Share
Explore BrainMass

Projected Return on Equity

You have been provided financial information (see following page) of the Crum Company (CC). The firm expects sales to grow by 50% next year, and operating costs should increase at the same rate. Fixed assets were being operated at 40% of capacity this past year, but all other assets were used to full capacity. Underutilized fixed assets cannot be sold. Current assets and spontaneous liabilities (A/P and Accruals) should increase at the same rate as sales next year. CC plans to finance any Additional Funds Needed (AFN) as 35% Notes Payable (short-term debt) and 65% common stock (Common Equity). After taking financial feedbacks (refer to pages 497-505) into account, and after the 2nd pass, determine CC's projected Return on Equity (ROE = Net Income / Common Equity) using the Percent of Sales Method.

Is the ROE:

a. 16.98%
b. 23.73%
c. 25.68%
d. 19.61%
e. 23.24%

SHOW ALL WORK.

See following page for the format.

Crum Company Financial Information: Growth rate = 50%
(NOTE COLUMNS ARE NOT LINED UP RIGHT ON THIS SO SEE ATTACHMENT)
INCOME STATEMENT Past Year Next Year
1st Pass Next Year
2nd Pass Next Year
Final
Sales $ 1,000.00
Operating Costs, 80% 800.00
EBIT 200.00
Interest 16.00
EBT 184.00
Taxes, 40% 73.60
Net Income 110.40
Dividends, 60% 66.24
Addition to Retained Earnings 44.16
BALANCE SHEET
Current Assets $ 700.00
Net Fixed Assets 300.00
Total Assets $ 1,000.00

A/P and Accruals $ 150.00
N/P, 8% 200.00
Common Stock 150.00
Retained Earnings 500.00
Total Liabilities & Common Equity $ 1,000.00

AFN Past Year Next Year, 1st Pass Next Year, 2nd Pass
Profit Margin 11.04%
ROE 16.98%
Debt / Assets 35.00%
Current Ratio 2.0 times
Payout Ratio 60.00%

AFN Financing Weights Dollars Interest Expense
Notes Payable 0.3500
Common Stock 0.6500
TOTAL 1.0000

(Check format on attachment for clearer column line ups)

Attachments

Solution Summary

The solution explains how to calculate the projected ROE using the percentage of sales method

$2.19