Question

Zims, a national manufacturer of lawn-mowing and snow-blowing equipment, segments its business according to customer type: professional and residential. The following divisional information was available for the past year:

Net Sales Revenue Operating Income Average Total Assets

Residential \( 550,000 \) 65,280 $ 192,000

Professional 1,090,000 164,820 402,000

Management has a 26% target rate of return for each division.

Requirements

1. Calculate each division’s ROI. Round all of your answers to four decimal places.

2. Calculate each division’s profit margin ratio. Interpret your results.

3. Calculate each division’s asset turnover ratio. Interpret your results.

4. Use the expanded ROI formula to confirm your results from Requirement 1. What can you conclude?

Short answer

(1) The ROI for residential is 34% and for professional is 41%.

(2) The profit margin for residential is 11.87% and for the professional is 15.12%.

(3) The asset turnover ratio for residential is 2.8646 times and for the professional is 2.7114 times.

(4) Answer is almost same as requirement 1, but with minor difference.

Step-by-step solution

Computation of return on investment

$\begin{array}{rcl}\mathbf{Residential}\mathbf{\text{'}}\mathbf{s}\mathbf{}\mathbf{Return}\mathbf{}\mathbf{on}\mathbf{}\mathbf{Investment}& \mathbf{=}& \frac{\mathbf{Operating}\mathbf{}\mathbf{Income}}{\mathbf{Average}\mathbf{}\mathbf{total}\mathbf{}\mathbf{assets}}\\ & \mathbf{=}& \frac{\mathbf{65}\mathbf{,}\mathbf{280}}{\mathbf{192}\mathbf{,}\mathbf{000}}\mathbf{}\\ & \mathbf{=}& \mathbf{34}\mathbf{\%}\end{array}$

$\begin{array}{rcl}\mathbf{Professional}\mathbf{}\mathbf{Return}\mathbf{}\mathbf{on}\mathbf{}\mathbf{Investment}& \mathbf{=}& \frac{\mathbf{Operating}\mathbf{}\mathbf{Income}}{\mathbf{Average}\mathbf{}\mathbf{total}\mathbf{}\mathbf{assets}}\\ & \mathbf{=}& \frac{\mathbf{164}\mathbf{,}\mathbf{820}}{\mathbf{402}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \mathbf{41}\mathbf{\%}\end{array}$

Computation of profit margin ratio

$\begin{array}{rcl}\mathbf{Residential}\mathbf{\text{'}}\mathbf{s}\mathbf{}\mathbf{Profit}\mathbf{}\mathbf{Margin}\mathbf{}\mathbf{ratio}& \mathbf{=}& \frac{\mathbf{Operating}\mathbf{}\mathbf{Income}}{\mathbf{Net}\mathbf{}\mathbf{sales}\mathbf{}\mathbf{Revenue}}\\ & \mathbf{=}& \frac{\mathbf{65}\mathbf{,}\mathbf{820}}{\mathbf{550}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \mathbf{11}\mathbf{.}\mathbf{87}\mathbf{\%}\end{array}$

$\begin{array}{rcl}\mathbf{Professional}\mathbf{\text{'}}\mathbf{s}\mathbf{}\mathbf{Profit}\mathbf{}\mathbf{Margin}\mathbf{}\mathbf{ratio}& \mathbf{=}& \frac{\mathbf{Operating}\mathbf{}\mathbf{Income}}{\mathbf{Net}\mathbf{}\mathbf{sales}\mathbf{}\mathbf{Revenue}}\\ & \mathbf{=}& \frac{\mathbf{164}\mathbf{,}\mathbf{820}}{\mathbf{1}\mathbf{,}\mathbf{090}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \mathbf{15}\mathbf{.}\mathbf{12}\mathbf{\%}\end{array}$

The profit margin ratio of the professional division is more than the residential division.

Computation of asset turnover ratio

$\begin{array}{rcl}\mathbf{Residential}\mathbf{\text{'}}\mathbf{s}\mathbf{}\mathbf{asset}\mathbf{}\mathbf{turnover}\mathbf{}\mathbf{ratio}& \mathbf{=}& \frac{\mathbf{Net}\mathbf{}\mathbf{sales}\mathbf{}\mathbf{revenue}}{\mathbf{Average}\mathbf{}\mathbf{total}\mathbf{}\mathbf{assets}}\\ & \mathbf{=}& \frac{\mathbf{550}\mathbf{,}\mathbf{000}}{\mathbf{192}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \mathbf{2}\mathbf{.}\mathbf{8646}\mathbf{}\mathbf{times}\end{array}$

$\begin{array}{rcl}\mathbf{Professional}\mathbf{\text{'}}\mathbf{s}\mathbf{}\mathbf{asset}\mathbf{}\mathbf{turnover}\mathbf{}\mathbf{ratio}& \mathbf{=}& \frac{\mathbf{Net}\mathbf{}\mathbf{sales}\mathbf{}\mathbf{revenue}}{\mathbf{Average}\mathbf{}\mathbf{total}\mathbf{}\mathbf{assets}}\\ & \mathbf{=}& \frac{\mathbf{1}\mathbf{,}\mathbf{090}\mathbf{,}\mathbf{000}}{\mathbf{402}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \mathbf{2}\mathbf{.}\mathbf{7114}\mathbf{}\mathbf{times}\end{array}$

Computation of ROI using expanded formula

$\begin{array}{rcl}\mathbf{Residentials}\mathbf{\text{'}}\mathbf{s}\mathbf{}\mathbf{Return}\mathbf{}\mathbf{on}\mathbf{}\mathbf{Investment}& \mathbf{=}& \mathbf{Profit}\mathbf{}\mathbf{Margin}\mathbf{\times }\mathbf{Asset}\mathbf{}\mathbf{turnover}\mathbf{}\mathbf{ratio}\\ & \mathbf{=}& \mathbf{11}\mathbf{.}\mathbf{87}\mathbf{\%}\mathbf{\times }\mathbf{2}\mathbf{.}\mathbf{8646}\\ & \mathbf{=}& \mathbf{34}\mathbf{.}\mathbf{00}\mathbf{\%}\end{array}$$\begin{array}{rcl}\mathbf{Professional}\mathbf{\text{'}}\mathbf{s}\mathbf{}\mathbf{Return}\mathbf{}\mathbf{on}\mathbf{}\mathbf{Investment}& \mathbf{=}& \mathbf{Profit}\mathbf{}\mathbf{Margin}\mathbf{\times }\mathbf{Asset}\mathbf{}\mathbf{turnover}\mathbf{}\mathbf{ratio}\\ & \mathbf{=}& \mathbf{15}\mathbf{.}\mathbf{12}\mathbf{\%}\mathbf{\times }\mathbf{2}\mathbf{.}\mathbf{714}\\ & \mathbf{=}& \mathbf{41}\mathbf{.}\mathbf{00}\mathbf{\%}\end{array}$

The new ROI is slightly different from the ROI given in the table. The professional division has greater ROI than the residential division.