[Jt787]

Hey guys,
I'm taking a Managerial Accounting course this summer. Almost done with the course and doing relatively well. Anyway, there is one question I am quite confused with.

The valve division of Bendix Inc produces a small valve that is used by various companies as a compenent in their products. Each division is expected to generate a rate of return of at least 14% on its operating assets. The valve division has avg operating assets of $700,000. The valves are sold for $5 each. Variable costs are $3 per valve, and fixed costs total $462,000 per year. The division has a capacity of 300,000 valves each year.

Question1. How many valves must the Valve division sell each year to generate the desired rate of return on its assets?
a- What is the margin earned at the level of sales
b- what is the turnover earned at this level of sales.

Now the check figure says margin earned = 7%

I know that the equation for Margin is: Net Operating Income/Sales

Sales are equal to $5x300,000=1,500,000 --- correct?

I am quite confused on how to find the Net Operating Income.

Please Help :(

[ArcSine]

You're on the right track with the Sales. What you've calc'd is the total Sales assuming the division operates at capacity.

Net Operating Income is

Total Sales less Total Variable Costs less Fixed Costs

Now attack the question this way: At a price of $5 and a per-unit variable cost of $3, each unit sold produces a profit (before fixed costs) of $2 each. First, how many units do you have to sell to exactly cover your total fixed costs? (That's your breakeven point).

After hitting breakeven, you must then sell enough additional units so that the additional profit (two bucks per, for every unit sold above breakeven) adds up to the hurdle rate of 14% of assets.

When you work it through, you'll find that (1) the required sales level is do-able (it's just a bit less than capacity); and (2) the Margin (as you compute it, NOI / Sales) will be the 7% 'check figure' you were given.

After you work through a few of these and develop a bit of intuition about the numbers, you'll find it a lot more efficient to reduce the situation to a simple equation or two, and whip out the answer mathematically. Once you've got the intuitive familiarity with these problems going on, the equations will just be common sense for you.

Best of luck!

...it was early and I was full of no coffee...

[rehmanvohra]

Question1. How many valves must the Valve division sell each year to generate the desired rate of return on its assets?

Contribution = Desired profit + Fixed costs
= (700,000x0.14) +462,000
= 560,000

Number of units to be sold = 560,000/(5-3) or 280,000

a- What is the margin earned at the level of sales
Net Income/Sales revenue
98000/(280000 x 5) = 7%
b- what is the turnover earned at this level of sales.
280,000 x 5 = 1,400,000