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Jordan Inc has the following balance sheet and income statement data: Cash $14,000 Accounts payable $42,000...

Jordan Inc has the following balance sheet and income statement data: Cash $14,000 Accounts payable $42,000 Receivables 70,000 Other current liabilities 28,000 Inventories 280,000 Total CL $70,000 Total CA $364,000 Long-term debt 140,000 Net fixed assets 126,000 Common equity 280,000 Total assets $490,000 Total liab. and equity $490,000 Sales $280,000 Net income 21,000 The new CFO thinks that inventories are excessive and could be lowered sufficiently to cause the current ratio to equal the industry average, 2.25, without affecting either sales or net income. Assuming that inventories are sold off and not replaced to get the current ratio to the target level, and that the funds generated are used to buy back common stock at book value, by how much would the ROE change? Do not round your intermediate calculations. a. 16.65% b. 20.07% c. 21.07% d. 22.13% e. 22.55%

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Expert Solution

Target Current ratio = 2.25
Current ratio = Current Assets / Current liabilties
2.25 = Current Assets / 70,000
So, Current Assets should be 157500
Accounts receivable 70000
Cash 14000
So, inventory should be = 157500 -70000-14000
73500
Excess inventory sold = 280000 - 73500
= 206500
By this amount equity buy back is made.
So, Remaining equity = 280000 - 206500
73500
Return on equity is Net income divided by equity
Now, ROE = 21000 / 73500 * 100
28.57143
Existing ROE = 21000 / 280000 * 100
7.5
So, Change in ROE due to target inventory level is =
28.57 - 7.5
21.07143 or 21.07%
So, Answer is (C ) 21.07%, ROE would change by 21.07%

jeff jeffy answered 1 year ago
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