Question

Adams Corporation’s balance sheet indicates that the company has $510,000 invested in operating assets. During 2018, Adams earned operating income of $52,020 on $1,020,000 of sales. Required Compute Adams’s profit margin for 2018. Computed Adams turnover for 2018. Compute Adams’s return on investment for 2018. Recompute Adams’s ROI under each of the following independent assumptions:
(1) Sales increase from $1,020,000 to $1,224,000, thereby resulting in an increase in operating income from $52,020 to $55,080.
(2) Sales remain constant, but Adams reduces expenses, resulting in an increase in operating income from $52,020 to $54,060.
(3) Adams is able to reduce its invested capital from $510,000 to $408,000 without affecting operating income.

Answer 1

Answer:

Profit Margin = 5.1%

Asset Turnover Ratio = 2:1

ROI (Normal) = 10.20%

ROI (Scenario 1) = 10.80%

ROI (Scenario 2) = 10.60%

ROI (Scenario 3) = 12.75%

Explanation:

Normal Scenario

Profit Margin = Operating Income ÷ Sales Revenue for the year  

Profit Margin = $52,020 ÷ $1,020,000 = 5.1%

Asset Turnover Ratio = Sales Revenue ÷ Operating Assets

Asset Turnover Ratio = $1,020,000 ÷ $510,000 = 2 : 1

Return on Investment = Operating Income ÷ Operating Assets

Return on Investment = $52,020 ÷ $510,000 = 10.20%

Scenario 1

Return on Investment = $55,080 ÷ $510,000 = 10.80%

Scenario 2

Return on Investment = $54,060 ÷ $510,000 = 10.60%

Scenario 3

Return on Investment = $52,020 ÷ $408,000 = 12.75%