Which one of the following is NOT an advantage of using ROE as a goal? A....

Which one of the following is NOT an advantage of using ROE as a goal?

A. ROE is highly correlated with shareholder wealth maximisation.

B. ROE and the DuPont analysis allow management to break down the performance and identify areas of strengths and weaknesses.

C. ROE does not consider risk.

D. All of the above are advantages of using ROE as a goal.

Solutions

Expert Solution

c) ROE does not consider risk.

Small explanation:

ROE shows how the firm is able to manage shareholder’s fund in business to generate the profit which shows true picture of shareholders wealth. ROE is shown as percentage. It shows how much money company is able to generate from shareholder’s money, higher the ROE, Company is managing the fund very efficiently in its operations. So, goal of shareholder’s wealth maximization is useful in ROE.

Formula: Net Income/ shareholders equity.

DuPont analysis breaks down ROE in three different areas net profit, financial leverage and assets turnover, so it is useful to know strengths and weaknesses in each of this area. Which is also useful in improvement of ROE.

Not considering risk is not at all the advantage in ROE it cannot used as goal. Risk is always associated with returns. Firm should always try to achieve higher ROE with stable rate of risk, and the ROE of a firm must be higher comparing to other investment alternatives which carries low risk. So risk factor must not be ignored. ROE is always related to the associated risk level with the particular investment. So, “ROE does not consider risk” is not advantage of using as a goal.

jeff jeffy answered 1 year ago

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