Question

Question 6

• Time: 20 minutes
• Total: 12 marks

Mary’s Auto Shop Inc. allows its divisions to operate as autonomous units. Their results for the current year were as follows:

             

             

	Sport	Terrain	City
Revenues	$1,700,000	$800,000	$6,000,000
Current assets	230,000	40,000	410,000
Capital assets	870,000	660,000	1,590,000
Current liabilities	100,000	100,000	500,000
Net operating income	242,000	52,000	612,000
After-tax income	188,500	36,500	485,400
Weighted average cost of capital	10%	10%	10%

Required:

For each division compute (to two decimal) the:

1. Return on sales in %

2. Return on investment (to two decimal) based on total assets employed in %

3. Economic value added

4. Residual income based on net operating income

Answer 1

ANSWER

Net Income for Terrain is taken as $52,000 based on comma factor and not 52,0000 a) Return on sales % Sport 14.24% Terrain 6.50% City 10.20% Return on sales % (Net Operating Income /Revenue) Net operating income Revenues $242,000 $1,700,000 $52,000 $800,000 $612,000 $6,000,000 b) Return on Investment Sport 22.00% Terrain 7.43% City 30.60% Return on Investment (Net Operating Income /Total Assets) $242,000 $52,000 $612,000 Total Assets Net operating income Total Assets Current assets Capital assets Total Assets $230,000 $870,000 $1,100,000 $40,000 $660,000 $700,000 $410,000 $1,590,000 $2,000,000 c) Economic value added After-tax income (NOPAT) Less: cost of capital Economic value added Sport $188,500 $100,000 $88,500 Terrain $36,500 $60,000 City $485,400 $150,000 $335,400 -$23,500 $230,000 $870,000 $1,100,000 $40,000 $660,000 $700,000 $410,000 $1,590,000 $2,000,000 Capital employed and Cost of capital Current assets Capital assets Total Assets Less: Current liabilities Capital employed Weighted average cost of capital Cost of capital $100,000 $1,000,000 10% $100,000 $100,000 $600,000 10% $60,000 $500,000 $1,500,000 10% $150,000 d) Residual Income Net operating income Less: cost of capital Residual Income Sport $242,000 $110,000 $132,000 Terrain $52,000 $70,000 -$18,000 City $612,000 $200,000 $412,000 Imputed Cost of capital Current assets Capital assets Total Assets $230,000 $870,000 $1,100,000 $40,000 $660,000 $700,000 $410,000 $1,590,000 $2,000,000 Weighted average cost of capital Imputed cost of capital 10% $110,000 10% $70,000 10% $200,000

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