Question

exotica limited has $ 5 lacs in assets that are financed with 100% equity.

The fixed cost = $ 1.2 lacs.

The EBIT of the company for the year i = $ 80000.

tax rate is = 40%.

In case its EBIT increases by 10%and reduces by 10% Define,
calculate & **interpret** the

a. Net income

b. Return on equity

Answer #1

a. Net income : Net income is net earnings after deducting all expenses, depreciation, tax and interest from income.

b. Return on equity: Return on Equity is an important indicator to shareholders of the firm. It measure the profitability of equity fund invested in the firm.

ROE = Net income /Average equity

Calculation:

Current | 10% increase | 10% decrease | |

EBIT | 80,000 | 88,000 | 72,000 |

Tax rate 40% | 32000 | 35200 | 28800 |

Net income | 48000 | 52800 | 43200 |

Return on equity | 48,000/500,000=9.6% | 52800/500,000=10.56% | 43200/500000=8.64% |

Interpret:

1. When EBIT incease and tax rate remain same Net income increase or decrease in proportion of EBIT.

2. IF Company is 100% finance by equity. Then ROE increase or decrease in proportion to Net income.

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Liabilities
$150,000
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Equity
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2018
2019
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100
110
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50
60
Net Income
10
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Equity
50
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Current Assets
20
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