Question

Computing Return on Equity and Return on Assets

The following table contains financial statment information for Walmart Stores Inc.

$ millions	Total Assets	Net Income	Sales	Equity
2015	199,581	14,694	478,614	80,546
2014	203,490	16,363	482,229	81,394
2013	204,751	16,022	473,076	76,255

Questions

A. Compute the return on euqity (ROE) for 2014 and 2015. What trend, if any, is evident? How does Wal-Mart's ROE compare with approximately 18.9% ROE for companies in the Dow Jones INdustrial average of 2015?

B. Compute the return on assets for 2014 and 2015. What trends, if any, are evident? How does Wal-Mart's ROA compare with the approximate 7.1% median ROA for companies in the DOW Jones Industrial average for 2015?

C. What factors might allow a company like Walmart to reap above-average returns?

Answer 1

A. Return on Equity = Net Income / Average Equity

2014 : $ 16,363 / $ 78,825 * 100 = 20.76 %.

2015 : $ 14,694 / $ 80,970 * 100 = 18.15 %.

The ROE has declined from 20.76 % in 2014 to 18.15 % in 2015.

Wal-Mart's ROE is lower than the industry average of 18.9 %, which is not a good sign.

B. Return on Assets = Net Income / Average Total Assets.

2014: $ 16,363 / $ 204,121 * 100 = 8.02 %.

2015 : $ 14,694 / $ 201,536 * 100 = 7.29 %.

Return on Assets is also showing a declining trend from 2014 to 2015.

However, ROA of Wal-Mart is higher as compared to the industry average ROA of 7.1 %.

C. It is evident that Wal-Mart is operating with high financial leverage. ( Equity is substantially lower than total assets. Therefore, a large part of total assets must be financed by debt capital). This should allow Wal-Mart to earn above-average returns. An increase in sales can lead to a much larger increase in ROE.