Walmart being the largest ammunition retailer in the United States, it has been widely affected by the Government policy on the sale of ammunition. Over the past three years, the company has registered a 9.6% drop in revenue in its sports fitness and outdoor departments. The company is considering three products to be added to the product line to balance the lost revenue from the controlled sale of ammunition. With the continuing terror attacks and shootings in the country, the policy on ammunition is expected to be more unfriendly to Walmart’s sports, fitness and outdoor department. The department intends to assess three product lines that would generate 15% annual returns.
The department intends to analyse the three products and determine the product that would offer returns that would match the ammunition returns. The desired product should be one that has the potential to deliver higher rates of returns that would match the set threshold. This report employs Payback, Accounting Rate of Return or Return on Investment, Internal rate of return, and Net present value to evaluate the three products.
Walmart realized revenues exceeding $480 billion in the year 2014 compared to its revenue for 2013 amounting to $476 billion. It is one the largest retail outlets in the world. The American multinational has a chain of department stores and warehouse stores. The company’s headquarters is in Bentonville, Arkansas in the United States.
The company has returned $7.2 billion to its shareholders through dividends and share purchases. Since its establishment, the company has realized significant increase in shares value. The company was ranked first in 2014 Fortune 500 list of largest companies by revenue.
In august 2015, the company announced that it will stop selling its AR-15 assault rifle among other modern sporting rifles. Being the world’s largest retailers of firearms and ammunition, this product is a main product line for the retailer. In 2014, Walmart registered drops in sales of firearms as firearm makers are faced with declining sales. Remington Outdoor Group registered a 13% drop in sales of its firearm while Smith & Wesson registered 12% in its first half year revenues.
Ammunition which is a product that has a recurring sales pattern caused the widest dent in the department’s revenue. The sports, fitness and outdoor department benefited significantly from the supermarket chains position in ammunitions sales. A reduction in sales of the product necessitates an introduction of another product line that would balance the revenues from the department.
Walmart is considering a number of products to stock its department. The products include fishing equipment, traditional hunting equipment, and horse racing equipment. These products are intended to target the same market that the guns and ammunition target. However, the company has the option of choosing one product line to replace its dwindling guns and ammunition sales. The table below illustrates the various investments for the various products that are intended for the market.
|Traditional hunting equipment||3,405,000|
|Horse racing equipment||1,920,000|
The table below indicates the expected sales revenue from the listed products
|Product \ year||1||2||3||4||5|
|Traditional hunting equipment||456,000||472,000||1,483,000||1,487,000||1,459,000|
|Horse racing equipment||239,000||309,000||446,000||521,000||632,000|
The following financial tools are effective in determining the best product line that will bear the most profit from the company..
The payback period is an accounting metric that is used to determine the period within which each product will have returned the investment made to Walmart (Kaplan, and Atkinson, 89). The best product based on this metric is one that takes the shortest time to break even and start delivering profit. The product with the lowest value of payback period takes the shortest time. To determine the payback period, the cost of the project is compared to the annual cash flow (Kaplan, and Atkinson, 89). The equation below applies
Payback period =cost of project/ annual cash inflow
The table below illustrates the payback period for the various products
|Product||Investment||Total Revenue||Net income||annual cash flow||Payback|
|Traditional hunting equipment||3,405,000||5,357,000||1952000.00||390400||8.721824|
|Horse racing equipment||1,920,000||2,147,000||227,000||45400||42.29075|
From the computations above, fishing equipment has the lowest payback period. It will take the company 6.3 years to recover its investment from annual cash inflows if it invests in fishing equipment as a substitute for guns and ammunition. Horse racing equipment are the least attractive product for investment. Walmart will need to make sales for 42 years before it breaks even and recovers its invested funds. On the other hand, the company will need 9 years to balance its investment on traditional hunting equipment such as bows and arrows. Based on the payback period analysis, fishing equipment is the most attractive product line for Walmart.
