[TMorgan10]

The annual sales for Salco Inc. were $4.5 million last year. The firm’s end-of-year balance sheet was as follows:
Current assets
$ 500,000

Liabilities
$1,000,000

Net fixed assets
1,500,000

Owners’ equity
1,000,000


$2,000,000


$2,000,000


The firm’s income statement for the year was as follows:

Sales
$ 4,500,000

Less cost of goods sold
(3,500,000)

Gross profit
$ 1,000,000

Less operating expenses
(500,000)

Operating income
$ 500,000

Less interest expense
(100,000)

Earnings before taxes
$ 400,000

Less taxes (50%)
(200,000)

Net income
$ 200,000


a.Calculate Salco’s total asset turnover, operating profit margin, and operating return on assets.
b.Salco plans to renovate one of its plants, which will require an added investment in plant and equipment of $1 million. The firm will maintain its present debt ratio of .5 when financing the new investment and expects sales to remain constant. The operating profit margin will rise to 13 percent. What will be the new operating return on assets for Salco after the plant’s renovation?
c.Given that the plant renovation in part b occurs and Salco’s interest expense rises by $50,000 per year, what will be the return earned on the common stockholders’ investment? Compare this rate of return with that earned before the renovation.

[rehmanvohra]

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