New Doors Corp. has $375,000 of total assets, and it uses $187,500 of total shar
ID: 2383961 • Letter: N
Question
New Doors Corp. has $375,000 of total assets, and it uses $187,500 of total shareholder's equity capital. Its sales for the last year were $520,000, and its net income was $25,000. Stockholders recently voted in a new management team that has promised to lower costs and get the return on equity (ROE) up to 15.0%. What profit margin (PM) would the firm need in order to achieve the 15% ROE, holding everything else constant?
5.41%
8.11%
9.41%
10.71%
12.66%
1.5.41%
2.8.11%
3.9.41%
4.10.71%
5.12.66%
Explanation / Answer
Answer - 1. 5.41%
Explanation:
Return on Equity for the company = Net Income/Shareholder's Equity = 25000/187500 =13.33%
Profit Margin for the Company = Net Income / Sales = 25000/520000 = 4.81%
We are assuming that Shareholder's Equity and Total Sales remain unchanged, that is $187,500 and $520,000 respectively.
Now, to achieve an ROE of 15%, Net Income should be Shareholder's Equity * 15% = 187500 * 0.15 = $28125
Profit Margin for the company is Net Income is $28125 = Net Income / Sales = 28125/520000 = 5.41%