Question

Selected financial data from the June 30 year-end statements of Safford Company are given below:

Total assets	$	5,700,000
Long-term debt (11% interest rate)		$730,000
Total stockholders’ equity	$	2,400,000
Interest paid on long-term debt		$80,300
Net income		$470,000

Total assets at the beginning of the year were $5,500,000; total stockholders’ equity was $2,200,000. The company’s tax rate is 40%.

Required:

1.	Compute the return on total assets. (Round your percentage answer to 1 decimal place (i.e., 0.1234 should be entered as 12.3).)

      

2.	Compute the return on equity. (Round your percentage answer to 1 decimal place (i.e., 0.1234 should be entered as 12.3).)

       

3.	Is financial leverage positive or negative?
	Positive Negative

Answer 1

1)

return on total assets = Net income average total assets

average total assets =  ( $5,500,000 + $ 5,700,000 ) 2

average total assets = $ 5,600,000

Return on total assets = $470,000   $ 5,600,000

Return on total assets = 8.39%

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2) Return on equity = Net income Average stockholder's equity

Average stockholder's equity = ( $ 2,400,000 + $2,200,000 ) 2

Average stockholder's equity = $ 2,300,000

Return on equity = $470,000 $ 2,300,000

Return on equity = 20.43%

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3) financial leverage = long term debt total funds employed

total funds employed = debt + equity

total funds employed =  $730,000 +  $ 2,300,000

total funds employed = $ 3,030,000

financial leverage =   $730,000   $ 3,030,000

financial leverage = 0.24

The financial leverage is positive