Question

Following information for company XYZ in 2015 is given: sales $550 000, cost $332 000, depreciation expense $120 000, interest expense 60 000, dividends 16 000, tax rate 35% percent.

a) prepare income statement

b) calculate company XYZ profit margin

c) If company XYZ has total assets $250 000 and equity multiplier 2.5. What is return on equity (ROE) based on DuPoint identity?

d) Discuss the three components of DuPoint identity

Answer 1

a:

Income Statement
Sales	550000
Less: Cost	332000
Gross Profit	218000
Less:
depreciation expense	120000
EBIT	98000
Less: Interest	60000
Profit before tax	38000
Less: Tax	13300
Net Income	24700
Less: Dividend	16000
Amount transferred to retained earnings	8700

b:

Profit margin= net income/ sales

= 24700/550000

= 4.49%

C:As per Dupont equation

ROE = profit margin* sales /Total assets* equity multiplier

= 4.49%*550000/250000 * 2.5

=24.7%

D: the return on equity is determined by multiplying profit margin, total asset turnover and equity multiplier. Net profit margin is the percentage of profits earned on total sales. Total asset turnover is an efficiency ratio which determines the efficiency of assets in generating sales. It is calculated as sales/ total assets. The equity multiplier is a financial leverage ratio which measures the amount of total assets financed by equity.