We'll use the following formulas:
Profit margin = Operating income / Sales
Turnover = Sales / Operating assets
Return on investment (ROI) = Operating income / Operating assets
Using the data provided in the question, we can calculate the financial ratios and ROI for Fanning Corporation:
Profit margin = $60,500 / $1,100,000 = 0.055 or 5.5%
Turnover = $1,100,000 / $550,000 = 2 times
ROI = $60,500 / $550,000 = 0.11 or 11%
Now, let's compute Fanning's ROI under each of the following independent assumptions:
(1) Sales increase from $1,100,000 to $1,320,000, thereby resulting in an increase in operating income from $60,500 to $67,320.
Profit margin = $67,320 / $1,320,000 = 0.051 or 5.1%
Turnover = $1,320,000 / $550,000 = 2.4 times
ROI = $67,320 / $550,000 = 0.1224 or 12.24%
(2) Sales remain constant, but Fanning reduces expenses, resulting in an increase in operating income from $60,500 to $62,700.
Profit margin = $62,700 / $1,100,000 = 0.057 or 5.7%
Turnover = $1,100,000 / $550,000 = 2 times
ROI = $62,700 / $550,000 = 0.114 or 11.4%
(3) Fanning is able to reduce its invested capital from $550,000 to $440,000 without affecting operating income.
Profit margin = $60,500 / $1,100,000 = 0.055 or 5.5%
Turnover = $1,100,000 / $440,000 = 2.5 times
ROI = $60,500 / $440,000 = 0.138 or 13.8%
Therefore, Fanning Corporation's ROI increases under scenarios (1) and (3), while it remains the same in scenario (2).