Accounting Rate of Return or Return on Investment
The accounting rate of return abbreviated as ARR of the return on investment is the other metric that can be used to compare the three product lines to determine the most profitable (Zimmerman, and Massood, 258). This tool is essential in capital budgeting. ARR is a financial ratio facilitates the determination of profitability of a venture. Through the ARR the return per dollar for a year can be determine before an investment is made. Walmart decision will be heavily influenced on the outcome of ARR on the better product line to invest in (Zimmerman, and Massood, 259).
The desirable rate of ARR for the department is 15%. This level would match the return generated by the sale of guns and ammunition prior to their dwindling sales. To determine ARR, the average return during the period of assessment is compared to the average investment such that
ARR=average return during period/ average investment
The table below illustrates the computation of ARR for the three considered product lines
|Product||Investment||Total Revenue||Net income||annual cash flow||ARR|
|Traditional hunting equipment||3,405,000||5,357,000||1952000.00||390400||11%|
|Horse racing equipment||1,920,000||2,147,000||227,000||45400||2%|
The fishing equipment has the potential to deliver an ARR of 16%. This value exceeds the returns for guns and ammunition within the department. The product has the potential to perfectly replace guns and ammunition and maintain the income stream within the department. It is the preferred product or investment option based on the analysis.
Traditional hunting equipment measure an average rate of return of 11%. This value is high but it does not match the revenue from guns and ammunition to the department. Investing in this option would still leave the company with a deficit in its expected revenue. The department flow of income would not compare to what guns and ammunition generated.
Horse racing equipment are the least profitable product among the compared products. The company would only make 2% for every dollar if it invests in the product. Moreover, the product would leave a huge gap in returns to cover the gap that is left following the withdrawal of guns and ammunition from the shelves. The product is not as profitable as required. Based on the ARR, the best product line to invest in is fishing equipment.
Internal rate of return
Before making an investment, one of the most essential tools of assessing the investment is the internal rate of return. This metric has the ability to determine the profitability of the venture before commitment is made (Doupnik, and Hector, 77). Walmart needs to assess the various investment intentions in product line and select the best option based on the expected rate of return (Bebbington, Jeffrey, and Brendan, 90). It is imperative that guns and ammunition plaid a central role in the revenue streams of the sports, fitness and outdoor department. Guns and ammunition was product line that put Walmart on the global scene as a primary retailer. A competitive product must be selected to close the gap thus the need for analysis using internal rate of return.
The internal rate of return is a discount rate the forms the net present value of cash flows from a project equal to zero. IRR is determined from the NPV formula. The formula below is used to calculate the NPV for the products
=net cash inflow during the period t
=total initial investment cost
r=discount rate while t is the time period
For initial rate of return NPV=0, therefore the rate of return is deduced form the equation
|Years||Fishing equipment||Traditional hunting equipment||Horse racing equipment|
The fishing equipment has the highest internal rate of return. The product line has an internal rate of return of 17% which is the highest among all the other products. Traditional hunting equipment has an IRR of 14% while the horse racing equipment has IRR value of 0% because within the five years period it will not have broken even and returned the value invested.
Conclusion and recommendation
The best investment option for Walmart is investing in Fishing equipment. This product line not only has the potential to substitute guns and ammunition but it also has the ability to exceed the performance of the guns and ammunition in the department. An assessment of the accounting metric presents it as a product that would have the shortest payback period even as it would result to higher rates of return. It is the best option among the three. Investing in horse racing equipment is however unprofitable and should be avoided. The product line is the least profitable and has a low potential for increased revenue streams.
Bebbington, Jan, Jeffrey Unerman, and Brendan O’Dwyer. Sustainability accounting and accountability. Routledge, 2014.
Doupnik, Timothy, and Hector Perera. “International accounting.” (2011).
Kaplan, Robert S., and Anthony A. Atkinson. Advanced management accounting. PHI Learning, 2015
Zimmerman, Jerrold L., and Massood Yahya-Zadeh. “Accounting for decision making and control.” Issues in Accounting Education 26.1 (2011): 258-259.