In: Finance
Adams operates his $35000 firm using his own
equity. Bob operates his firm with $17500 of his
own money plus $17500 of debt at a cost of
10 percent interest.
Calculate Adams's and Bob's return on equity if their respective
businesses produce earnings before interest and tax of
$7000. Assume perfect markets.
Adams's return on equity: %
Bob's return on equity: %
Adam's EBIT= 7000
Tax is not given. Equity amount is $35000. debt is no there. so
EBIT will be net income.
ROE = 7000/35000*100=
20 %
Bob's EBIT= 7000
Equity = 17500
Interest on debt of $17500= 17500*10/100=
1750
Net income = EBIt - interest
7000-1750= 5250
ROE= 5250/17500*100=
30
So, Adam ROE = 20%
Bob's ROE 30%