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DuPONT ANALYSIS Henderson's Hardware has an ROA of 11%, a 6% profit margin, and ...
Mar 24, 2024
DuPONT ANALYSIS Henderson's Hardware has an ROA of 11%, a 6% profit margin, and an ROE of 23%. What is its total assets turnover? What is its equity multiplier?
Solution by Steps
step 1
To find the total assets turnover, we use the formula: Total Assets Turnover=Profit MarginROA \text{Total Assets Turnover} = \frac{\text{Profit Margin}}{\text{ROA}}
step 2
Substituting the given values into the formula: Total Assets Turnover=0.060.11 \text{Total Assets Turnover} = \frac{0.06}{0.11}
step 3
Calculating the total assets turnover: Total Assets Turnover=0.5455 \text{Total Assets Turnover} = 0.5455
Answer
The total assets turnover is approximately 0.5455.
Key Concept
Total Assets Turnover Calculation
Explanation
Total assets turnover is calculated by dividing the profit margin by the return on assets (ROA).
Solution by Steps
step 1
To find the equity multiplier, we use the formula: Equity Multiplier=ROEROA \text{Equity Multiplier} = \frac{\text{ROE}}{\text{ROA}}
step 2
Substituting the given values into the formula: Equity Multiplier=0.230.11 \text{Equity Multiplier} = \frac{0.23}{0.11}
step 3
Calculating the equity multiplier: Equity Multiplier=2.0909 \text{Equity Multiplier} = 2.0909
Answer
The equity multiplier is approximately 2.0909.
Key Concept
Equity Multiplier Calculation
Explanation
The equity multiplier is calculated by dividing the return on equity (ROE) by the return on assets (ROA). It measures financial leverage.
4-12 Indicate the effects of the transactions listed in the following table on total current assets, current ratio, and net income. Use (+) to indicate an increase, ( - ) to indicate a decrease, and (0) to indicate either no effect or an indeterminate effect. Be prepared to state any necessary assumptions and assume an initial current ratio of more than 1.0. (Note: A good accounting background is necessary to answer some of these questions; if yours is not strong, answer the questions you can.) \begin{tabular}{cccc} & & Effect \\ Total Current & Current & \begin{tabular}{c} on Net \\ Income \end{tabular} \\ \hline \end{tabular} a. Cash is acquired through issuance of additional common stock. b. Merchandise is sold for cash. c. Federal income tax due for the previous year is paid. d. A fixed asset is sold for less than book value. e. A fixed asset is sold for more than book value. f. Merchandise is sold on credit. g. Payment is made to trade creditors for previous purchases. h. A cash dividend is declared and paid. i. Cash is obtained through short-term bank loans. j. Short-term notes receivable are sold at a discount. k. Marketable securities are sold below cost. I. Advances are made to employees. m. Current operating expenses are paid. \begin{tabular}{|c|c|c|c|c|} \hline & & \begin{tabular}{c} Total Current \\ Assets \end{tabular} & \begin{tabular}{c} Current \\ Ratio \\ \end{tabular} & \begin{tabular}{l} Effect \\ on Net \\ Income \end{tabular} \\ \hline n. & \begin{tabular}{l} Short-term promissory notes are issued to trade \\ creditors in exchange for past due accounts payable. \end{tabular} & & & \\ \hline o. & 10 -year notes are issued to pay off accounts payable. & - & & \\ \hline p. & A fully depreciated asset is retired. & & & \\ \hline q. & Accounts receivable are collected. & & & - \\ \hline r. & Equipment is purchased with short-term notes. & — & & \\ \hline s. & Merchandise is purchased on credit. & □\square & — & \\ \hline t. & The estimated taxes payable are increased. & □\square & ـ & - \\ \hline \end{tabular}
Solution by Steps
step 1
For transaction a (Cash is acquired through issuance of additional common stock): Issuing stock increases cash without affecting liabilities, thus increasing total current assets. The current ratio increases because assets increase while current liabilities remain unchanged. Net income is not affected by this transaction
step 2
For transaction b (Merchandise is sold for cash): Selling merchandise for cash increases cash and decreases inventory, leaving total current assets unchanged. The current ratio remains unchanged if the inventory is assumed to be part of current assets. Net income increases due to the profit from the sale
step 3
For transaction c (Federal income tax due for the previous year is paid): Paying taxes decreases cash, thus decreasing total current assets. The current ratio decreases because assets decrease while current liabilities remain unchanged. Net income is not affected by this transaction as the tax expense has already been recognized
step 4
For transaction d (A fixed asset is sold for less than book value): Selling a fixed asset affects non-current assets and does not change total current assets. The current ratio is unaffected. Net income decreases due to the loss on the sale
step 5
