Question

New Doors Corp. has $375,000 of total assets, and it uses $187,500 of total shareholder's equity capital. Its sales for the last year were $520,000, and its net income was $25,000. Stockholders recently voted in a new management team that has promised to lower costs and get the return on equity (ROE) up to 15.0%. What profit margin (PM) would the firm need in order to achieve the 15% ROE, holding everything else constant?
a. 5.41%
b. 8.11%
c. 9.41%
d. 10.71%
e. 12.66%

Answer 1

Answer:

Profit margin (PM) the firm needs in order to achieve the 15% ROE: a. 5.41%

Explanation:

The profit margin reflects a company's overall ability to turn income into profit, is calculated by formula:

Profit margin = Net income/Net sales

The return on equity (ROE) is calculated by following formula:

ROE = Net income/shareholder's equity

New Doors Corp. uses $187,500 of total shareholder's equity capital and gets the return on equity (ROE) up to 15.0%

Net income = ROE x Shareholder's equity = 15.0% x $187,500 = $28,125

Profit margin = $28,125/$520,000 = 0.0541 = 5.41%