Bed Linens Business – Overall Measures of Performance
Suppose you want to invest your excess funds in an existing bed linens business, how will you know whether the business is profitable and capable of providing you the desired return of your investment?
The overall objectives of most businesses are (1) to earn a satisfactory return on invested funds, consistent with (2) maintaining a sound financial position. To determine whether these bed linens online objectives are met, we shall need, first of all, to define the word return, and to decide how it is to be measured.
Return, means the earnings during a given period. On the income statement this is shown as the net income.
The next step is to define invested funds. This phrase can be used to mean either (1) the funds invested by the stockholders, or (2) the funds invested by the long-term creditors as well as by the stockholders.
We shall be interested in examining the return produced by the funds invested by stockholders. An appropriate term to designate these funds might be stockholders’ investment.
To determine the total stockholders’ investment in a corporation we should have to total what three categories of balance sheet items?
(1)Stated value of outstanding stock
(3)Capital surplus (changes in owners’ equity not related to earning or dividends)
For example, Quilts & Shams Enterprise financial statements show the following accounting information:
(1) Common stock (50,000 shares outstanding) of $600,000 in 2008 and
$600,000 in 2009;
(2) Retained earnings were $700,000 in 2008 and $600,000 in 2009;
(3) Stockholders’ investment was $1.3M ($600,000 + $700,000) on December
31, 2008, and $1.2M ($600,000 + $600,000) on December 31, 2009;
(4) Return totaled $200,000 for 2009.
Stockholders’ investment totaled $2.5M ($1.3M +$1.2M). Therefore the average amount of stockholders’ investment during 2009 was $1.25M ($2.5M/2).
A measure of the return on stockholders’ investment is obtained by dividing the return (net income)by the average amount of stockholders’ investment for the period and expressing the result as a percent. Thus the return on stockholders’ investment of Quilts & Shams Enterprise during 2009 was 16% ($200,000/$1.25M).