For transaction e (A fixed asset is sold for more than book value): Similar to transaction d, selling a fixed asset does not change total current assets. The current ratio is unaffected. Net income increases due to the gain on the sale
step 6
For transaction f (Merchandise is sold on credit): Selling on credit increases accounts receivable, thus increasing total current assets. The current ratio increases because assets increase while current liabilities remain unchanged. Net income increases due to the profit from the sale
step 7
For transaction g (Payment is made to trade creditors for previous purchases): Paying trade creditors decreases cash, thus decreasing total current assets. The current ratio decreases because assets decrease while current liabilities also decrease. Net income is not affected by this transaction
step 8
For transaction h (A cash dividend is declared and paid): Paying dividends decreases cash, thus decreasing total current assets. The current ratio decreases because assets decrease while current liabilities remain unchanged. Net income is not directly affected by dividend payments
step 9
For transaction i (Cash is obtained through short-term bank loans): Obtaining a loan increases cash, thus increasing total current assets. The current ratio increases because assets increase and current liabilities also increase. Net income is not affected by this transaction
step 10
For transaction j (Short-term notes receivable are sold at a discount): Selling notes receivable at a discount decreases total current assets. The current ratio decreases because assets decrease while current liabilities remain unchanged. Net income decreases due to the loss on the sale
step 11
For transaction k (Marketable securities are sold below cost): Selling securities below cost decreases total current assets. The current ratio decreases because assets decrease while current liabilities remain unchanged. Net income decreases due to the loss on the sale
step 12
For transaction l (Advances are made to employees): Giving advances to employees increases other receivables, thus increasing total current assets. The current ratio increases because assets increase while current liabilities remain unchanged. Net income is not affected by this transaction
step 13
For transaction m (Current operating expenses are paid): Paying operating expenses decreases cash, thus decreasing total current assets. The current ratio decreases because assets decrease while current liabilities remain unchanged. Net income decreases due to the expense recognition
step 14
For transaction n (Short-term promissory notes are issued to trade creditors in exchange for past due accounts payable): Issuing promissory notes in exchange for accounts payable does not change total current assets. The current ratio is unaffected. Net income is not affected by this transaction
step 15
For transaction o (10-year notes are issued to pay off accounts payable): Issuing long-term debt to pay off current liabilities decreases current liabilities, potentially increasing the current ratio if total current assets remain unchanged. Net income is not affected by this transaction
step 16
For transaction p (A fully depreciated asset is retired): Retiring a fully depreciated asset does not affect total current assets or the current ratio. Net income is not affected by this transaction
step 17
For transaction q (Accounts receivable are collected): Collecting accounts receivable increases cash and decreases accounts receivable, leaving total current assets unchanged. The current ratio remains unchanged. Net income is not affected by this transaction
step 18
For transaction r (Equipment is purchased with short-term notes): Purchasing equipment increases non-current assets and increases current liabilities, not affecting total current assets. The current ratio decreases because liabilities increase. Net income is not affected by this transaction
step 19
For transaction s (Merchandise is purchased on credit): Purchasing merchandise on credit increases inventory and increases accounts payable, leaving total current assets unchanged. The current ratio decreases because liabilities increase. Net income is not affected by this transaction
step 20
For transaction t (The estimated taxes payable are increased): Increasing estimated taxes payable does not affect total current assets. The current ratio decreases because liabilities increase. Net income decreases due to the expense recognition
Answer
The effects on total current assets, current ratio, and net income for each transaction are as follows: a. +, +, 0 b. 0, 0, + c. -, -, 0 d. 0, 0, - e. 0, 0, + f. +, +, + g. -, -, 0 h. -, -, 0 i. +, +, 0 j. -, -, - k. -, -, - l. +, +, 0 m. -, -, - n. 0, 0, 0 o. 0, +, 0 p. 0, 0, 0 q. 0, 0, 0 r. 0, -, 0 s. 0, -, 0 t. 0, -, -
Key Concept
Understanding the impact of various transactions on total current assets, current ratio, and net income is crucial in financial analysis.
