Question

This year Andrews achieved an ROE of 24.5%. Suppose next year the profit margin (Net Income/Sales) decreases. Assuming sales, assets and financial leverage remain the same next year, what effect would you expect this action to have on Andrews's ROE

Answer 1

Answer:

It would decrease

Explanation:

Return on equity is an example of a profitability ratio.

Profitability ratios measure the ability of a firm to generate profits from its asset

Using the Dupont formula, ROE can be determined using:

ROE = Net profit margin x asset turnover x financial leverage

ROE = (Net income / Sales) x (Sales/Total Assets) x (total asset / common equity)

If profit margin reduces and asset turnover and leverage remains the same, ROE would decrease