Calculate pre-tax roi return on investment, Financial Accounting

Assignment Help:

Shannon Kampa is in talks with Resul Ozbayrak Leaseco, a leasing company, to rent store space for new stores that Shannon is considering adding to her high-end natural foods chain. Leaseco would build the stores and lease them to Shannon. For a typical store, Shannon will need to invest $1million of equity funds, all of which goes to finance working capital needs. She estimates that she will earn on average an operating profit of $200,000 per year, before rent payments, but recognizes that the actual operating profits could be higher or lower than that depending on environmental factors she cannot control. Leaseco estimates that they will also have a very long term investment of about $1million in building each store and offers Shannon the following two options: 1) pay a fixed rent of $90,000 per year or 2) pay a variable rent equal to half the operating profits.

Answer the following questions:

 (a)    Calculate Shannon's pre-tax ROI (return on investment, measured as pre-tax operating profits, after deducting rents, divided by her investment of $1 million) under the two rental options for each of the following 3 scenarios that might occur in the first year of operation:

 i) Good news: Operating profits are $300,000 per year,

ii) Medium news: Operating profits are $200,000 per year.

iii) Bad news: Operating profits are $100,000 per year.

 

good

medium

bad

op. profit before rent

300

200

100

Shannon's investment

1000

1000

1000

a) fixed rent case

 

 

 

op. profit after rent

 

 

 

ROI

 

 

 

b) variable rent case

 

 

 

op. profit after rent

 

 

 

ROI

 

 

 

Is Shannon's investment more or less risky under the fixed rent option, relative to the variable rent option? What is the basis for your conclusion?

(b)   Calculate Leaseco's ROI under the two rental options. Is Leaseco's investment more or less risky under the fixed rent option? What is the basis for your conclusion?

 

good

medium

bad

op. profit before rent

300

200

100

Leaseco's investment

1000

1000

1000

a) fixed rent case

 

 

 

rental income

 

 

 

ROI

 

 

 

b) variable rent case

 

 

 

rental income

 

 

 

ROI

 

 

 

(c)    Does the risk of the combined investment that Shannon and Leaseco make in the store depend on which rental option she selects?

(d)   Do you see a parallel between this discussion and the impact of increased leverage (from debt financing) on the risk of equity? If so, what is the link?


Related Discussions:- Calculate pre-tax roi return on investment

Right of indemnity-renumeration of trustee, Right of indemnity If the ...

Right of indemnity If the Official Receiver or trustee has seized or disposed of any property in the possession of the debtor, without notice or claim relating thereto, he is

How would errors affect the account balances, How would the following error...

How would the following errors affect the account balances and the basic accounting equation: assets = liabilities + owners' equity? How do the misstatements affect income? 1. The

Operating leases, Staples INC has operating leases. Assuming a discount rat...

Staples INC has operating leases. Assuming a discount rate of 9%, adjust the current balance sheet for the presences of these leases. Which reported expenses would change if these

Analyse the economical performance and monetary position, The statement of ...

The statement of comprehensive income for the year ended 31 December 2009 and its comparative is shown below: 2009 2008 $m

Define the term relevance - accounting information, Define the term Relevan...

Define the term Relevance - accounting information Accounting information should have the ability to influence decisions. Except this characteristic is present, there is ac

What is primary financial purpose, Q. What is primary financial purpose? ...

Q. What is primary financial purpose? The primary financial purpose of a company is typically stated to be the maximisation of shareholder wealth and Sassone plc has declared p

Periodic inventory system, Analyse the limitations of using a periodic inve...

Analyse the limitations of using a periodic inventory system and provide examples to support your view. essay type

On January 7, On January 7, 2016, Captec Company purchased $4,175 of suppli...

On January 7, 2016, Captec Company purchased $4,175 of supplies on account . In Captec Company’s chart of accounts , the Supplies account is No. 15, and the Accounts Payable accoun

Adjustments, Is goodwill a fictitious asset?

Is goodwill a fictitious asset?

Write Your Message!

Captcha
Free Assignment Quote

Assured A++ Grade

Get guaranteed satisfaction & time on delivery in every assignment order you paid with us! We ensure premium quality solution document along with free turntin report!

All rights reserved! Copyrights ©2019-2020 ExpertsMind IT Educational Pvt Ltd