Explanation
Each transaction affects the financial statements differently, and it's important to consider the nature of the transaction to determine its impact on total current assets, current ratio, and net income.
4-3 DuPONT ANALYSIS Henderson's Hardware has an ROA of 11%11 \%, a 6%6 \% profit margin, and an ROE of 23%23 \%. What is its total assets turnover? What is its equity multiplier? 4-4 MARKET/BOOK AND EV/EBITDA RATIOS Edelman Engines has $17\$ 17 billion in total assetsof which cash and equivalents total $100\$ 100 million. Its balance sheet shows $1.7\$ 1.7 billion in current liabilities-of which the notes payable balance totals $1\$ 1 billion. The firm also has $10.2\$ 10.2 billion in long-term debt and $5.1\$ 5.1 billion in common equity. It has 300 million shares of common stock outstanding, and its stock price is $20\$ 20 per share. The firm's EBITDA totals $1.368\$ 1.368 billion. Assume the firm's debt is priced at par, so the market value of its debt equals its book value. What are Edelman's market/book and its EV/EBITDA ratios? 4-5 PRICE/EARNINGS RATIO A company has an EPS of $2.40\$ 2.40, a book value per share of $21.84\$ 21.84, and a market/book ratio of 2.7×2.7 \times. What is its P/E ratio? 4-6 DuPONT AND ROE A firm has a profit margin of 3%3 \% and an equity multiplier of 1.9. Its sales are $150\$ 150 million, and it has total assets of $60\$ 60 million. What is its ROE? 4-7 ROE AND ROIC Baker Industries's net income is $24,000\$ 24,000, its interest expense is $5,000\$ 5,000, and its tax rate is 25%25 \%. Its notes payable equals $27,000\$ 27,000, long-term debt equals $75,000\$ 75,000, and common equity equals $250,000\$ 250,000. The firm finances with only debt and common equity, so it has no preferred stock. What are the firm's ROE and ROIC? 4-8 DuPONT AND NET INCOME Precious Metal Mining has $17\$ 17 million in sales, its ROE is 17%17 \%, and its total assets turnover is 3.2×3.2 \times. Common equity on the firm's balance sheet is 50%50 \% of its total assets. What is its net income?
Solution by Steps
step 1
To calculate the total assets turnover, we use the DuPont identity which relates the Return on Assets (ROA) to the profit margin and total assets turnover. The formula is: ROA=Profit Margin×Total Assets Turnover ROA = \text{Profit Margin} \times \text{Total Assets Turnover} Given that ROA is 11%11\% and the profit margin is 6%6\%, we can rearrange the formula to solve for total assets turnover: Total Assets Turnover=ROAProfit Margin \text{Total Assets Turnover} = \frac{ROA}{\text{Profit Margin}}
step 2
Plugging in the given values: Total Assets Turnover=0.110.06 \text{Total Assets Turnover} = \frac{0.11}{0.06}
step 3
Calculating the total assets turnover: Total Assets Turnover=1.8333... \text{Total Assets Turnover} = 1.8333...
step 4
To find the equity multiplier, we use another part of the DuPont identity which relates the Return on Equity (ROE) to ROA and the equity multiplier. The formula is: ROE=ROA×Equity Multiplier ROE = ROA \times \text{Equity Multiplier} Given that ROE is 23%23\% and ROA is 11%11\%, we can rearrange the formula to solve for the equity multiplier: Equity Multiplier=ROEROA \text{Equity Multiplier} = \frac{ROE}{ROA}
step 5
Plugging in the given values: Equity Multiplier=0.230.11 \text{Equity Multiplier} = \frac{0.23}{0.11}
step 6
Calculating the equity multiplier: Equity Multiplier=2.0909... \text{Equity Multiplier} = 2.0909...
