ROE percentage

[Philly7575]

A firm�s financial statements reflect the following:

EBIT
$1,200,000

Sales
$15,000,000

Interest expense
$300,000

Total assets
$8,500,000

Equity
$5,000,000

Effective tax rate
35%


Based on this information, how would the firm�s return on equity (ROE) change on a percentage basis if interest expense rose to $500,000? ROE will:

A) fall by 2.8%.

B) rise by 11.7%.

C) fall by 17.6%.

D) fall by 22.2%.



Why am I getting 28.57%
The correct answer is 22.2%

 

[Philly7575]

never mind... I got the % change backwards....

 

[CFAMontreal]

before int.exp. increase ROE= [(EBIT-interest expense) * 0.65]/equity = [(1200-300) *0.65]/5000 = 11.7%

after ROE = [(1200-500)*0.65]/ 5000 = 9.1%

[ROE after /ROE before] - 1 = 9.1/11.7 - 1 = -22.2%

 

[frankspin]

Good question anyway.

 

[Super I]

This is an example of one of those questions that you can make much more complicated than it really is.

EBIT is $1,200,000
Interest expense is $300,000

This means pretax income is $900,000. If interest expense increases by $200,000 ($500,000 - $300,000) pretax income drops by $200,000 or 2/9ths or 22.2%

Since the tax rate multiplier and equity divisors are the same in both the before and after you can ignore them.

Tax rate, equity, sales, total assets... all of these are useless info designed to waste time and make you go thru unecessary calculations and try to ind ways to plug them into formulas, believing that you need them to come up with a correct answer.

 

[jbnjc]

Super I Wrote:
-------------------------------------------------------
> This is an example of one of those questions that
> you can make much more complicated than it really
> is.
>
> EBIT is $1,200,000
> Interest expense is $300,000
>
> This means pretax income is $900,000. If interest
> expense increases by $200,000 ($500,000 -
> $300,000) pretax income drops by $200,000 or
> 2/9ths or 22.2%
>
> Since the tax rate multiplier and equity divisors




Thanks for making that "Super" simple!
> are the same in both the before and after you can
> ignore them.
>
> Tax rate, equity, sales, total assets... all of
> these are useless info designed to waste time and
> make you go thru unecessary calculations and try
> to ind ways to plug them into formulas, believing
> that you need them to come up with a correct
> answer.