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27 July, 23:03

Pacific Packaging's ROE last year was only 3%, but its management has developed a new operating plan that calls for a debt-to-capital ratio of 45%, which will result in annual interest charges of $546,000. The firm has no plans to use preferred stock and total assets equal total invested capital. Management projects an EBIT of $1,344,000 on sales of $14,000,000, and it expects to have a total assets turnover ratio of 3.2. Under these conditions, the tax rate will be 25%. If the changes are made, what will be the company's return on equity?

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  1. 27 July, 23:21
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    Total asset turnover = Sales/total assets

    3.2 = 14000000/Total assets

    Total assets = 4375000

    E/A = 1-D/A = 1-0.45 = 0.55

    Equity = E/A*assets = 0.55*4375000=2406250

    Net income = (EBIT-interest) * (1-tax rate)

    = (1344000-546000) * (1-0.25) = 598500

    ROE = Net income/total equity

    ROE% = 598500/2406250=0.248

    ROE% = 24.8
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