Answer
The total assets turnover is approximately 1.83 times, and the equity multiplier is approximately 2.09.
Key Concept
DuPont identity in financial ratio analysis
Explanation
The DuPont identity is used to decompose ROA and ROE into their constituent parts, allowing for the calculation of total assets turnover and equity multiplier.
---
Solution by Steps
step 1
To calculate the market/book ratio, we first need to determine the market value of equity, which is the stock price multiplied by the number of shares outstanding. The formula is: Market Value of Equity=Stock Price×Shares Outstanding \text{Market Value of Equity} = \text{Stock Price} \times \text{Shares Outstanding}
step 2
Plugging in the given values: Market Value of Equity=$20×300 million \text{Market Value of Equity} = \$20 \times 300\text{ million}
step 3
Calculating the market value of equity: Market Value of Equity=$6000 million \text{Market Value of Equity} = \$6000\text{ million}
step 4
The book value of equity is given as 5.1billion.Themarket/bookratioisthemarketvalueofequitydividedbythebookvalueofequity:5.1 billion. The market/book ratio is the market value of equity divided by the book value of equity: Market/Book Ratio=Market Value of EquityBook Value of Equity \text{Market/Book Ratio} = \frac{\text{Market Value of Equity}}{\text{Book Value of Equity}} $
step 5
Calculating the market/book ratio: Market/Book Ratio=60005100 \text{Market/Book Ratio} = \frac{6000}{5100}
step 6
The market/book ratio is: Market/Book Ratio=1.1765 \text{Market/Book Ratio} = 1.1765
step 7
To calculate the EV/EBITDA ratio, we first need to determine the Enterprise Value (EV), which is the sum of the market value of equity and the book value of debt minus cash and equivalents. The formula is: EV=Market Value of Equity+Total Debt−Cash and Equivalents EV = \text{Market Value of Equity} + \text{Total Debt} - \text{Cash and Equivalents}
step 8
Plugging in the given values: EV=6000+(10200−100) EV = 6000 + (10200 - 100)
step 9
Calculating the enterprise value: EV=16100 million EV = 16100\text{ million}
step 10
The EV/EBITDA ratio is the enterprise value divided by EBITDA: EV/EBITDA Ratio=EVEBITDA \text{EV/EBITDA Ratio} = \frac{EV}{EBITDA}
step 11
Plugging in the given values: EV/EBITDA Ratio=161001368 \text{EV/EBITDA Ratio} = \frac{16100}{1368}
step 12
Calculating the EV/EBITDA ratio: EV/EBITDA Ratio=11.7763 \text{EV/EBITDA Ratio} = 11.7763
Answer
The market/book ratio is approximately 1.18, and the EV/EBITDA ratio is approximately 11.78.
Key Concept
Market/book and EV/EBITDA ratios in financial analysis
Explanation
The market/book ratio compares the market value of a company's equity to its book value, while the EV/EBITDA ratio compares the company's enterprise value to its earnings before interest, taxes, depreciation, and amortization.
---
Solution by Steps
step 1
To calculate the P/E ratio, we need to multiply the market/book ratio by the book value per share. The formula is: P/E Ratio=Market/Book Ratio×Book Value per Share \text{P/E Ratio} = \text{Market/Book Ratio} \times \text{Book Value per Share}
step 2
Plugging in the given values: P/E Ratio=2.7×$21.84 \text{P/E Ratio} = 2.7 \times \$21.84
step 3
Calculating the P/E ratio: P/E Ratio=58.968 \text{P/E Ratio} = 58.968
step 4
Since the P/E ratio is typically expressed in terms of price per 1ofearnings,wedividetheP/EratiobytheEPS:1 of earnings, we divide the P/E ratio by the EPS: P/E Ratio=58.9682.40 \text{P/E Ratio} = \frac{58.968}{2.40} $
step 5
Calculating the final P/E ratio: P/E Ratio=24.57 \text{P/E Ratio} = 24.57
Answer
The P/E ratio is approximately 24.57.
