Question

The South Division of Wiig Company reported the following data for the current year.

Sales		$2,950,000
Variable costs		1,947,000
Controllable fixed costs		595,000
Average operating assets		5,000,000

Top management is unhappy with the investment center’s return on investment (ROI). It asks the manager of the South Division to submit plans to improve ROI in the next year. The manager believes it is feasible to consider the following independent courses of action.

1.		Increase sales by $300,000 with no change in the contribution margin percentage.
2.		Reduce variable costs by $155,000.
3.		Reduce average operating assets by 4%.

(a) Compute the return on investment (ROI) for the current year. (Round ROI to 2 decimal places, e.g. 1.57%.)

Return on Investment

%

(b) Using the ROI formula, compute the ROI under each of the proposed courses of action. (Round ROI to 2 decimal places, e.g. 1.57%.)

		Return on investment
Action 1			%
Action 2			%
Action 3			%

Answer 1

Part a) Calculation of ROI

ROI= Net Profit/ Average operating assets *100

Net Profit= Sales- Variable costs - controllable fixed costs

Net profit= 2950000- 1947000 - 595000

Net profit = 408000

ROI= 408000/ 5000000 *100

ROI= 8.16% ANS

Part b) ACTION 1 INCREASE SALES BY 300000 NO CHANGE IN CONTRIBUTION MARGUN PERCENTAGE

Contribution Margin = Sales- Variable cost

Previous Contribution Margin Percentage

=(2950000 - 1947000)/ 2950000 *100 = 34 %

New sales 3250000

Let new variable cost be X

34%=( 3250000 - X)/3250000

X = 2145000

ROI = (3250000 - 2145000 - 595000)/5000000*100

ROI = 10.2 % ANS

ACTION 2 REDUCE VARIABLE COSTS BY 155000

New variable costs = 1947000 - 155000 = 1792000

ROI=( 2950000 - 1792000 - 595000)/5000000 *100

ROI = 11.26% ANS

ACTION 3 REDUCE AVERAGE OPERATING ASSETS BY 4%

New operating Assets= 5000000 *96% = 4800000

ROI= (2950000- 1947000 - 595000)/ 4800000 *100

ROI = 8.5% ANS