Last year Oliver Inc had a total assets turnover of 1.60 and an equity multiplier of 1.85. Its sales were $200,000 and its net income was $10,000. The CFO believes that the company could have operated more efficiently, lowered its costs, and increased its net income by $5,000 without changing its sales, assets, or capital structure. Had it cut costs and increased its net income in this amount, by how much would the ROE have changed

Question

Business

Alicia Skinner

17 July, 18:33

Last year Oliver Inc had a total assets turnover of 1.60 and an equity multiplier of 1.85. Its sales were $200,000 and its net income was $10,000. The CFO believes that the company could have operated more efficiently, lowered its costs, and increased its net income by $5,000 without changing its sales, assets, or capital structure. Had it cut costs and increased its net income in this amount, by how much would the ROE have changed

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Answers (1)

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Kian Tucker · Answer 1

7.4%

Explanation:

As we know that

ROE = Profit margin * Total asset turnover * Equity multiplier

where,

Profit margin = (Net income : Sales) * 100

= ($10,000 : $200,000) * 100

= 5%

So, the ROE would be

= 5% * 1.60 * 1.85

= 14.8%

Now if the net income is increased by $5,000

So, the updated profit margin would be

= (Net income : Sales) * 100

= ($15,000 : $200,000) * 100

= 7.5%

And updated ROE would be

= 7.5% * 1.60 * 1.85

= 22.2%

So, the change in ROE would be

= 22.2% - 14.8%

= 7.4%