Key Concept
Price/Earnings (P/E) ratio calculation
Explanation
The P/E ratio is calculated by multiplying the market/book ratio by the book value per share and then dividing by the earnings per share (EPS).
---
Solution by Steps
step 1
To calculate the Return on Equity (ROE), we use the DuPont identity which relates ROE to the profit margin, total assets turnover, and equity multiplier. The formula is: ROE=Profit Margin×Total Assets Turnover×Equity Multiplier ROE = \text{Profit Margin} \times \text{Total Assets Turnover} \times \text{Equity Multiplier} Given the profit margin is 3%3\% and the equity multiplier is 1.9, we need to calculate the total assets turnover, which is sales divided by total assets
step 2
Calculating the total assets turnover: Total Assets Turnover=$150 million$60 million \text{Total Assets Turnover} = \frac{\$150\text{ million}}{\$60\text{ million}}
step 3
The total assets turnover is: Total Assets Turnover=2.5 \text{Total Assets Turnover} = 2.5
step 4
Plugging in the values into the ROE formula: ROE=0.03×2.5×1.9 ROE = 0.03 \times 2.5 \times 1.9
step 5
Calculating the ROE: ROE=0.1425 ROE = 0.1425
step 6
Converting the ROE to a percentage: ROE=14.25% ROE = 14.25\%
Answer
The ROE is 14.25%.
Key Concept
DuPont identity in calculating ROE
Explanation
ROE is calculated by multiplying the profit margin, total assets turnover, and equity multiplier. The total assets turnover is the ratio of sales to total assets.
---
Solution by Steps
step 1
To calculate the Return on Equity (ROE), we use the formula: ROE=Net IncomeCommon Equity ROE = \frac{\text{Net Income}}{\text{Common Equity}}
step 2
Plugging in the given values: ROE=$24,000$250,000 ROE = \frac{\$24,000}{\$250,000}
step 3
Calculating the ROE: ROE=0.096 ROE = 0.096
step 4
Converting the ROE to a percentage: ROE=9.6% ROE = 9.6\%
step 5
To calculate the Return on Invested Capital (ROIC), we first need to adjust the net income for taxes on the interest expense. The formula is: Adjusted Net Income=Net Income+(1−Tax Rate)×Interest Expense \text{Adjusted Net Income} = \text{Net Income} + (1 - \text{Tax Rate}) \times \text{Interest Expense}
step 6
Plugging in the given values: Adjusted Net Income=$24,000+(1−0.25)×$5,000 \text{Adjusted Net Income} = \$24,000 + (1 - 0.25) \times \$5,000
step 7
Calculating the adjusted net income: Adjusted Net Income=$24,000+$3,750 \text{Adjusted Net Income} = \$24,000 + \$3,750
step 8
The adjusted net income is: Adjusted Net Income=$27,750 \text{Adjusted Net Income} = \$27,750
step 9
The invested capital is the sum of notes payable, long-term debt, and common equity. The formula for ROIC is: ROIC=Adjusted Net IncomeInvested Capital ROIC = \frac{\text{Adjusted Net Income}}{\text{Invested Capital}}
step 10
Calculating the invested capital: Invested Capital=$27,000+$75,000+$250,000 \text{Invested Capital} = \$27,000 + \$75,000 + \$250,000
step 11
The invested capital is: Invested Capital=$352,000 \text{Invested Capital} = \$352,000
step 12
Plugging in the values into the ROIC formula: ROIC=$27,750$352,000 ROIC = \frac{\$27,750}{\$352,000}
step 13
Calculating the ROIC: ROIC=0.0788 ROIC = 0.0788
step 14
Converting the ROIC to a percentage: ROIC=7.88% ROIC = 7.88\%
Answer
The ROE is 9.6%, and the ROIC is 7.88%.
