southwest physicians a medical group practice in Oklahoma City is just being for
ID: 2653653 • Letter: S
Question
southwest physicians a medical group practice in Oklahoma City is just being formed. it will need $2 million of total assets to generate $3 million in revenues. furthermore the group expects to have a total margin of 5 percent. the group is considering two financing alternatives. first, it can use all equity financing by requiring each physician to contribute his or her pro rata share. second the practice can finance up to 50 percent of its assets with a bank loan. assuming that the debt alternative has no impact on the expected total margin, what is the difference between the expected return on equity (ROE) if the group financed with 50 percent debt versus the expected ROE if it financed entirely with equity capital? southwest physicians a medical group practice in Oklahoma City is just being formed. it will need $2 million of total assets to generate $3 million in revenues. furthermore the group expects to have a total margin of 5 percent. the group is considering two financing alternatives. first, it can use all equity financing by requiring each physician to contribute his or her pro rata share. second the practice can finance up to 50 percent of its assets with a bank loan. assuming that the debt alternative has no impact on the expected total margin, what is the difference between the expected return on equity (ROE) if the group financed with 50 percent debt versus the expected ROE if it financed entirely with equity capital? southwest physicians a medical group practice in Oklahoma City is just being formed. it will need $2 million of total assets to generate $3 million in revenues. furthermore the group expects to have a total margin of 5 percent. the group is considering two financing alternatives. first, it can use all equity financing by requiring each physician to contribute his or her pro rata share. second the practice can finance up to 50 percent of its assets with a bank loan. assuming that the debt alternative has no impact on the expected total margin, what is the difference between the expected return on equity (ROE) if the group financed with 50 percent debt versus the expected ROE if it financed entirely with equity capital?Explanation / Answer
ROE = Profit margin x Total asset turnoverxEquity multiplier ======================================================================================================================== Profit margin = 5% ======================================================================================================================== Total asset turnover ratio = Sales / Assets = $3,000,000 / $2,000,000 = 1.5 times ======================================================================================================================== ROE = 0.05 * 1.5 * 1= 0.075 or 7.5% ======================================================================================================================== Therefore, the ROE when the firm uses all equity is 7.5% ======================================================================================================================== Equity multiplier = 1 + (Debt-equity ratio) = 1 + (Total debt / Total equity) = 1 + (0.50 / $0.5)= 1 + 1 = 2 ======================================================================================================================== ROE = 0.05 * 1.5 * 2 = 0.15 or 15% ANSWER ========================================================================================================================
Related Questions
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.