Question

Hy’s is a nationwide hardware and furnishings chain. The manager of the Hy’s Store in Boise is evaluated using ROI. Hy’s headquarters requires an ROI of 8 percent of assets. For the coming year, the manager estimates revenues will be $4,710,000, cost of goods sold will be $2,967,300, and operating expenses for this level of sales will be $471,000. Investment in the store assets throughout the year is $3,430,000 before considering the following proposal. A representative of Ace Appliances approached the manager about carrying Ace's line of appliances. This line is expected to generate $1,460,000 in sales in the coming year at Hy’s Boise store with a merchandise cost of $1,109,600. Annual operating expenses for this additional merchandise line total $151,000. To carry the line of goods, an inventory investment of $1,040,000 throughout the year is required. Ace is willing to floor-plan the merchandise so that the Hy store will not have to invest in any inventory. The cost of floor planning would be $125,600 per year. Hy’s marginal cost of capital is 8 percent. Ignore taxes.

Required: a. What is Hy’s Boise store's expected ROI for the coming year if it does not carry Ace's appliances? (Enter "ROI" answer as a percentage rounded to 2 decimal places (i.e., 32.16).)

b. What is the store's expected ROI if the manager invests in Ace's inventory and carries the appliance line? (Enter "ROI" answer as a percentage rounded to 2 decimal places (i.e., 32.16).)

c. What would the store's expected ROI be if the manager elected to take the floor plan option? (Enter "ROI" answer as a percentage rounded to 2 decimal places (i.e., 32.16).)

d. Would the manager prefer (a), (b), or (c) if evaluated using ROI?

The case where the manager elected to take the floor plan option.

The case where Hy's Boise store does not carry Ace's appliances.

The case where the manager invests in Ace's inventory and carries the appliance line.

e-1. What is Hy’s Boise store's expected EVA for the coming year if it does not carry Ace's appliances?

e-2. What is the store's expected EVA if the manager invests in Ace's inventory and carries the appliance line?

e-3. What would the store's expected EVA be if the manager elected to take the floor plan option?

e-4. Would the manager prefer (a), (b), or (c) if evaluated using EVA?

The case where the manager elected to take the floor plan option.

The case where Hy's Boise store does not carry Ace's appliances.

The case where the manager invests in Ace's inventory and carries the appliance line.

Answer 1

i) Answers for part (a) to (d)

Return on Investment (ROI) = Net profits earned/ Investments made

• Answer for part (a): ROI in case HY's Boise does not carry Ace's appliances

Particulars	Amount ($)
Estimated revenues for HY's Boise	4,710,000
Less: Cost of goods sold	2,967,300
Less: Operating expenses	471,000
Net profits earned (A)	1,271,700
Investment made by HY's Boise in the store assets (B)	3,430,000
ROI (A/B)	37.08%

• Answer for part (b): ROI in case if the HY's Boise's manager invests in Ace's inventory and carries the appliance line

(All Amounts in $)

Particulars	Hardware and Furnishing chain (A)	Appliance line(B)	Total (A+B)
Estimated revenues	4,710,000	1,460,000	6,170,000
Less: Cost of goods sold	2,967,300	1,109,600	4,076,900
Less: Operating expenses	471,000	151,000	622,000
Net profits earned (C)	1,271,700	199,400	1,471,100
Investment made (D)	3,430,000	1,040,000	4,470,000
ROI (C/D)	37.08%	19.17%	32.91%

• Answer for part (c):ROI in case the HY's Boise's manager elected to take the floor plan option

(All Amounts in $)

Particulars	Hardware and Furnishing chain (A)	Appliance line(B)	Total (A+B)
Estimated revenues	4,710,000	1,460,000	6,170,000
Less: Cost of goods sold	2,967,300	1,109,600	4,076,900
Less: Operating expenses	471,000	151,000	622,000
Less: Floor planning cost	-	125,600	125,600
Net profits earned (C)	1,271,700	73,800	1,345,500
Investment made (D)	3,430,000	-	3,430,000
ROI (C/D)	37.08%	-	39.23%

• Answer for part (d):Whether HY's Boise's manager would prefer option (a), (b) or (c) using ROI

The manager would go for option (c) because under the said option overall store's ROI would be maximum i.e., 39.23% without investing any additional amount in 'Ace's Appliance Line".

i) Answers for part (e-1) to (e-4)

Economic Value Added (EVA) = Net Profits earned - (Marginal cost of capital * capital invested)

• Answer for part (e-1): EVA in case HY's Boise does not carry Ace's appliances

Particulars	Amount ($)
Net profits earned [refer answer for part (a) above] (A)	1,271,700
Marginal cost of capital (B)	8%
Investment made by HY's Boise in the store assets (C)	3,430,000
EVA [A-(B*C)]	997,300

• Answer for part (e-2): EVA in case if the HY's Boise's manager invests in Ace's inventory and carries the appliance line

(All Amounts in $)

Particulars	Hardware and Furnishing chain (A)	Appliance line(B)	Total (A+B)
Net profits earned [refer answer for part (b) above] (C)	1,271,700	199,400	1,471,100
Marginal cost of capital (D)	8%	8%	8%
Investment made (E)	3,430,000	1,040,000	4,470,000
EVA [C-(D*E)]	997,300	116,200	1,113,500

• Answer for part (e-3): EVA in case the HY's Boise's manager elected to take the floor plan option

(All Amounts in $)

Particulars	Hardware and Furnishing chain (A)	Appliance line(B)	Total (A+B)
Net profits earned [refer answer for part (c) above] (C)	1,271,700	73,800	1,345,500
Marginal cost of capital (D)	8%	8%	8%
Investment made (D)	3,430,000	-	3,430,000
EVA [C-(D*E)]	997,300	-	1,071,100

• Answer for part (e-4):Whether HY's Boise's manager would prefer option (e-1), (e-2) or (e-3) using EVA

The manager would go for option (b) because under the said option overall store's EVA would be maximum i.e., $1,113,500.