Key Concept
Calculating ROE and ROIC
Explanation
ROE is calculated using net income and common equity, while ROIC is calculated using adjusted net income (which includes after-tax interest expense) and invested capital (notes payable, long-term debt, and common equity).
---
Solution by Steps
step 1
To calculate the net income, we use the DuPont identity which relates ROE to the equity multiplier and total assets turnover. The formula is: ROE=Profit Margin×Total Assets Turnover×Equity Multiplier ROE = \text{Profit Margin} \times \text{Total Assets Turnover} \times \text{Equity Multiplier} Given that ROE is 17%17\%, total assets turnover is 3.2×3.2 \times, and common equity is 50%50\% of total assets, we can find the profit margin and then calculate net income
step 2
Since common equity is 50%50\% of total assets, the equity multiplier, which is total assets divided by common equity, is: Equity Multiplier=10.5 \text{Equity Multiplier} = \frac{1}{0.5}
step 3
The equity multiplier is: Equity Multiplier=2 \text{Equity Multiplier} = 2
step 4
Rearranging the DuPont identity to solve for profit margin: Profit Margin=ROETotal Assets Turnover×Equity Multiplier \text{Profit Margin} = \frac{ROE}{\text{Total Assets Turnover} \times \text{Equity Multiplier}}
step 5
Plugging in the given values: Profit Margin=0.173.2×2 \text{Profit Margin} = \frac{0.17}{3.2 \times 2}
step 6
Calculating the profit margin: Profit Margin=0.0265625 \text{Profit Margin} = 0.0265625
step 7
The profit margin is: Profit Margin=2.65625% \text{Profit Margin} = 2.65625\%
step 8
Net income is calculated by multiplying the profit margin by sales: Net Income=Profit Margin×Sales \text{Net Income} = \text{Profit Margin} \times \text{Sales}
step 9
Plugging in the given values: Net Income=0.0265625×$17 million \text{Net Income} = 0.0265625 \times \$17\text{ million}
step 10
Calculating the net income: Net Income=$451,562.50 \text{Net Income} = \$451,562.50
Answer
The net income is \$451,562.50.
Key Concept
DuPont identity in calculating net income
Explanation
Net income is calculated by using the DuPont identity to find the profit margin, which is then multiplied by sales. The equity multiplier is derived from the proportion of common equity to total assets.
4-24 DuPONT ANALYSIS A firm has been experiencing low profitability in recent years. Perform an analysis of the firm's financial position using the DuPont equation. The firm has no lease payments but has a $2\$ 2 million sinking fund payment on its debt. The most recent industry average ratios and the firm's financial statements are as follows: \begin{tabular}{lclr} \multicolumn{4}{c}{ Industry Average Ratios } \\ Current ratio & 3×3 \times & Fixed assets turnover & 6×6 \times \\ Debt-to-capital ratio & 20%20 \% & Total assets turnover & 3×3 \times \\ Times interest earned & 7×7 \times & Profit margin & 3.75%3.75 \% \\ EBITDA coverage & 9×9 \times & Return on total assets & 11.25%11.25 \% \\ Inventory turnover & 8×8 \times & Return on common equity & 16.10%16.10 \% \\ Days sales outstanding" & 24 days & Return on invested capital & 14.40%14.40 \% \end{tabular} 2{ }^{2} Calculation is based on a 365 -day year. Balance Sheet as of December 31, 2021 (millions of dollars) \begin{tabular}{lrlr} Cash and equivalents & $78\$ 78 & Accounts payable & $45\$ 45 \\ Accounts receivable & 66 & Other current liabilities & 11 \\ Inventories & 159 & Notes payable & 29 \\ Total current assets & $303\$ 303 & Total current liabilities & $85\$ 85 \\ & & Long-term debt & 50$135\frac{50}{\$ 135} \\ & & Total liabilities & 114 \\ Gross fixed assets & 225 & Common stock & 