Financial Management: Principles and Applications, 13/e

Long description

Equation (4-14a) decomposes the firm's ROE ratio into three basic determinants related to profitability, asset management efficiency, and the use of financial leverage (an equity multiplier), as follows:

Return on equity equals net profit margin times total asset turnover times equity multiplier equals (net incomes over sales) times (sales over total assets) times 1 over (1 minus debt ratio)

This equation is labeled as (4-14a).

We can further analyze the ROE equation by looking at the determinants of each of these three components. For example, the net profit margin ratio is determined by net income and sales, and net income reflects the difference in the firm's sales and its total costs, which, in turn, consist of cost of goods ...