Question

(Financial statement analysis) The annual sales for Salco, Inc. were $4.52 million last year. The firm's end-of-year balance sheet was as follows:

Current assets $503,000 Liabilities $994,000

Net Fixed Assets 1,485,000 Owners Equity 994,000

Total Assets: $1,988,000 Total : $1,988,000

Salco's income statement for the year was as follows:

Sales $4,520,000

Less: Cost of goods sold (3,503,000)

Gross profit $1,017,000

Less: Operating expenses (505,000)

Net operating income $512,000

Less: Interest expense (97,000)

Earnings before taxes $415,000

Less: Taxes (35%) (145,250)

Net income $269,750

Please Answer The Following:

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 $1.05 Million. The firm will maintain its present debt ratio of 50% when financing the new investment and expects sales to remain constant. The operating profit margin will rise to 13.3%. What will be the new operating return on assets ratio (i.e., net operating income÷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 $52,000 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?

Answer 1

A)

Total Asset Turnover = sales / Total Assets

= 4,520,000 / 1,988,000

= 2.27

operating profit​ margin = Operating profit / sales

Operating profit(Net operating income) = 512,000

operating profit​ margin =  512,000 /  4,520,000

= 0.1133

= 11.33%

operating return on assets = Net operating income / Total Assets

operating return on assets =  512,000 / 1,988,000

= 0.2575

= 25.75%

B)

Total assets after new investment = 1,988,000 + 1,050,000

= 3,038,000

operating profit margin = 13.3%.

sales = 4,520,000

Net operating Income(4,520,000*13.3%.) = 601,160

new operating return on assets ratio​ = net operating income / total ​assets

= 601,160 / 3,038,000

= 0.1979

= 19.79%

C)

Net operating Income = 601,160

Interest expense (97,000+52,000) =(149,000)

Earnings before taxes = 452,160

Taxes​(35%​) = (158,256)

Net income = 293,904

Owners Equity(before investment) = 994,000

additional investment to owner equity (to maintain debt ratio of 50%) = 1,050,000 / 2 = 525,000

Total Owners Equity = 994,000+ 525,000 = 1,519,000

return earned on the common​ stockholders' investment = 293,904 / 1,519,000

= 0.1935

= 19.35%