Jerry Rice and Grain Stores has $4,320,000 in yearly sales. The firm earns 1.8 percent on each dollar of sales and turns over its assets 3.5 times per year. It has $139,000 in current liabilities and $372,000 in long-term liabilities. a. What is its return on stockholders’ equity?
b. If the asset base remains the same as computed in part a, but total asset turnover goes up to 4.00, what will be the new return on stockholders’ equity? Assume that the profit margin stays the same as do current and long-term liabilities.

a. Return on Stockholders’ Equity = 10.75%

b. New return on stockholders' equity = 12.29%

Explanation:

a. What is its return on stockholders’ equity?

This can be calculated as follows:

Net Income = Sales * Profit Margin = $4,320,000 * 1.8% = $77,760

Total Assets = Sales / Total Assets Turnover = $4,320,000 / 3.50 = $1,234,285.71

Total Liabilities = Current Liabilities + Long term liabilities = $139,000 + $372,000 = $511,000

Total Stockholders’ Equity = Total Assets - Total Liabilities = $1,234,285.71 - $511,000 = $723,285.71

As a result, we have:

Return on Stockholders’ Equity = (Net Income / Total Stockholders Equity) * 100 = ($77,760 / $723,285.71) * 100 = 10.75%

b. If the asset base remains the same as computed in part a, but total asset turnover goes up to 4.00, what will be the new return on stockholders’ equity? Assume that the profit margin stays the same as do current and long-term liabilities.

This can be calculated as follows:

New Sales = Total Assets * New Assets Turnover Ratio = $1,234,285.71 * 4 = $4,937,142.86

New Net Income = New sales * Profit Margin = $4,937,142.86 * 1.8% = $88,868.57

As a result, we have:

New return on stockholders' equity = (New Net Income / Total Stockholders Equity) * 100 = ($88,868.57 / $723,285.71) * 100 = 12.29%

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