201‾\underline{201} \\ Less depreciation & 78‾\underline{78} & Retained earnings \\ Net fixed assets & $147‾\underline{\$ 147} & Total stockholders' equity & $315‾\underline{\$ 315} \\ Total assets & $450‾\underline{\$ 450} & Total liabilities and equity & $450‾\underline{\$ 450} \end{tabular} Income Statement for Year Ended December 31, 2021 (millions of dollars) Net sales \begin{tabular}{r} $795.00\$ 795.00 \\ 660.00 \\ \hline$135.00\$ 135.00 \\ 73.50 \\ \hline \end{tabular} Selling expenses Income Statement for Year Ended December 31, 2021 (millions of dollars) EBITDA $61.50\$ 61.50 Depreciation expense Earnings before interest and taxes (EBIT) \begin{tabular}{r} 12.00 \\ \hline$49.50\$ 49.50 \\ 4.50 \\ \hline$45.00\$ 45.00 \\ 11.25 \\ \hline$33.75\$ 33.75 \\ \hline \end{tabular} a. Calculate the ratios you think would be useful in this analysis. b. Construct a DuPont equation, and compare the company's ratios to the industry average ratios. c. Do the balance sheet accounts or the income statement figures seem to be primarily responsible for the low profits? d. Which specific accounts seem to be most out of line relative to other firms in the industry? e. If the firm had a pronounced seasonal sales pattern or if it grew rapidly during the year, how might that affect the validity of your ratio analysis? How might you correct for such potential problems?
Solution by Steps
step 1
Calculate the Net Profit Margin by dividing Net Income by Net Sales: Net Profit Margin=Net IncomeNet Sales \text{Net Profit Margin} = \frac{\text{Net Income}}{\text{Net Sales}}
step 2
Using the income statement, Net Income is 33.75millionandNetSalesare33.75 million and Net Sales are 795 million: Net Profit Margin=33.75795 \text{Net Profit Margin} = \frac{33.75}{795}
step 3
Perform the division to find the Net Profit Margin: Net Profit Margin=0.0424 \text{Net Profit Margin} = 0.0424 or 4.24%
Answer
Net Profit Margin is 4.24%
Key Concept
Net Profit Margin measures how much net income is generated as a percentage of revenues.
Explanation
The Net Profit Margin is calculated by dividing the Net Income by Net Sales and converting the result into a percentage.
step 1
Calculate the Total Asset Turnover by dividing Net Sales by Total Assets: Total Asset Turnover=Net SalesTotal Assets \text{Total Asset Turnover} = \frac{\text{Net Sales}}{\text{Total Assets}}
step 2
Using the balance sheet, Total Assets are 450million:450 million: Total Asset Turnover=795450 \text{Total Asset Turnover} = \frac{795}{450} $
step 3
Perform the division to find the Total Asset Turnover: Total Asset Turnover=1.7667 \text{Total Asset Turnover} = 1.7667 or approximately 1.77 times
Answer
Total Asset Turnover is approximately 1.77 times
Key Concept
Total Asset Turnover measures the efficiency of a company's use of its assets in generating sales revenue.
Explanation
The Total Asset Turnover is calculated by dividing Net Sales by Total Assets.
step 1
Calculate the Equity Multiplier by dividing Total Assets by Total Stockholders' Equity: Equity Multiplier=Total AssetsTotal Stockholders’ Equity \text{Equity Multiplier} = \frac{\text{Total Assets}}{\text{Total Stockholders' Equity}}
step 2
Using the balance sheet, Total Stockholders' Equity is 315million:315 million: Equity Multiplier=450315 \text{Equity Multiplier} = \frac{450}{315} $
step 3
Perform the division to find the Equity Multiplier: Equity Multiplier=1.4286 \text{Equity Multiplier} = 1.4286 or approximately 1.43 times
Answer
Equity Multiplier is approximately 1.43 times
Key Concept
Equity Multiplier indicates how much of a company's assets are financed by stockholders' equity.
