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 @ 40% Net income Total $ 1,004,000 602,400 401,600 321,600 Unit $ 50.20 30.12 20.08 16.08 4.00 1.60 $ 2.40 80,000 32,000 48,000 $ The company had average operating assets of $508,000 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 $104,000. (The released funds are used to pay off short-term creditors.) 3. The company achieves a cost savings of $13,000 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 $127,000. Interest on the bonds is $18,000 per year. Sal remain unchanged. new, more icient equipment reduces production costs by $5,000 per year. 5. As a result of a more intense effort by salespeople, sales are increased by 20%; operating assets remain unchanged. 6. At the beginning of the year, obsolete inventory carried on the books at a cost of $18,000 is scrapped and written off as a loss. 7. At the beginning of the year, the company uses $179,000 of cash (received on accounts receivable) to repurchase and retire some of its common stock. Complete this question by entering your answers in the tabs below. Required 1 Required 2 Required 3 Required 4 Required 5 Required 6 Required 7 Compute the company's return on investment (ROI) for the period using the ROI formula stated in terms of margin and turnover. (Round your intermediate calculations and final answers to 2 decimal places.) Margin Turnover ROI % < Required 1 Required 2 >

Answer 1

Requirement 1

The question has specifically asked us to find ROI using Margin and Turnover.

ROI = Sales margin x Investment turnover

Sales margin = Net income / Sales = $48,000 / $1,004,000 = 0.05

Investment turnover = Sales / Invested capital = $1,004,000 / $ 508,000 = 1.98

ROI = Sales margin x Investment turnover = 0.05 x 1.98 = 9.45%

Requirement 2

Average inventory is part of operating assets and reduction it will reduce operating assets

New operating assets = $508,000 - $104,000 = $404,000

ROI = Net income / Operating assets = $48,000 / $404,000 = 11.88% (increase)

Requirement 3

Savings will increase net income by $13,000

New net income = $48,000 + $13,000 = $61,000

ROI = Net income / Operating assets = $61,000 / $508,000 = 12.01% (increase)

Requirement 4

New average assets = $508,000 + $127,000 = $635,000

New Net income = $48,000 - ($18,000 - $5,000) = $35,000

ROI = Net income / Operating assets = $35,000 / $635,000 = 5.51% (decrease)

Requirement 5

New Contribution margin = 20,000 units x 120% x $20.08 = $481,920  

New Net income = ($481,920 - $321,600) x 60% = $96,120

ROI = Net income / Operating assets = $96120 / $508,000 = 18.94% (increase)

Requirement 6

New average assets = $508,000 - $18,000 = $490,000

New Net income = $48,000 - 18,000 = $30,000

ROI = Net income / Operating assets = $30,000 / $490,000 = 6.12% (decrease)

Requirement 7

New average assets = $508,000 - $179,000 = $329,000

ROI = Net income / Operating assets = $48,000 / $329,000 = 14.59% (increase)