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CONCEPTUAL: RETURN ON EQUITY Which of the following statements is most correct? (Hint: Work Problem 4-16 before answering 4-17, and consider the solution setup for 4-16 as you think about 4-17.) a. If a firm’s expected basic earning power (BEP) is constant for all of its assets and exceeds the interest rate on its debt, adding assets and financing them with debt will raise the firm’s expected return on common equity (ROE). b. The higher a firm’s tax rate, the lower its BEP ratio, other things held constant. c. The higher the interest rate on a firm’s debt, the lower its BEP ratio, other things held constant. d. The higher a firm’s debt ratio, the lower its BEP ratio, other things held constant. e. Statement a is false; but statements b, c, and d are true.

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Fundamentals of Financial Manageme...

8th Edition
Eugene F. Brigham + 1 other
Publisher: Cengage Learning
ISBN: 9781285065137

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Section
BuyFindarrow_forward

Fundamentals of Financial Manageme...

8th Edition
Eugene F. Brigham + 1 other
Publisher: Cengage Learning
ISBN: 9781285065137
Chapter 4, Problem 17P
Textbook Problem
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CONCEPTUAL: RETURN ON EQUITY Which of the following statements is most correct? (Hint: Work Problem 4-16 before answering 4-17, and consider the solution setup for 4-16 as you think about 4-17.)

  1. a. If a firm’s expected basic earning power (BEP) is constant for all of its assets and exceeds the interest rate on its debt, adding assets and financing them with debt will raise the firm’s expected return on common equity (ROE).
  2. b. The higher a firm’s tax rate, the lower its BEP ratio, other things held constant.
  3. c. The higher the interest rate on a firm’s debt, the lower its BEP ratio, other things held constant.
  4. d. The higher a firm’s debt ratio, the lower its BEP ratio, other things held constant.
  5. e. Statement a is false; but statements b, c, and d are true.

a.

Summary Introduction

To identify: The correct statement.

Basic Earnings Power (BEP):

It is the ratio of net income and total assets. Basic earning power shows the total operating of the company earned by using the assets of the company. It remains unaffected by the interest expenses and the tax rate.

The formula of basic earnings is,

Basic Earnings Power=Net IncomeTotal Assets

Explanation of Solution

  • Basic earning power is determined by dividing EBIT by total assets. It is influenced by the tax rate and interest expenses.
  • So, BEP remains constant for all its assets even if the rate changes...

b.

Summary Introduction

To identify: The correct statement.

Basic Earnings Power (BEP):

It is the ratio of net income and total assets. Basic earning power shows the total operating of the company earned by using the assets of the company. It remains unaffected by the interest expenses and the tax rate.

The formula of basic earnings is,

Basic Earnings Power=Net IncomeTotal Assets

c.

Summary Introduction

To identify: The correct statement.

Basic Earnings Power (BEP):

It is the ratio of net income and total assets. Basic earning power shows the total operating of the company earned by using the assets of the company. It remains unaffected by the interest expenses and the tax rate.

The formula of basic earnings is,

Basic Earnings Power=Net IncomeTotal Assets

d.

Summary Introduction

To identify: The correct statement.

Basic Earnings Power (BEP):

It is the ratio of net income and total assets. Basic earning power shows the total operating of the company earned by using the assets of the company. It remains unaffected by the interest expenses and the tax rate.

The formula of basic earnings is,

Basic Earnings Power=Net IncomeTotal Assets

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Chapter 4 Solutions

Fundamentals of Financial Management, Concise Edition (with Thomson ONE - Business School Edition, 1 term (6 months) Printed Access Card) (MindTap Course List)
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Ch. 4 - Differentiate between ROE and ROIC.Ch. 4 - Indicate the effects of the transactions listed in...Ch. 4 - DAYS SALES OUTSTANDING Baker Brothers has a DSO of...Ch. 4 - DEBT TO CAPITAL RATIO Bartley Barstools has a...Ch. 4 - DuPONT ANALYSIS Doublewide Dealers has an ROA of...Ch. 4 - MARKET/BOOK RATIO Jaster Jets has 10 billion in...Ch. 4 - PRICE/EARNINGS RATIO A company has an EPS of 2.00,...Ch. 4 - DuPONT AND ROE A firm has a profit margin of 2%...Ch. 4 - ROE AND ROIC Hilyard Industries net income is...Ch. 4 - DuPONT AND NET INCOME Ebersoll Mining has 6...Ch. 4 - BEP, ROE, AND ROIC Duval Manufacturing recently...Ch. 4 - M/B AND SHARE PRICE You are given the following...Ch. 4 - RATIO CALCULATIONS Assume the following...Ch. 4 - RATIO CALCULATIONS Graser Trucking has 12 billion...Ch. 4 - TIE AND ROIC RATIOS The H.R. Pickett Corp. has...Ch. 4 - RETURN ON EQUITY Midwest Packagings ROH last year...Ch. 4 - RETURN ON EQUITY AND QUICK RATIO Lloyd Inc. has...Ch. 4 - RETURN ON EQUITY Central City Construction (CCC)...Ch. 4 - CONCEPTUAL: RETURN ON EQUITY Which of the...Ch. 4 - TIE RATIO AEI Incorporated has 5 billion in...Ch. 4 - CURRENT RATIO The Petry Company has 1312,500 in...Ch. 4 - DSO AND ACCOUNTS RECEIVABLE Harrelson Inc....Ch. 4 - P/E AND STOCK PRICE Fontaine Inc. recently...Ch. 4 - BALANCE SHEET ANALYSIS Complete the balance sheet...Ch. 4 - RATIO ANALYSIS Data for Barry Computer Co. and its...Ch. 4 - DUPONT ANALYSIS A firm has been experiencing low...Ch. 4 - RATIO ANALYSIS The Corrigan Corporation's 2013 and...Ch. 4 - FINANCIAL STATEMENTS AND TAXES Part I of this...Ch. 4 - What has happened to Hewlett Packard's liquidity...Ch. 4 - Take a look at Hewlett Packards inventory turnover...Ch. 4 - Construct a DuPont analysis for Hewlett Packard...

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Fundamentals Of Financial Management, Concise Edition (mindtap Course List)