Increase Decrease or stay the same? Select sales and operating data for two divi
ID: 2432193 • Letter: I
Question
Increase Decrease or stay the same?
Select sales and operating data for two divisions of different firms are given as follows: Division A Division B Sales Average Operating Assets Net operating Income Minimum required rate of return $6,000,000 $2,400,000 $600,000 20% $10,000,000 $2,500,000 $800,000 23% Assume Division A is considering purchasing new equipment for $1,300,000. This equipment will reduce production cost by $120,000 per year. In order to afford this purchase, the company will be issuing bonds and use those proceeds to purchase the equipment. Interest on the bonds is $130,000. Assume this equipment will be purchased at the beginning of the period. Indicate the impact on margin and turnover of this transaction. Then select the new ROI for the Division A if this transaction were completed Impact on marginSelect Impact on turnover Select] New ROI Select ]Explanation / Answer
Impact on margin Current Margin 600000/6000000 10.00% Net Operating Income 600000 Add: Reduction in production 120000 Less : Interest on Bonds -130000 590000 New Margin 590000/6000000 9.83% Impact on margin Decrease Impact on turnover Asset Turnover Ratio Net Sales/Average operating assets Current Asset Turnover ratio = 6000000/2400000 2.5 New ratio Average operating assets 2400000+1300000 3700000 Asset Turnover ratio = 6000000/3700000 1.621622 Impact on Turnover Decrease ROI = Margin*Asset Turnover ratio Current ROI = 10%*2.5 0.25 New ROI = 9.83%*1.62 0.159246 Impact on ROI Decrease