Question

A firm has a profit margin of 10% and an equity multiplier of 2.0. Its sales are $100 Million and it has total assets if $60 million. What is its ROE?

38%

33%

42%

21%

28%

Answer 1

Option (b) is correct

First we will calculate net income as per below:

Profit margin = Net income / Sales * 100

Putting the values in the above formula, we get,

10% = Net income / $100m

Net income = $100m * 10% = $10m

Next we will calculate stockholder's equity as per below:

Equity multiplier = Total assets / Shareholder's equity

Total assets = $60m, Equity multiplier = 2

Putting the values in the above formula, we get,

2 = $60m / Shareholder's equity

Shareholder's equity = $60m / 2

Shareholder's equity = $30m

Now,

Return on equity (ROE) = Net income / Stockholder's equity * 100

Given: Stockholder's equity = $30m and Net income = $10m (as calculated in previous steps)

putting these values in the above ROE formula, we get,

Return on equity (ROE) = $10 / $30 * 100 = 33%