Question

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%.

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?
	No Yes
10-b.	Would the owners of the company want her to pursue the investment opportunity?
	Yes No

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?
	No Yes

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?
	No Yes

15-b.	Would the owners of the company want her to pursue the investment opportunity?
	Yes No

Answer 1

(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 = 480,000@80% - 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 875,000@15%         131,250 Residual income                                 148,750 12)      AVerage operating assets        300,000 Net operating income                                48,000 Minimum rate return 300,000@15%         45,000 Residual income                                       3,000 13) $151,750 14) yes 15) a and b - n0