Question

Return on equity will increase if the ___________.

Group of answer choices

profit margin decreases

return on assets increases

debt-equity ratio decreases

accounts receivable turnover increases

total asset turnover decreases

Answer 1

Ans = B) Return on assets increases.

- Return on equity = net income / average shareholder equity. It shows the profit distributed among the shareholders. An increase in Net income or decrease in equity will increase the return on equity , whereas decrease in net income (profit) or increase in equity will decrease the ROE.

B) Return on assets increase is correct answer.

- Return on assets = net income / total assets . It shows the profit earn by the total assets. higher the ROA means that assets of the firm have been utilized efficiently. As there is an increase in ROA it means that net income generated by the firm is higher which will reflect in Net income portion of ROE due which ROE also increases.

A) Profit margin decrease is incorrect as-

• Profit margin = (net income / net sales) x 100 .
• A decrease in profit margin hint that there is a decrease in net income due to which it will decline the ROE or there is increase in net sales which will not effect the ROE.

C) Debt- equity ratio decrease is an incorrect answer as-

• Debt-equity ratio = debt / equity.
• Decrease in debt-equity ratio shows that there is increase in equity or decline in debt.
• if there is increase in equity than our ROE will decrease.
• If there is decline in debt than there will be no effect on ROE.

D) account recivable turnover ratio increases is incorrect   answer as-

• Account recivable turnover ratio = Revenues / average account recivables.
• increase in revenues or decrease in account recivables will not determine the net income therefore we can't find any effect from this on ROE

E) Total assets turnover ratio decrease is incorret answer as -

• Total assets turnover ratio = Revenues / average total assets
• Decrease in total assets turnover ratio shows that there is increase in average total assets or decrease in net sales .
• increase or decrease in total assets will not effect the return on equity.
• decrease in net sales will again not determine the net income due which it will have no effect on ROE.