RATIO ANALYSIS Review the financial information pertaining to Salco Inc. in Study Problem 4-10 on pages 113 and 114 of you text. Answer the following questions in an Excel document. Solve using Excel formulas (preferred) or clearly write out the steps you took to calculate your answers. Round any dollar amounts to the nearest dollar ($1,500,074) and any percentages to two decimals (9. 56%). QUESTION 1 Calculate Salco’s total asset turnover, operating profit margin, and operating return on assets. ANSWER 1
Total Asset TurnoverOperating Profit MarginOperating Return on Assets Formula: Total Asset Turnover = Sales/ Total AssetsFormula: Operating Profit Margins= Operating Profits/ SalesFormula: Operating Return on Assets= Operating Profit Margin x Total Asset Turnover 4500000/ 2000000500,000 / 4,500,000 =. 1111×2. 25 2. 2511%25% Note: I added net fixed assets and current assets for total assets. Note: Operating profits= EBITDA QUESTION 2 Salco plans to renovate one of its plants, which will require an added investment in plant and equipment of $1 million.
The firm will maintain its present debt ratio of . 5 when financing the new investment and expects sales to remain constant. The operating profit margin will rise to 13 percent. What will be the new operating return on assets for Salco after the plant’s renovation? ANSWER 2 Operating Return on Assets Formula: Operating Return on Assets= Operating Profit Margin x Total Asset Turnover Operating Return on Assets = . 13 x X Operating Return on Assets =. 13 x 1. 5 19. 50% Note: Total Asset Turnover Formula: Total Asset Turnover = Sales/ Total Assets ,500,000/ 2,000,000 + 1,000,000=1. 5 QUESTION 3 Given that the plant renovation in part b occurs and Salco’s interest expense rises by $50,000 per year, what will be the return earned on the common stockholders’ investment? Compare this rate of return with that earned before the renovation. ANSWER 3 Formula: Return on Equity = Net Income/Common EquityCalculations WITHOUT RENOVATIONWITHOUT RENOVATION 200,000/1,000,000Net Income without 13% rise in profit 0. 2Operating Income x New Profit ($500,000) = 500,000
Less New Interest ($100,000) = 100,000 Earnings Before Taxes = 400,000 Notes: The P&E Investment capital was provided by equity instead of debt therefore the Common Equity did not change as liabilities did not increase. The company decided to not be leveraged over its current . 5 present deb ratio. 50% of EBT = 200,000 Net Income = 200,000 Common Equity Calculation Total Assets – Total Liabilities Current Assets + Fixed Assets (2,000,000) – Liabilities (1,000,000) = 1,000,000 WITH RENOVATIONWITH RENOVATION 07,500/1,000,000Net Income with 13% rise in profit plus the additional; $50,000 in interest expense 0. 2075Operating Income x New Profit ($500,000 x 13%) = 565,000 Less New Interest ($100,000 + $50,000) = 150,000 The company had equity investment of $1M and their net return delta was an increase of $7,500 Earnings Before Taxes = 415,000 50% of EBT = 207,500 Net Income = 207,500 Common Equity Calculation Total Assets – Total Liabilities Current Assets + Fixed Assets (2,000,000) – Liabilities (1,000,000) = 1,000,000