Question

Compostela Ltd. has an ROA of 9% and an ROE of 15%. Its total asset turnover is 1.5x. What is Compostela’s profit margin?

A. 5%

B. 6%

C. 8%

D. 10%

Compostela Ltd. has an ROA of 9% and an ROE of 15%. Its total asset turnover is 1.5x. What is Compostela’s debt-to-asset ratio?

A. 40%

B. 60%

C. 68%

D. 13.5%

According to the Du Pont methodology, if a firm’s total assets turnover and debt ratios are reasonable compared to industry averages, you conclude that low ROE and low ROA are most likely due to:

A. A poor TIE ratio

B. Poor current and quick ratios

C. A low inventory turnover ratio

D. A poor profit margin

Answer 1

ROE = Net income / revenue * revenue / assets * assets / equity = profit margin * asset turnover * leverage

ROA = net income / asset = profit margin * asset turnover

Q1

ROA = net income / asset = profit margin * asset turnover

9%=profit margin * 1.5

profit margin = 9%/1.5=6% (op b)

Q2

ROE = ROA * financial leverage

15%=9%*financial leverage

financial leverage = 1.6667

debt+equity / equity = 1.667

equity/asset = 1/1.667

debt / asset = 1-1(1/1.667)=0.4=40% (option a)

Q3:

ROE = Net income / revenue * revenue / assets * assets / equity = profit margin * asset turnover * leverage

since asset turnover and debt are ok, the problem could be in profit margin (op d)