Question

The contribution format income statement for Huerra Company for last year is given below: Sales Variable expenses Contribution margin Fixed expenses Net operating income Income taxes @ 30% Net income Total Unit $4,000,000 $80.00 2,800,000 56.00 1,200,000 24.00 840,000 16.80 360,000 7.20 108,000 2.16 $ 252,000 $ 5.04 The company had average operating assets of $2,000,000 during the year. Required: 1. Compute the company's return on investment (ROI) for the period using the ROI formula stated in terms of margin and turnover. For each of the following questions, indicate whether the margin and turnover will increase, decrease, or remain unchanged as a result of the events described, and then compute the new ROI figure. Consider each question separately, starting in each case from the data used to compute the original ROI in (1) above. 2. Using Lean Production, the company is able to reduce the average level of inventory by $400,000. (The released funds are used to pay off short-term creditors.) 3. The company achieves a cost savings of $32,000 per year by using less costly materials. 4. The company issues bonds and uses the proceeds to purchase machinery and equipment that increases average operating assets by $500,000. Interest on the bonds is $60,000 per year. Sales remain unchanged. The new, more efficient equipment reduces production costs by $20,000 per year. 5. As a result of a more intense effort by salespeople, sales are increased by 20%, operating assets remain unchanged.

Answer 1

Sales 4000000 80.00 Varaible Expenses Contribution Margin Fixed Expenses Net operating income 56 2800000 1200000 24.00 840000 16.8 7.20 360000 Income Tax @ 40% 108000 2.16 5.04 Net income 252000 Average operating Assets 2000000 1 Companie's ROI sales 4000000 Net Operating income (NOI) Operating Assets 360000 2000000 Margin= (NOI/ Sales) Turnover -(Sales / Operating Assets) ROI -(NOI/ Operating Assets) 9.00% 2.00 18.00%

IF Firm Reduce the Average level of inventory BY 400000 Average Assets = 1600000 sales 4000000 Net Operating income (NOI) 360000 Operating Assets 1600000 Effect 9.00% Un Changed 2.50 Increase 22.50% Increase Margin= (NOI/ Sales) Turnover Sales / Operating Assets) ROI NOI/ Operating Assets) 3) Cost Saving by 32000 sales 4000000 Net Operating income (NOI) 392000 Operating Assets 2000000 Effect Margin= (NO1/ Sales) Turnover (Sales / Operating Assets) ROI (NOI/ Operating Assets) 9.80% Increase 2.00 Unchange 19.60% Increase =

| 4) IF the Firm issue a bond $500,000, Prodcution Cost will Reduce by 20000 500000 Bond issue Cost saving 20000 sales 4000000 Net Operating income (NOI) Operating Assets 380000 2500000 Effect 9.50% Increase Margin= (NOI/ Sales) Turnover (Sales Operating Assets) ROI (NOI/ Operating Assets) 5) Sales Increase by 20% 1.60 Decrease 15.20% Decrease 20% Sales 4800000 increase in contibtion Margin 1440000 Fixed cost 840000 Netoperating income Operating Assets 600000 2000000 Effect 12.50% Increase 2.40 Increase 30.00% Increase Margin= (NOI/Sales) Turnover=(Sales / Operating Assets) ROI =(NOI/ Operating Assets)

Obsolete inventory Carried on the at a cost of $40000 6) Obsolete inventory 40000 sales 4000000 Net Operating income (NOI) 320000 Operating Assets 1960000 Effect 8.00% Decrease 2.04 Increase Margin= (NO1/ Sales) Turnover (Sales / Operating Assets) ROI =(NO1/ Operating Assets) 16.33% Decreased Use Cash for Retire Common Stock 7) Retire Common Stock 200000 sales 4000000 Net Operating income (NOI) 360000 Operating Assets 1800000 Effect Margin= (NOI/ Sales) Turnover (Sales / Operating Assets) ROI NOI/ Operating Assets) 9.00% Unchanged 2.22 Increase 20.00% Increase