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decomposed roe, fifo and lifo

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1. In 1995 Chrysler has a return on equity of 20 percent, whereas Ford's return is only 8 percent. Use the decomposed ROE framework to provide possible reasons for this difference.

2. In a period of rising prices, how would the following ratios be affected by the accounting decision to select LIFO, rather than FIFO, for inventory valuation?

* Gross Margin
* Current Ratio
* Asset Turnover
* Debt-to-equity ratio
* Average tax rate

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Solution Summary

In 1995 Chrysler has a return on equity of 20 percent, whereas Ford's return is only 8 percent. Use the decomposed ROE framework to provide possible reasons for this difference.

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The decomposed ROE is made of three components:

Profit/Sales * Sales/Assets * Assets/ Equity

The lower return on equity for Ford can be explained by making assumptions about these three components. In 1995, it may be possible that although profit on sales was approximately equal for both the companies, the ultimate ROE was affected by Sales/ Assets and Assets/ ...

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Sandeep Bardia, MBA
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  • BCom, SGTB Khalsa College, University of Delhi
  • MBA, Rochester Institute of Technology
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