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Accounting

27th Edition
WARREN + 5 others
ISBN: 9781337272094

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BuyFindarrow_forward

Accounting

27th Edition
WARREN + 5 others
ISBN: 9781337272094
Textbook Problem

Divisional income statements and return on investment analysis

 E.F. Lynch Company is a diversified investment company with three operating divisions organized as investment centers. Condensed data taken from the records of the three divisions for the year ended June 30, 20Y8, are as follows:

 The management of E.F. Lynch Company is evaluating each division as a basis for planning a future expansion of operations.

 Instructions

  1. 1. Prepare condensed divisional income statements for the three divisions, assuming that there were no service department charges.
  2. 2. Using the DuPont formula for return on investment, compute the profit margin, investment turnover, and return on investment for each division. Round percentages and the investment turnover to one decimal place.
  3. 3. If available funds permit the expansion of operations of only one division, which of the divisions would you recommend for expansion, based on parts (1) and (2)? Explain.

(1)

To determine

Income statement: The financial statement which reports revenues and expenses from business operations and the result of those operations as net income or net loss for a particular time period is referred to as income statement.

Profit margin: This ratio gauges the operating profitability by quantifying the amount of income earned from business operations from the sales generated.

Formula of profit margin:

Profit margin=Income from operationsSales

Investment turnover: This ratio gauges the operating efficiency by quantifying the amount of sales generated from the assets invested.

Formula of investment turnover:

Investment turnover=SalesInvested assets

Return on investment (ROI): This financial ratio evaluates how efficiently the assets are used in earning income from operations. So, ROI is a tool used to measure and compare the performance of a units or divisions or a companies.

Formula of ROI according to Dupont formula:

Return on investment = Profit margin × Investment turnover=Income from operationsSales×SalesInvested assets=Income from operationsInvested assets

To prepare: The income statements for MF, EB, and IB Divisions of Company L for the year ended June 30, 20Y8

Explanation

Prepare divisional income statements for MF, EB, and IB Divisions of Company L for the year ended June 30, 20Y8.

Company L
Divisional Income Statements
For the Year Ended June 30, 20Y8
  MF Division EB D...

(2)

To determine
Profit margin, investment turnover, and return on investment of MF, EB, and IB Divisions

(3)

To determine

To recommend: The expansion of the profitable division, based on income from operations and ROI, computed in parts (1) and (2)

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