   Chapter 9, Problem 12CDQ

Chapter
Section
Textbook Problem

a. Why LS the return on stockholders’ equity by a thriving business ordinarily higher than the return on total assets? b. Should the return on common stockholders’ equity normally be higher or lower than the return on total stockholders’ equity? Explain.

To determine

Concept Introduction:

Return on total Assets:

The Return on total assets is profitability ratio that measures the percentage of profit earned on average assets invested in the business. Return on asset is calculated by dividing the net income by average total assets. The formula to calculate Return on assets is as follows:

Return on assets = Net incomeAverage Total Assets

Note: Average total assets are calculated as an average of beginning and ending total assets. The formula to calculate the average total assets is as follows:

Average total Assets = (Beginning total assets + Ending total assets)2

Return on Equity:

Return on Equity is the rate of return earned by the Stockholders on their investment in the company. It is calculated with the help of following formula:

Return on Equity = Net IncomeAverage Stockholders Equity

The Average stock holder's equity calculated with the help of following formula:

Average stock holders equity=( Beginning stock holders equity + Ending stock holders equity)2

To Indicate:

The Difference between the Return on Total assets and Return on Equity and the higher value.s

Explanation

The Return on total assets is profitability ratio that measures the percentage of profit earned on average assets invested in the business. Return on asset is calculated by dividing the net income by average total assets. The formula to calculate Return on assets is as follows:

Return on assets = Net incomeAverage Total Assets

Return on Equity is the rate of return earned by the Stockholders on their investment in the company

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