Question

(Part 1)Which of the following IS NOT a way Management can control Return on Equity (ROE)?
a.Earnings produced out of each dollar of sales (Profit Margin)
b.How well a company is able to meet its current obligations (Current Ratio)
c.Sales generated from each dollar of assets employed (Asset Turnover)
d.Amount of equity used to finance the assets (Financial Leverage)

(Part 2)Which of the following ratios measure the amount of a company's operations that are financed from debt versus financed from equity?
a.Leverage ratios
b.Profitability ratios
c.Liquidity ratios
d.Operating ratios

Answer 1

Solution- Part 1)

Correct answer is "B" Option - How well a company is able to meet its current obligation (current ratio).

Because Return on Equity is to measure the profitability as compare to the equity of the business and the option B (current ratio) measures the business availabilty of current assets as compare the current liability and hence no relation with the return on Equity.

Option (A) is incorrect because it involves profit margin and which is a necessary component to evaluate the Return on Equity.

Option C is incorrect because asset turnover is involved in the formula of Return on assets and after getting the ROA value which is further multiplied with leverage and then we goy result of ROE (Retrun in equity) and hence assets each dollar impacts ROE.

Return on Equity = Return on assets × Leverage

D is incorrect because it involves the assets term and which is used the formula of ROA ( Return on assets ) mentioned above and hence impact Return on Equity (ROE).

Part 2 solution

The correct answer is Option "A" - Leverage ratios

Because leverage ratios helps determining that how much assets is financed with the use of borrowings or the amount of debt used to finance the assets and hence it's a correct answer.

B Option is incorrect because profitability ratio helps determining the amount of profit in relation to the business expenses occurred in the same period and hence not related to financing of assets via borrowings.

C is incorrect because liquidity ratio is used to determine the availability of current assets to meet the current obligation of within one year of time and hence it is incorrect because no relation with financing assets.

D is incorrect because operating ratios helps determine the expenses as compare to the revenue earned by the business and hence not a correct answer.