The Amer Company has the following characteristics: Sales = $1,000, Total assets = $1,000. Total debt/Total assets = 35%, Basic Earning Power (BEP) ratio = 20%, Tax rate = 40%, Interest rate on total debt = 4.57%. What is Amer's ROE?

ROE = 16.98%

Explanation:

The question is to determine Amer Company's Return on Equity

The following steps are taken:

1) The Total Debt : Total Assets = 35%

It means Total Debt : 1000 = 0.35

Meaning 0.35 x $1,000 = $350 and this is the total debt

2) Calculate Interest on debt

Interest on debt = Interest rate on total debt x total debt

= 4.57% x $350 = $16

3) Now calculate the Net Income from Earnings before Interest and Tax

Earnings before Interest and tax = $200

less interest $16

Earnings Before Tax $184

Subtract tax (40% of EBT) $73.6

Net income $110.4

4) Calculate the Return on Equity

= Net income / Shareholders' Equity

= $110.4 / ($1,000-$300)

= 16.98%