The annual sales for Salco Inc were $4.5 million last year. The firms enf of yea

Question

The annual sales for Salco Inc were $4.5 million last year. The firms enf of year balance sheet was as follows:
Current assets $500,000
Net fixed assets $1,500,000
Total assets $2,000,000

Liabilities $1,000,000
Owners Equity $1,000,000
total liabilites $2,000,000

The firm's income state 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 taces $400,000
less taxes (50%) ($200,000)
Net Income $200,000

a) calculate Salco's total asset turnover, operating profit margin, and operating return on assets.
b) Salco plans to renovate one of it's 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%. What will the new operating return on assets for Salco after the plant's renovation?
c) Given that the plant renovation in part b occurs and Salco's interest expenses rise 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 revonation.


Please try and explain how you arrived at your conclusion, i'm really lost. Thanks.

Explanation / Answer

A) Total asset turnover = 2.25 Operating profit margin = 11.11% Operating return on assets = 25.0% B) Added plant & equip 3,000,000 Present debt ratio 0.50 New Oper profit margin 13.0% New Operating return on assets = 19.5% C) Interest expense rises by: 50,000 Post: Pre: NOI $585,000 $500,000 Less: Interest 150,000 100,000 EBT 435,000 400,000 Less: Taxes (50%) 217,500 200,000 Net Inc Available to Common $217,500 $200,000 Post Renovation Analysis: Return on Common Equity = 14.5% Pre-renovation Analysis: Return on Common Equity = 20.0%

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