VCE-ACCT-U34 10.7.2 📋 – Mock Exam 7: Q2-Q8 Return on Assets, Statements, Concepts, Budget and Extended Response

Mock Exam 7 — Questions 2 and 3

Summit Outdoors | Continue on paper

(a)4 marks

Analyse the trend in Summit Outdoors’ Return on Assets over the three years shown. In your answer, explain the likely causes of this trend.

Tip: ROA declining 3 years. Can be decomposed: ROA = Asset Turnover × NP Margin. Asset Turnover falling more sharply = main driver. NP Margin relatively stable.

(b)4 marks

Explain how Summit Outdoors’ Asset Turnover can be declining while sales are increasing.

Tip: Asset Turnover = Sales ÷ Avg Assets. If assets grow faster than sales (e.g., new vehicle purchase, growing inventory), turnover falls even as sales rise.

(c)4 marks

With reference to the Return on Assets formula and the data provided, explain the statement: ‘A falling Return on Assets does not always mean the business is less profitable per dollar of sales.’

Tip: ROA = NP Margin × Asset Turnover. NP Margin is relatively stable (7.9-8.4%). The ROA decline is driven by falling Asset Turnover (fewer sales per dollar of assets). The business is not less profitable per dollar of sales – it is less efficient at generating sales from its asset base.

(a)4 marks

Jake is considering purchasing a $60,000 warehouse to store inventory, financed entirely through a bank loan. Analyse the likely effects of this decision on Summit Outdoors’ Return on Assets and Asset Turnover.

Tip: More assets = ROA and Asset Turnover denominator increases. If NP doesn’t increase proportionally (loan interest expense), ROA falls further. Asset Turnover falls unless warehouse generates proportionally more sales.

(b)3 marks

Explain why the consistency principle is important when comparing Summit Outdoors’ Return on Assets across the three years shown.

Tip: Consistency ensures the same depreciation method, inventory valuation, and asset classification is used each year, so changes in ROA reflect business performance, not accounting method changes.

(c)3 marks

Jake wants to improve Return on Assets. Identify and explain two specific actions Jake could take, and explain how each would affect the ROA formula.

Tip: Options: (1) Increase sales without increasing assets = improves Asset Turnover → improves ROA. (2) Reduce expenses to improve NP Margin = improves ROA. (3) Dispose of non-productive assets = reduces denominator → improves ROA if NP maintained.

(a)6 marks

Calculate the Gross Profit for July, showing Sales, Sales Returns and Cost of Goods Sold as separate line items.

Tip: Net Sales = $132,000 − $2,200 = $129,800. Gross Profit = Net Sales − COGS = $129,800 − $77,880 = $51,920.

(b)4 marks

Prepare the Other Revenue and Expenses sections of the Income Statement, listing each item and its subtotal.

Tip: Other Revenue: Interest Revenue $150. Total Expenses: Wages $18,000 (= $15,600 paid + $2,400 accrued) + Rent $1,200 + Depreciation — Vehicle $667 + Bad Debts Expense $330 + Loss on Disposal of Vehicle $2,450 + Advertising $600 = $23,247.

(c)3 marks

Calculate Net Profit for July.

Tip: Net Profit = Gross Profit + Other Revenue − Total Expenses = $51,920 + $150 − $23,247 = $28,823.

(d)3 marks

Explain why the $2,450 Loss on Disposal of Vehicle (calculated in Question 1) is reported as an expense in the July Income Statement even though it relates to a non-current asset rather than Summit Outdoors’ day-to-day trading activities.

Tip: The loss represents the shortfall between the vehicle’s carrying (book) value and the trade-in value received, which is an economic cost incurred by the business in July regardless of its source. Excluding it would mean the Income Statement did not reflect all costs incurred by the business during the period, understating expenses and overstating Net Profit.

(a)4 marks

With reference to relevance, explain why Summit Outdoors adjusts Wages, Rent and the Allowance for Doubtful Debts every month rather than only once a year.

Tip: State relevance (information must be capable of influencing decisions, which requires it to be timely). Apply to monthly reporting for Jake. State the impact of only adjusting annually (Jake could not have identified the declining Return on Assets trend from Question 2 early enough to respond).

(b)4 marks

With reference to faithful representation, explain why the $2,450 Loss on Disposal of Vehicle must be recorded in full, even though it is a one-off event that reduces reported profit.

Tip: State faithful representation (reports must reflect what has actually occurred, complete and free from bias). Apply to the loss on disposal specifically. State the impact of omitting or understating it (assets and profit would be overstated, misleading Jake and any external users about July’s true financial performance).

(a)4 marks

Calculate the variance for Cash Receipts and for Cash Payments, stating whether each is favourable (F) or unfavourable (U).

Tip: Receipts: $61,000 − $54,200 = $6,800 U (less cash received than budgeted). Payments: $50,100 − $47,400 = $2,700 U (more cash paid than budgeted).

(b)4 marks

Explain one likely cause of the unfavourable Cash Receipts variance, with reference to information given earlier in this exam.

Tip: Link to the declining Return on Assets and falling Asset Turnover from Question 2 — if Summit Outdoors is generating sales less efficiently from its (now larger) asset base, and the Allowance for Doubtful Debts has needed to increase (Question 1), budgeted cash inflows from sales are less likely to arrive in full and on schedule.

(c)6 marks

Discuss how preparing a Cash Budget benefits Jake’s decision-making, and recommend one action he should take in response to the August variances.

Tip: Benefit: allows Jake to anticipate cash shortfalls and arrange finance or defer non-essential spending in advance rather than being caught out. Recommendation: given that Cash Payments were higher than budgeted (partly reflecting the cost of the new vehicle from Question 1), Jake should review planned capital spending and financing commitments against the business’s ability to generate cash, especially while Return on Assets is declining.

(a)6 marks

Discuss the financial implications of purchasing the warehouse using a bank loan compared with leasing an equivalent space.

Tip: Purchasing increases total assets by $60,000 and adds loan interest expense, which — as identified in Question 3(a) — would further reduce the already-declining Return on Assets and Asset Turnover unless the warehouse generates a proportional increase in sales. Leasing avoids adding a large asset and matching loan liability to the Balance Sheet, and the lease payments are a straightforward operating expense, but provide no equity build-up and remain a fixed ongoing cost.

(b)6 marks

Discuss the non-financial implications of purchasing versus leasing for Jake and Summit Outdoors.

Tip: Purchasing gives Jake full control over the space (permanent modifications, no landlord restrictions) and long-term security of premises, but ties up capital and reduces flexibility if the business needs to relocate or resize storage in future. Leasing offers flexibility to scale storage up or down as the business grows, but is subject to lease renewal risk and potential rent increases outside Jake’s control.

(c)4 marks

Make a recommendation to Jake, justified by reference to both the financial and non-financial considerations above.

Tip: A clear recommendation (“should” / “should not” purchase) that weighs the further pressure on the declining Return on Assets and Asset Turnover from Question 2 against the flexibility benefits of leasing, or the control benefits of owning, scores full marks.