6
(9)
Roi =
1.6*17.45 = 27.92%
10 A) no
b) yes
11) Last years residual invome
Net operating
income
280,000
mimimun return
875,[email protected]%
131,250
Residual
income
148,750
12)
AVerage operating assets
300,000
Net operating
income
48,000
Minimum rate return
300,[email protected]%
45,000
Residual
income
3,000
13) $151,750
14) yes
15) a and b – n0