Korean Electronics 2017 Income Statement Sales Costs of goods sold EBIT Taxes (5
ID: 2808171 • Letter: K
Question
Korean Electronics
2017 Income Statement
Sales
Costs of goods sold
EBIT
Taxes (50%)
Net income
1,000,000
800,000
200,000
( )
( )
2017 Balance Sheet
Assets
Liabilities and Equity
Current assets
Net fixed assets
Total
(1,000,000)
(6,000,000)
(7,000,000)
Debt
Equity
Total
( )
( )
( )
1)If Profit Margin (PM) is 10 percent, i) what is the net income? If ROE is 5 percent, ii) what is the total equity? Use the net income that you figured out in the previous question.
2)If the firm has a debt-to-equity ratio of 2.5, what is the Total Debt ratio (TD/TA)?
3)The firm plans to reduce its equity multiplier (EM). Other things equal, what will happen to its return on equity (ROE)? Does it increase or decrease?
Korean Electronics
2017 Income Statement
Sales
Costs of goods sold
EBIT
Taxes (50%)
Net income
1,000,000
800,000
200,000
( )
( )
2017 Balance Sheet
Assets
Liabilities and Equity
Current assets
Net fixed assets
Total
(1,000,000)
(6,000,000)
(7,000,000)
Debt
Equity
Total
( )
( )
( )
Explanation / Answer
1. Profit margin of a company is its Net Income/sales
Profit margin = Net Income/ 1,000,000
Net Income = 1000000*10%
= $100000
i) Net Income of the company is $100,000
ii) Given : ROE = 5%.
ROE of a company is the ercentage return or net income per unit of shareholder's equity.
ROE = Net Income/Shareholder's Equity
5% = 100000/ Shareholder's equity
Shareholder's equity = 100000/0.05
= $2,000,000
Total Equity or shareholder's equity is $2,000,000
2) Given Debt / Equity = 2.5
Then, Debt = 2.5*Equity
Debt = 2.5*$2,000,000
= 5,000,000
Total Assets = 7,000,000 (given in the balance sheet)
Total Debt / Total Asset = 5000000 / 7000000
= 0.71
Total Debt to Total Asset is 0.71
3. Equity Multiplier = Total Assets / Shareholder's Equity
To reduce equity multiplier, the firm either needs to decrease its total assets or increase it shareholder's equity. If we increase the firm's shareholder's equity then the ROE (Net Income / Shareholder's Equity) will also decrease considering Net Income of the company is constant.
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