Question

Return on investment LO A1, A2 ZNet Co. is a web-based retail company. The company reports the following for 2017. Sales $ 23,160,000 Operating income 6,948,000 Average invested assets 38,600,000 The company’s CEO believes that sales for 2018 will increase by 40%, and both profit margin (%) and the level of average invested assets will be the same as for 2017.

1. Compute return on investment for 2017.
2. Compute profit margin for 2017.
3. If the CEO’s forecast is correct, what will return on investment equal for 2018?
4. If the CEO’s forecast is correct, what will investment turnover equal for 2018?

Answer 1

1. Return on investment for 2017

ROI = Operating income/Average invested assets x 100

ROI = $6,948,000/$38,600,000 x 100

ROI = 18%

2. Profit margin for 2017

Profit margin

= Operating income/Sales x 100

= $6,948,000/$23,160,000 x 100

= 30%

3. Forecast sales for 2018

= 140% x $23,160,000

= $32,424,000

Forecast operating income for 2018

= 140% x $6,848,000

= $9,587,200

Return on investment in 2018

ROI = $9,587,200/$38,600,000 x 100

ROI = 24.84%

4. Investment turnover for 2018

= Sales/Average invested assets x 100

= $32,424,000/$38,600,000

= 0.84 times

Step-by-step explanation:

Return on investment is the ratio of operating income to average invested assets

Profit margin is the ratio of operating income to sales

Since forecast sales in 2018 increased by 40%, thus, the forecast sales are 140% of original sales (140% x $23,160,000), Increase in sales increases the operating income by 40% (140% x $6,948,000).

Investment turnover is the ratio of sales to average invested assets.

Answer 2

2017

ROI = 18%

Profit Margin = 30%

2018

ROI = 25.2%

Investment Turnover = 84%

Step-by-step explanation:

The formulas for the required ratio are as follows,

ROI = Operating income / Average invested assets

Profit margin = Operating Income / Sales

For 2017,

ROI = 6,948,000 / 38,600,000 = 0.18 = 18%

Profit margin = 6,948,000 / 23,160,000 = 0.3 = 30% of sales

For 2018, we compute increased sales first

Sales = 23,160,000 * 1.4 = $32,424,000 after 40% increase

with profit margin staying the same, profit for 2018

Profit = $32,424,000 * 0.3 = $9,727,200

Using the earlier formulas,

ROI = $9,727,200 / 38,600,000 = 0.252 = 25.2%

Investment turnover = Sales / Average invested assets

Investment Turnover = $32,424,000 / 38,600,000 = 0.84 = 84%

Hope that helps.