ACC 406 Lecture Notes - Lecture 1: Historical Cost, Profit Margin, Current Value
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Operating | Average | ||
Net Sales | Income | Total Assets | |
Paint Stores | $3,950,000 | $472,000 | $1,410,000 |
Consumer | 1,315,000 | 193,000 | 1,590,000 |
Requirement 1. Calculate eachâ division's ROI. Round all of your answers to four decimal places.
Begin by selecting the formula to calculate return on investmentâ (ROI), and then enter the amounts to calculate eachâ division's ROI. â(Round your calculations to four decimal places and enter your answer as a percent rounded to two decimalâ places, X.XX%)
Operating income | / | Average total assets | = | ROI |
Paint Stores | 472000 | / | 1410000 | = | 3.35 | % |
Consumer | 193000 | / | 1590000 | = | 12.14 | % |
Requirement 2. Calculate eachâ division's profit margin ratio. Interpret your results.
Begin by selecting the formula to calculate profit marginâ ratio, and then enter the amounts to calculate eachâ division's profit margin ratio. â(Enter each profit margin ratio as a percent rounded to two decimalâ places, X.XX%.)
Operating income | / | Net sales | = | Profit margin ratio |
Paint Stores | / | = | % |
Consumer | / | = | % |
The
â¼___________
Consumer
Paint Stores
division is more profitable on each dollar of sales.
Requirement 3. Calculate eachâ division's asset turnover ratio. Interpret your results.
Begin by selecting the formula to calculate asset turnoverâ ratio, and then enter the amounts to calculate eachâ division's asset turnover ratio. â(Round your answers to four decimalâ places, X.XXXX.)
Net sales | / | Average total assets | = | Asset turnover ratio |
Paint Stores | / | = |
Consumer | / | = |
The
â¼
Consumer
Paint Stores
division is more efficient in generating sales with its average total assets.
Requirement 4. Use the expanded ROI formula to confirm your results from Requirement 1. Interpret your results.
âFirst, select the expanded ROI formula.
Profit margin ratio | x | Asset turnover ratio | = | ROI |
Now calculate ROI for each division using the expanded ROI formula. â(Enter your answers as a percent rounded to two decimalâ places, X.XX%.)
Using the expanded formula, the ROI for the Paint Stores division is__________________ | %. |
Using the expanded formula, the ROI for the Consumer division is______________ | %. |
The Consumerâ division's profitability on each dollar of sales is
â¼
higher
lower
than the Paint Storesâ division's profitability.â However, the Paint Storesâ division's efficiency is significantly
â¼
higher
lower
than the Consumerâ division's efficiency. These results cause the Paint Storesâ division's ROI to be
â¼
fairly similar to
higher than
lower than
the Consumerâ division's ROI.
Requirement 5. Calculate eachâ division's RI. Interpret yourâ results, and offer a recommendation for any division with negative RI.
âFirst, select the formula to calculate residual incomeâ (RI).
Operating income | â | ( | Target rate of return | x | Average total assets | ) | = | RI |
Now calculate eachâ division's RI. â(Use a minus sign or parentheses to enter negative residualâ income.)
The RI for the Paint Stores division is $ | . |
The RI for the Consumer division is $ | . |
â¼
Both divisions are
Neither division is
Only the Consumer division is
Only the Paint Stores division is
meetingâ management's target rate of return. A division with a negative RI should consider
â¼
decreasing its long-term debt
decreasing its operating income
eliminating nonproductive assets
.
Requirement 6. Describe some of the factors that management considers when setting its minimum target rate of return.
Management
â¼
cannot have
may have
different minimum target rates for different divisions. Forâ example, management
â¼
might
would not
require a higher target rate of return from a division operating in a riskier business environment. Management will need to decide
â¼
what assets to include in total assets
what liabilities to include in total liabilities
for the calculations and whether it should be net of
â¼
accumulated depreciation.
income taxes.
Raddington Industries producestool-and-die machinery for various manufacturers. Two years ago,the company expanded vertically by acquiring Regis Steel Company,one of its suppliers of alloy steel plates. In order to manage thetwo separate businesses, the operations of Regis Steel are reportedseparately as an investment center.
Raddington monitors its divisions onthe basis of both unit contribution and return on averageinvestment (ROI), with the investment defined as average operatingassets used. Raddington has a policy of basing all employee bonuseson divisional ROI. All investments in operating assets are expectedto earn a minimum return of 11 percent before income taxes.
Regisâs cost of goods sold isconsidered to be entirely variable, whereas the divisionâsadministrative expenses are not dependent on volume. Sellingexpenses are a mixed cost, with 40 percent attributed to salesvolume. Over the last two years, Regisâs ROI has ranged from 11.8percent to 14.7 percent. During the fiscal year ended November 30,2012, Regis contemplated a capital acquisition with an estimatedROI of 11.5 percent; however, division management decided againstthe investment because it believed that the investment woulddecrease Regisâs overall ROI.
The 2012 income statement for Regis ispresented next. The divisionâs operating assets were $15,750,000 onNovember 30, 2012, a 5 percent increase over the 2011 year-endbalance.
Regis Steel Division OperatingStatement For the Year Ended November 30, 2012 ($000 omitted) | |
---|---|
Sales revenue | $25,000 |
Cost of goods sold | 16,500 |
Gross profit | $ 8,500 |
Administrative expenses | 3,955 |
Selling expenses | 2,700 |
Income from operations before incometaxes | $ 1,845 |
Required
A.Calculate the unit contribution for Regis Steel Division if1,484,000 units were produced and sold during the year endedNovember 30, 2012.
B.Calculate the return on investment (ROI) for Regis SteelDivision for 2012.
C.Calculate the residual income, using the average operatingassets employed, for 2012 for Regis Steel Division.
D.Explain why the management of Regis Steel Division would havebeen more likely to accept the contemplated acquisition if residualincome rather than ROI were used as a performance measure.
E.Regis Steel Division is a separate investment center withinRaddington Industries. Identify several items that Regis Steelshould control if it is to be evaluated fairly by either the ROI orthe residual income performance measure.