Question

4.9

eBook Problem Walk-Through Broward Manufacturing recently reported the following information: Net income $402,000 ROA 10% Interest expense $120,600 Accounts payable and accruals $1,050,000 Broward's tax rate is 25%. Broward finances with only debt and common equity, so it has no preferred stock. 40% of its total invested capital is debt, and 60% of its total invested capital is common equity. Calculate its basic earning power (BEP), its return on equity (ROE), and its return on invested capital (ROIC). Do not round intermediate calculations. Round your answers to two decimal places. BEP:   % ROE:   % ROIC:   %

Answer 1

Basic Earning Power (BEP) Ratio

Earnings Before Tax(EBT) = Net Income / (1 – Tax Rate)

= $402,000 / (1 – 0.25)

= $402,000 / 0.75

= $536,000

Earnings Before Interest & Tax (EBIT) = EBT + Interest Expenses

= $536,000 + $120,600

= $656,600

Return on Asset (ROA) = Net Income / Total Assets

0.10 = $402,000 / Total Assets

Total Assets = $402,000 / 0.10

Total Assets = $4,020,000

Therefore, the Basic Earning Power (BEP) = [Earnings Before Interest & Tax (EBIT) / Total Assets] x 100

= [$656,600 / $4,020,000] x 100

= 16.33%

“Basic Earning Power (BEP) = 16.33%”

Return on Equity (ROE)

Total Invested Capital = Total Assets – Current Liabilities

= $4,020,000 - $1,050,000

= $2,970,000

Equity = 60% of the Total Invested Capital

= $2,970,000 x 60%

= $1,782,000

Therefore, the Return on Equity (ROE) = (Net Income / Total Equity) x

= [$402,000 / $1,782,000] x 100

= 22.56%

“Return on Equity (ROE) = 22.56%”

Return on Invested Capital (ROIC)

Return on Invested Capital (ROIC) = [{EBIT(1 – Tax Rate)} / Total Invested Capital] x 100

= [{$656,600(1 – 0.25) / $2,970,000] x 100

= [($656,600 x 0.75) / $2,970,000] x 100

= [$492,450 / $2,970,000] x 100

= 16.58%

“Return on Invested Capital (ROIC) = 16.58%”