Explanation
The Equity Multiplier is calculated by dividing Total Assets by Total Stockholders' Equity.
step 1
Construct the DuPont equation: ROE=Net Profit Margin×Total Asset Turnover×Equity Multiplier \text{ROE} = \text{Net Profit Margin} \times \text{Total Asset Turnover} \times \text{Equity Multiplier}
step 2
Insert the calculated ratios into the DuPont equation: ROE=0.0424×1.7667×1.4286 \text{ROE} = 0.0424 \times 1.7667 \times 1.4286
step 3
Calculate the Return on Equity (ROE) using the DuPont equation: ROE=0.0424×1.7667×1.4286=0.1068 \text{ROE} = 0.0424 \times 1.7667 \times 1.4286 = 0.1068 or 10.68%
Answer
ROE is 10.68%
Key Concept
The DuPont equation breaks down ROE into three components: Net Profit Margin, Total Asset Turnover, and Equity Multiplier.
Explanation
The DuPont equation provides insight into how a company's profitability, asset efficiency, and financial leverage contribute to its Return on Equity.
step 1
Compare the company's ratios to industry averages:
step 2
The company's Net Profit Margin is 4.24% compared to the industry average of 3.75%
step 3
The company's Total Asset Turnover is 1.77 times compared to the industry average of 3 times
step 4
The company's Equity Multiplier is 1.43 times compared to the industry average, which can be derived from the Debt-to-Capital ratio (not directly given)
step 5
The company's ROE is 10.68% compared to the industry average of 16.10%
Answer
The company's Net Profit Margin is higher, but its Total Asset Turnover and ROE are lower than the industry averages.
Key Concept
Comparing company ratios to industry averages helps identify areas where the company may be underperforming.
Explanation
The comparison shows that while the company is more profitable in terms of margin, it is less efficient in using its assets to generate sales, which leads to a lower ROE compared to the industry.
step 1
Analyze the balance sheet and income statement to identify the cause of low profits:
step 2
The higher Net Profit Margin suggests income statement figures are not the primary issue
step 3
The lower Total Asset Turnover suggests that the company may have too much invested in assets for the level of sales it is generating
Answer
The balance sheet accounts, specifically the amount of total assets, seem to be primarily responsible for the low profits.
Key Concept
The balance sheet reflects the company's investment in assets, which impacts its ability to generate sales efficiently.
Explanation
A lower Total Asset Turnover ratio indicates that the company's assets are not being used as effectively as those of other firms in the industry to generate sales, which can lead to lower profitability.
step 1
Identify specific accounts that seem most out of line:
step 2
Compare the company's ratios to industry averages for clues
step 3
The Total Asset Turnover is significantly lower than the industry average, suggesting that the company may have excess assets or inefficient use of assets
step 4
Inventory turnover and Days Sales Outstanding (DSO) can be calculated and compared to industry averages to identify specific problem areas
Answer
Specific accounts that may be most out of line include inventory and accounts receivable, as suggested by the lower Total Asset Turnover.
Key Concept
Specific accounts that deviate significantly from industry averages may indicate inefficiencies or mismanagement.
Explanation
By analyzing ratios such as Inventory Turnover and DSO, we can pinpoint which balance sheet accounts may be contributing to the company's lower performance compared to the industry.
step 1
Consider the impact of seasonal sales or rapid growth on ratio analysis:
step 2
Seasonal sales can skew ratios if not annualized or if the timing of the financial statements does not align with the sales cycle
step 3
Rapid growth can affect ratios by changing the scale of the balance sheet and income statement figures throughout the year
step 4
To correct for seasonal sales, use average balances for the year or perform the analysis for each season separately
step 5
To correct for rapid growth, consider using more frequent financial statements (e.g., quarterly) to capture the changes over the year
Answer
Seasonal sales or rapid growth can affect the validity of ratio analysis, and adjustments such as using average balances or more frequent financial statements may be necessary.
Key Concept
Seasonal sales and rapid growth can distort financial ratios, requiring adjustments for accurate analysis.
Explanation
Adjusting for seasonality and growth ensures that the ratios reflect the company's performance more accurately and allows for better comparison with industry averages.
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