Problem 12-19 Simple Rate of Return; Payback Period [LO12-1, LO12-6]

Paul Swanson has an opportunity to acquire a franchise from The Yogurt Place, Inc., to dispense frozen yogurt products under The Yogurt Place name. Mr. Swanson has assembled the following information relating to the franchise:

A suitable location in a large shopping mall can be rented for $4,000 per month.

Remodeling and necessary equipment would cost $348,000. The equipment would have a 20-year life and a $17,400 salvage value. Straight-line depreciation would be used, and the salvage value would be considered in computing depreciation.

Based on similar outlets elsewhere, Mr. Swanson estimates that sales would total $430,000 per year. Ingredients would cost 20% of sales.

Operating costs would include $83,000 per year for salaries, $4,800 per year for insurance, and $40,000 per year for utilities. In addition, Mr. Swanson would have to pay a commission to The Yogurt Place, Inc., of 14.0% of sales.

Required:

1. Prepare a contribution format income statement that shows the expected net operating income each year from the franchise outlet.

2-a. Compute the simple rate of return promised by the outlet.

2-b. If Mr. Swanson requires a simple rate of return of at least 19%, should he acquire the franchise?

3-a. Compute the payback period on the outlet.

3-b. If Mr. Swanson wants a payback of three years or less, will he acquire the franchise?