Mr. Agirich has provided the following information and ratios for the Aggie Farm

Question

Mr. Agirich has provided the following information and ratios for the Aggie Farms 20X0 operations:

         Average Total Assets    = $840,000

         Average Total Liabilities     = $395,000

         Net Farm Income before taxes = $74,800

         Interest Paid and accrued    = $26,000

         Income Taxes Paid = $9,000

Ra = Net Farm Income before tax + Interest/Average Farm Assets

               Assets=Debt + Equity

Based on this information, what is the projected Rate of Return on Equity after taxes, for Aggie Farms in 20X1? (Assume that the tax rate, t is 15% and the Rate of Return on Assets before taxes, Ra , will continue as reflected for 20X0 and that the future cost of debt, i, will be 10%. Use the equation presented in class to calculate the projected r. Use the information above to calculate Ra . Remember that Net Farm Income before taxes is from the Income statement and is after interest.

How much additional debt will the farm need to incur to achieve a = to 13.6?

890,000

395,000

495,000

400,000

None of the above

How much additional debt will the farm need to incur to achieve a Ra = to 13.6?

395,000

495,000

400,000

None of the above

Explanation / Answer

Solution:

TO compute the rate of return on equity we need to find out the total equity component from the total liability

Hence the "Income before taxes given = $74800

Less taxes                                       = 9000

Hence net income = 74800 - 9000 = $65800

Interest % given 10% and interest paid and accrued 26000

hence total debt value would be 26000 *100/10 = $260000

total liability = 395000

But total asset should always be equal to total asset

hence gievn asset = debt + equity

therefore Equity = 840000 - 260000

Equity = 580000

ROE = net income /Total equity

= 65800/580000

ROE = 11.34%

Ra = 74800+ 26000/840000

= 12% is Return on asset

Return on asset to achieve 13.6% the additional debt is none of the above option

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