The Southeast Division of a distribution company plans to purchase a new delivery truck for $18,500. The existing truck, with a book value of $5,000, will be sold. The new truck is expected to increase operating income by $6,000. Additional information is provided: - Current operating assets: $800,000 - Current operating income: $82,500 - Minimum rate of return: 10% - Profit margin: 15% Based on the expected impact on the return on investment metric, should the truck be purchased? Answer choices: (Note: The question seems to imply that options will follow, but none are provided in your text. Ensure to review the actual choices or calculate the answer based on the given information.)
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To assess whether the new truck should be purchased based on its expected impact on the return on investment (ROI), we need to analyze the ROI before and after the purchase.
ROI is calculated using the following formula: ROI = (Operating Income / Operating Assets) x 100
Current ROI: Operating Income = $82,500 Operating Assets = $800,000 Current ROI = ($82,500 / $800,000) x 100 = 10.31%
Expected changes due to the new truck: - Increase in operating income: $6,000 - Purchase of the new truck: $18,500 - Sale of the old truck: $5,000
Adjusted Operating Income: New Operating Income = Current Operating Income + Additional Income from the new truck $82,500 + $6,000 = $88,500
Adjusted Operating Assets: New Operating Assets = Current Operating Assets + Price of new truck - Book value of old truck $800,000 + $18,500 - $5,000 = $813,500
New ROI: New ROI = (New Operating Income / New Operating Assets) x 100 New ROI = ($88,500 / $813,500) x 100 ≈ 10.88%
Since the new ROI (10.88%) is greater than the current ROI (10.31%), the new truck purchase is expected to increase the return on investment. Additionally, the new ROI exceeds the minimum rate of return required by the division which is 10%.
Therefore, based on the expected impact on the return on investment metric, it would be recommended that the truck be purchased.