The annual sales for Salco, Inc. were $ 4.56$4.56 million last year. The firm\'s

ID: 2740674 • Letter: T

Question

The annual sales for Salco, Inc. were $ 4.56$4.56 million last year. The firm's end-of-year balance sheet & Salco's income statement for the year was as follows:

a. Calculate Salco's total asset turnover, operating profit margin, and operating return on assets.

b. Salco plans to renovate one of its plants and the renovation will require an added investment in plant and equipment of $ 1.03$1.03 million. The firm will maintain its present debt ratio of 5050 percent when financing the new investment and expects sales to remain constant. The operating profit margin will rise to 13.713.7 percent. What will be the new operating return on assets ratio (i.e., net operating incomedivided by÷total assets) for Salco after the plant's renovation?

c. Given that the plant renovation in part (b) occurs and Salco's interest expense rises by $ 52 comma 000$52,000 per year, what will be the return earned on the common stockholders' investment? Compare this rate of return with that earned before the renovation. Based on this comparison, did the renovation have a favorable effect on the profitability of the firm?

Current assets $507,000 Liabilities $995,500 Net fixed assets 1484000 Owners' equity 995500 Total Assets $1,991,000 Total $1,991,000 Sales $4,560,000 Less: Cost of goods sold (3,494,000) Gross profit $1,066,000 Less: Operating expenses (507,000) Net operating income $559,000 Less: Interest expense (106,000) Earnings before taxes $453,000 Less: Taxes (35%) (158,550)

Explanation / Answer

Calculate the total asset turnover ratio:

= Net sales / Average total assets

= $4,560,000 / $1,991,000

= 2.29

Operating profit margin:

= Operating income / Net sales

= $559,000 / $4,560,000

=0.123

Operating return on assets:

= EBIT / Average total assets

= $559,000 / $1,991,000

= 0.281

New operating return on assets ratio:

= EBIT / Average total assets

= ($559,000 * 1.13713) / ($1,991,000 + 1,030,000)

= $635,655.7 / $3,021,000

=0.2104

Details

Amount

Operating income

$ 635,656

Less: Interest ($106,000 + $52,000)

$ 158,000

EBT

$ 477,656

Less: Taxes @ 35%

$ 167,179

EAT

$ 310,476

Earnings after tax increased from $294,450 to $310,476.