If anyone can answer this problem for me, i would be forever grateful to them: A
ID: 2663438 • Letter: I
Question
If anyone can answer this problem for me, i would be forever grateful to them:An analyst at the Herbert Company calculates the following ratios for Herbert as of the end of the fiscal year 2006:
Return on sales................ 6%
Asset turnover................. 1.5 times
Assets divided by owner's equity...... 1.3
a) What is Herbert's return on year-end equity?
b) If Herbert's return on sales fell to 5%, and its asset turnover remained unchanged, how much would its leverage have to increase to maintain the same ROE?
Explanation / Answer
a) What is Herbert's return on year-end equity? Return on sales = Net income X 100 Net sales Assets Turnover = Net Sales Average Total Assets Assets divided by owner’s equity = Average Total Assets Average Owner’s equity If we combine these three = Net income X 100 x Net Sales x Average Total Assets Net sales Average Total Assets Average Owner’s equity = 6 / 1.3 = 4.62% b) If Herbert's return on sales fell to 5%, and its asset turnover remained unchanged, how much would its leverage have to increase to maintain the same ROE? If the return on sales falls to 5% ROE = 5 / 1.3 = 3.85%