Question

6. Scott Kelly is reviewing MasterToy’s financial statements in order to estimate its sustain-

able growth rate. Using the information presented in Table 14.19 : (LO 14-3)

a. Identify and calculate the components of the DuPont formula.

b. Calculate the ROE for 2013 using the components of the DuPont formula.

c. Calculate the sustainable growth rate for 2013 from the firm’s ROE and plowback ratios. TABLE 14.19

Mastertoy, Inc.: Actual 2012 and estimated 2013 financial

statements for fiscal year ending December 31 (\( million,

except per-share data)

2012 2013

Income Statement

Revenue \)4,750 \(5,140

Cost of goods sold 2,400 2,540

Selling, general, and administrative 1,400 1,550

Depreciation 180 210

Goodwill amortization 10 10

Operating income \) 760 \( 830

Interest expense 20 25

Income before taxes \) 740 \( 805

Income taxes 265 295

Net income \) 475 \( 510

Earnings per share \) 1.79 \( 1.96

Average shares outstanding (millions) 265 260

Balance SheetCash \) 400 \( 400

Accounts receivable 680 700

Inventories 570 600

Net property, plant, and equipment 800 870

Intangibles 500 530

Total assets \)2,950 \(3,100

Current liabilities \) 550 \( 600

Long-term debt 300 300

Total liabilities \) 850 \( 900

Stockholders’ equity 2,100 2,200

Total liabilities and equity \)2,950 \(3,100

Book value per share \) 7.92 $ 8.46

Annual dividend per share 0.55 0.60

Short answer

1. The components of DuPont are tax burden, interest burden, profit margin, asset turnover, and leverage.
2. The ROE is 23.18%.
3. The sustainable growth rate is 16.08%.

Step-by-step solution

Calculation of the DuPont components:

1. Calculation of the asset turnover ratio for 2012 and 2013:
   $\begin{array}{rcl}TaxBurde{n}_{2012}& =& \frac{NetIncome}{IncomeBeforeTax}\\ & =& \frac{\$475}{\$740}\\ & =& 0.64189or64.19\%\end{array}$
   Further,
   $\begin{array}{rcl}TaxBurde{n}_{2013}& =& \frac{NetIncome}{IncomeBeforeTax}\\ & =& \frac{\$510}{\$805}\\ & =& 0.6335or63.35\%\end{array}$
   
2. Calculation of the leverage for 2012 and 2013:
   $\begin{array}{rcl}TaxBurde{n}_{2012}& =& \frac{NetIncome}{IncomeBeforeTax}\\ & =& \frac{\$740}{\$760}\\ & =& 0.9737or97.37\%\end{array}$
   Further,
   $\begin{array}{rcl}TaxBurde{n}_{2013}& =& \frac{NetIncome}{IncomeBeforeTax}\\ & =& \frac{\$805}{\$830}\\ & =& 0.9699or96.99\%\end{array}$
   
3. Calculation of the profit margin for 2012 and 2013:
   role="math" localid="1658136939287" $\begin{array}{rcl}ProfitMargi{n}_{2012}& =& \frac{OperatingIncome}{Revenue}\\ & =& \frac{\$760}{\$4,750}\\ & =& 0.16or16\%\end{array}$
   Further,
   $\begin{array}{rcl}ProfitMargi{n}_{2013}& =& \frac{OperatingIncome}{Revenue}\\ & =& \frac{\$830}{\$5,140}\\ & =& 0.1615or16.15\%\end{array}$
   
4. Calculation of the asset turnover ratio for 2012 and 2013:
   $\begin{array}{rcl}AssetTurnoveRati{o}_{2012}& =& \frac{Revenue}{TotalAssets}\\ & =& \frac{\$4,750}{\$2,950}\\ & =& 1.61\end{array}$
   Further,
   $\begin{array}{rcl}AssetTurnoveRati{o}_{2013}& =& \frac{Revenue}{TotalAssets}\\ & =& \frac{\$5,140}{\$3,100}\\ & =& 1.66\end{array}$
   
5. Calculation of the leverage for 2012 and 2013:
   $\begin{array}{rcl}Leverag{e}_{2012}& =& \frac{TotalAssets}{Equity}\\ & =& \frac{\$2,950}{\$2,100}\\ & =& 1.405\end{array}$
   Further,
   $\begin{array}{rcl}Leverag{e}_{2013}& =& \frac{TotalAssets}{Equity}\\ & =& \frac{\$3,100}{\$2,200}\\ & =& 1.409\end{array}$
   

Calculation of the ROE in 2013:

Given:

The net income is $805.

The equity is $2,200.

$\begin{array}{rcl}ROE& =& \frac{NetIncome}{Equity}\\ & =& \frac{\$510}{\$2,200}\\ & =& 0.2318or23.18\%\end{array}$

The ROE in 2013 is 23.18%.

Calculation of the sustainable growth rate (SGR) in 2013:

Given:

The EPS is $1.96.

The dividend is $0.60.

The ROE in 2013 is 23.18%.

1. Calculation of the plowback ratio:
   $\begin{array}{rcl}PlowbackRatio& =& 1-\frac{Dividend}{EPS}\\ & =& 1-\frac{\$0.60}{\$1.96}\\ & =& 0.6939\end{array}$
   
2. Calculation of the SGR:
   $\begin{array}{rcl}SGR& =& ROE\times PlowbackRatio\\ & =& 23.18\%69.39\%\\ & =& 16.08\%\end{array}$
   

The SGR in 2013 is 16.08%.