Ch10HWSol(6th) - Chapter 10 HW Assignment: E10-5, 9, 13,...

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Chapter 10 HW Assignment: E10-5, 9, 13, 19; P10-9, 21 Solutions E10-5 a. The income statement information appears positive. Sales are increasing each period as is net income. Based on the income statement results alone, the company appears as if it might be an attractive investment. b. 2006 = 25.0% $3 net income ÷ $12 stockholders’ equity 2007 = 18.5% $5 net income ÷ $27 stockholders’ equity 2008 = 12.7% $7 net income ÷ $55 stockholders’ equity c. Based on the new information, the company does not seem so attractive. Even though net sales and net income have been increasing, the return to stockholders (return on equity) has been decreasing. Each dollar of stockholders’ equity has been earning a smaller and smaller return each year. In 2006, for example, each dollar of stockholders’ equity earned 25 cents. By 2008, each dollar was earning only 12.7 cents. The stockholders’ investment is being employed less and less efficiently. d. An evaluation cannot focus on just one factor. For example, it’s easy to focus only on net income because it is readily available. If one digs a little and makes some computations, such as return on equity, the result is a richer understanding of the company under consideration. E10-9 One approach to this exercise is to compute the expected net income and return on equity under each option. Projected results with additional financing: Earnings before interest and taxes Interest expense $ 5,000,000 3,800,000 $ 8,000,000 3,800,000 $15,000,000 3,800,000 Pretax income Income tax (30%) $ 1,200,000 360,000 $ 4,200,000 1,260,000 $11,200,000 3,360,000 Net income $ 840,000 $ 2,940,000 $ 7,840,000 Stockholders’ equity $75,000,000 $75,000,000 $75,000,000 Return on equity 1.12% 3.92% 10.45% Projected results without additional financing: Earnings before interest and taxes Interest expense $ 5,000,000
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Ch10HWSol(6th) - Chapter 10 HW Assignment: E10-5, 9, 13,...

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