The managers of Herwhno want to introduce a new product line. The financial performance of the company for the most recent year is given below:$$\begin{array} { | l | l | }
\hline \text { Sales } & £ 63,300,000 \
\hline \text { Less variable costs } & £ 36,720,000 \
\hline \text { Contribution } & £ 26,580,000 \
\hline \text { Less fued expenses } & £ 22,720,000 \
\hline \text { Net profit } & £ 3,860,000 \
\hline \text { Divisional capital employed } & \$ 23,200,000 \
\hline
\end{array}$$
The company estimates that the required return on investment should be a minimum of 12%.
Details of new product line
The sales manager estimates that sales for the new product will be 420,000 units per annum if the selling price is £5.20 per unit. Variable costs are estimated to be £2.86 per unit. Fixed costs will increase by £900,000.
A budget of £2,000,000 has been agreed for investment in new machinery.
-Calculate the Return on Investment after the new investment is accepted

A)14.1%.
B)22.10%.
C)14.8%.
D)15.65%.

Question

The managers of Herwhno want to introduce a new product line. The financial performance of the company for the most recent year is given below:$$\begin{array} { | l | l | } 
\hline \text { Sales } & £ 63,300,000 \
\hline \text { Less variable costs } & £ 36,720,000 \
\hline \text { Contribution } & £ 26,580,000 \
\hline \text { Less fued expenses } & £ 22,720,000 \
\hline \text { Net profit } & £ 3,860,000 \
\hline \text { Divisional capital employed } & \$ 23,200,000 \
\hline
\end{array}$$
The company estimates that the required return on investment should be a minimum of 12%.
Details of new product line
The sales manager estimates that sales for the new product will be 420,000 units per annum if the selling price is £5.20 per unit. Variable costs are estimated to be £2.86 per unit. Fixed costs will increase by £900,000.
A budget of £2,000,000 has been agreed for investment in new machinery. 
-Calculate the Return on Investment after the new investment is accepted

A)14.1%.
B)22.10%.
C)14.8%.
D)15.65%.

Quizplus · Accepted Answer

First, let's calculate the total cost for the new product line:

Variable costs per unit = £2.86
Fixed costs = £900,000
Total cost = Variable costs per unit x Number of units + Fixed costs
Total cost = £2.86 x 420,000 + £900,000
Total cost = £2,011,200

Next, let's calculate the total revenue for the new product line:

Selling price per unit = £5.20
Number of units = 420,000
Total revenue = Selling price per unit x Number of units
Total revenue = £5.20 x 420,000
Total revenue = £2,184,000

Lastly, we can calculate the return on investment (ROI):

ROI = (Total revenue - Total cost) / Total investment x 100%
Total investment = £2,000,000 + £900,000 (new machine investment + increased fixed costs)
Total investment = £2,900,000
ROI = (£2,184,000 - £2,011,200) / £2,900,000 x 100%
ROI = 5.4%

Since the ROI of 5.4% is less than the company's required return on investment of 12%, the new product line should not be introduced.

The Managers of Herwhno Want to Introduce a New Product