Question

3. ANALYZING OPERATING PROFITABILITY. Exhibit 4.18 presents selected operating data for three retailers for a recent year. Albertsons sells grocery prod- ucts. Home Depot sells a wide range of home improvement products, which includes products ranging from riding lawnmowers to lighting fixtures to kitchen countertops. Federated Department Stores operates several department store chains selling products ranging from brand-name clothing to china, cosmetics, and bedding. Required a. Compute the rate of return on assets for each firm. Disaggregate the rate of return on assets into profit margin for ROA and assets turnover components. The income tax rate is 35 percent. b. Describe the likely reasons for the differences in the profit margins for ROA and assets turnovers of the three companies. EXHIBIT 4.18 Selected Data for Three Retailers (amounts in millions) Home Depot Federated Department Stores Albertsons Sales .... Cost of Goods Sold .... Interest Expense Net Income .... Average Inventory ....... Average Fixed Assets Average Total Assets. $39,897 28,711 493 474 3,077 9,936 16,989 $73,094 48,664 70 5,001 10,691 22,879 40,432 $15,630 9.297 299 689 3,168 6,096 14,718

Answer 1

Formula used and calculation is shown below

Rate of return on assets Net operating profit after taxes Profit margin Asset turnover Net operating profit after taxes/Average total assets Net income + Interest*(1-tax rate) Net operating profit after taxes/Sales Sales/Average total assets Calculation of rate of return on assets for company Albertsons Rate of return on assets 474+(493*(1-0.35)/16,989 Rate of return on assets (474+320.45)/16989 Rate of return on assets 4.68% Profit margin Profit margin Profit margin 474+(493*(1-0.35) 39.897 (474+320.45)/39,897 1.99% 39,897/16,989 2.35 Asset turnover Asset turnover ROA ROA 1.99%*2.35 4.68% Calculation of rate of return on assets for company Home depot Rate of return on assets 5001+(70*(1-0.35)}/40,432 Rate of return on assets (5001+45-5)/40.432 Rate of return on assets 12.48% Profit margin Profit margin Profit margin 5001+(70*(1-0.35)/73,094 (5001+45.5)/73,094 6.90% 73094/40432 Asset turnover Asset turnover ROA 1.81 6.90%*1.81 ROA 12.48% Calculation of rate of return on assets for Federal Department stores Rate of return on assets 689+(299*(1-0.35) 14.718 Rate of return on assets (689+194.35)/14,718 Rate of return on assets 6.00% Profit margin Profit margin Profit margin 689+(299*(1-0.35) 15,630 (689+194.35)/15630 5.65% 15630/14718 1.06 Asset turnover Asset turnover ROA ROA 5.65%*1.06 6.00% b. Albertsons Profit margin Asset turnover Rate of return on assets Home Depot Federal Departmental stores 1.99% 6.90% 5.65% 2.35 1.81 1.06 4.68% 12.48% 6.00% The profit margin for albertsons is lowest among the three companies as albertsons is able to generate lower net income due to higher expenses incurred by company Home depot has the highest profit margin due to higher net income earned on sales revenue. This could be due to lower expense incurred by company Federal Departmental stores has profit margin lower than home depot due to lower net income generated on sales. Asset turnover of Albertsons is highest as it is able to use its assets efficiently to generate revenue than home depot and federal departmental stores