Question

The following figures are taken from Ethaniel Company's financial statements for the calendar years 200B and 200A:

	200B	200A
Total Assets	$900,000	$750,000
Long-term debt (12% interest rate)	125,000
8% Preferred stocks, $100 par value	225,000	225,000
Total Stockholders' equity	600,000	550,000
Net Income (after tax of 30%)	70,000	550,000

What is the return on average total assets?

Answer 1

Step 1: Compute for the interest expense.

Interest Expense = 125,000 x 12%

                           = 15,000

The interest expense will be added back to net income so that the adjusted income would show what income would have been if assets were acquired solely by selling shares of stocks. 

 

Step 2: Compute for the Average Total Assets.

Average Total Assets = (900,000 + 750,000)/2

                                  = 825,000

 

Step 3: Compute for the Return on Average Total Assets (ROATA). 

ROATA = Net Income + [Interest Expense x (1 - Tax rate)]/Average Total Assets

ROATA= 70,000 + [15,000 x (1 - .30)]/825,000

ROATA= 80,500/825,000

ROATA = 9.8%

 

The return on average total assets is 9.8%