(Financial ratios-investment analysis) The annual sales for Salco, Inc., were $4.5 million last year. The firm’s end-of-year balance sheet appeared as follows:
Current assets $500,000 Liabilities $1,000,000
Net fixed assets 1,500,000 owners’ equity 1,000,000
$2,000,000 $2,000,000
The firm’s income statement for the year was as follows:
Sales $4,500,000
Less: Cost of goods sold (3,500,000)
Gross profit $1,000,000
Less: Operating expenses (500,000)
Operating income $500,000
Less: Interest expense (100,000)
Earnings before taxes $400,000
Less: Taxes (50%) (200,000)
Net income $200,000
1.Calculate Salco’s total asset turnover, operating profit margin, and operating return on assets.
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 renovation?
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.
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SOLUTION PREVIEW
a. Salco’s total asset turnover, operating profit margin,
and operating income return on investment.
Total Asset Turnover = Sales
Total Assets
= $4,500,000
$2,000,000
= 2.25 times
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