Question

Last year, K9 WebbWear, Inc. reported an ROE of 20 percent. The firm's debt ratio was 55 percent, sales were $20 million, and the capital intensity was 125 times. This year, K9 WebbWear plans to increase its debt ratio to 60 percent. The change will not affect sales or total assets, however, it will reduce the firm's profit margin to 12 percent Calculate the net income and profit margin for K9 WebbWear last year. (Enter your answer in millions of dollars rounded to 2 decimal places. Round your percentage answer to 2 decimal places.) million Net income (last year) Profit margin (last year) By how much will the change in K9 WebbWear's debt ratio affect its ROE? ROE (this year) will

Answer 1

1-a). Capital Intensity Ratio = Total Assets / Sales

1.25 = Total Assets / $20 million

Total Assets = 1.25 * $20 million = $25 million

Equity = Total Assets * (1 - Debt Ratio) = $25 million * (1 - 0.55) = $11.25 million

ROE = Net Income / Equity

0.20 = Net Income / $11.25 million

Net Income = 0.20 * $11.25 million = $2.25 million

1-b). Profit Margin = Net Income / Sales

= $2.25 million / $20 million = 0.1125 or 11.25%

2). Equity = Total Assets * (1 - Debt Ratio) = $25 million * (1 - 0.60) = $10 million

ROE = Net Income / Equity = $2.25 million / $10 million = 0.225, or 22.50%

ROE(this year) will increase to 22.50%