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ACCA Applied Knowledge · Financial Accounting · Analysis of financial statements

Dravid Co reported revenue of $800,000, profit from operations of $96,000 and capital employed of $600,000 at the year end. Capital employed at the start of the year was $400,000, and the entity bases its return on closing capital employed. Management also states that asset turnover is expected to rise to 1.6 times next year with no change in operating margin, on the same closing capital employed. What would next year's ROCE be, based on that forecast?

Next year's ROCE would be 19.2%. Operating margin is 96,000 divided by 800,000, which is 12%, and ROCE equals margin multiplied by asset turnover, so 12% times 1.6 gives 19.2%. The current 16% figure ignores the forecast improvement in turnover.

  1. A19.2%Correct
  2. B16.0%
  3. C12.0%
  4. D25.6%

Explanation

Operating margin is 96,000/800,000 = 12%. ROCE = margin × asset turnover. Forecast ROCE = 12% × 1.6 = 19.2%. Current ROCE is 96,000/600,000 = 16%, which is the first distractor (no change). 12% ignores turnover. 25.6% wrongly uses the average capital employed turnover (800/500 = 1.6) and margin 16%.

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