【Questions】
1 Pace Company (PC) runs a large number of wholesale stores and is increasing the number of these stores all the time.
It measures the performance of each store on the basis of a target return on investment (ROI) of 15%. Store managers
get a bonus of 10% of their salary if their store’s annual ROI exceeds the target each year. Once a store is built there
is very little further capital expenditure until a full four years have passed.
PC has a store (store W) in the west of the country. Store W has historic financial data as follows over the past four
years:
2005 2006 2007 2008
Sales ($’000) 200 200 180 170
Gross profit ($’000) 80 70 63 51
Net profit ($’000) 13 14 10 8
Net assets at start of year ($’000) 100 80 60 40
The market in which PC operates has been growing steadily. Typically, PC’s stores generate a 40% gross profit margin.
Required:
(a) Discuss the past financial performance of store W using ROI and any other measure you feel appropriate
and, using your findings, discuss whether the ROI correctly reflects Store W’s actual performance.
(8 marks)
(b) Explain how a manager in store W might have been able to manipulate the results so as to gain bonuses
more frequently. (4 marks)
PC has another store (store S) about to open in the south of the country. It has asked you for help in calculating the
gross profit, net profit and ROI it can expect over each of the next four years. The following information is provided:
Sales volume in the first year will be 18,000 units. Sales volume will grow at the rate of 10% for years two and three
but no further growth is expected in year 4. Sales price will start at $12 per unit for the first two years but then reduce
by 5% per annum for each of the next two years.
Gross profit will start at 40% but will reduce as the sales price reduces. All purchase prices on goods for resale will
remain constant for the four years.
Overheads, including depreciation, will be $70,000 for the first two years rising to $80,000 in years three and four.
Store S requires an investment of $100,000 at the start of its first year of trading.
PC depreciates non-current assets at the rate of 25% of cost. No residual value is expected on these assets.
Required:
(c) Calculate (in columnar form) the revenue, gross profit, net profit and ROI of store S over each of its first four
years. (9 marks)
(d) Calculate the minimum sales volume required in year 4 (assuming all other variables remain unchanged) to
earn the manager of S a bonus in that year. (4 marks)
(25 marks)
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