Question

Jolie Foster Care Homes Inc. shows the following data:

Year	Net Income	Total assets	Stockholder’s Equity	Total debts
20X1	\(155,000	\)2,390,000	\(761,000	\)1,629,000
20X2	191,000	2,700,000	966,000	1,734,000
20X3	208,000	2,730,000	1,770,000	960,000
20X4	192,000	2,470,000	2,220,000	250,000

b. Compute the ratio of net income to stockholders’ equity and comment on the trend. Explain why there may be a difference in the trends between parts a and b.

Short answer

The net income to shareholder’s equity ratio of the company is:

Year	Net income to shareholder’s equity ratio
20X1	20.37%
20X2	19.77%
20X3	11.75%
20X4	8.65%

The return on stockholder’s equity ratio is going down each year. This difference in the trend between parts a and b is because the stockholder’s equity of the company is increasing with a high rate yearly in comparison to the stockholder’s equity.

Step-by-step solution

Net Income to Stockholder’s equity ratio for the year ending 20X1:

$\begin{array}{rcl}\mathrm{Net}\mathrm{income}\mathrm{to}\mathrm{stockholder}\text{'}\mathrm{s}\mathrm{equity}\mathrm{ratio}& =& \frac{\mathrm{Net}\mathrm{income}}{\mathrm{Stockholder}\text{'}\mathrm{s}\mathrm{equity}}\\ & =& \frac{\$155,000}{\$761,000}\\ & =& 20.37\%\end{array}$

The net income to stockholder’s equity of the company for the year 20X1 is 20.37%

Net Income to Stockholder’s equity ratio for the year ending 20X2:

$\begin{array}{rcl}\mathrm{Net}\mathrm{income}\mathrm{to}\mathrm{stockholder}\text{'}\mathrm{s}\mathrm{equity}\mathrm{ratio}& =& \frac{\mathrm{Net}\mathrm{income}}{\mathrm{Stockholder}\text{'}\mathrm{s}\mathrm{equity}}\\ & =& \frac{\$191,000}{\$966,000}\\ & =& 19.77\%\end{array}$

The net income to stockholder’s equity of the company for the year 20X2 is 19.77%

Net Income to Stockholder’s equity ratio for the year ending 20X3:

$\begin{array}{rcl}\mathrm{Net}\mathrm{income}\mathrm{to}\mathrm{stockholder}\text{'}\mathrm{s}\mathrm{equity}\mathrm{ratio}& =& \frac{\mathrm{Net}\mathrm{income}}{\mathrm{Stockholder}\text{'}\mathrm{s}\mathrm{equity}}\\ & =& \frac{\$208,000}{\$1,770,000}\\ & =& 11.75\%\end{array}$

The net income to stockholder’s equity of the company for the year 20X3 is 11.75%

Net Income to Stockholder’s equity ratio for the year ending 20X4:

$\begin{array}{rcl}\mathrm{Net}\mathrm{income}\mathrm{to}\mathrm{stockholder}\text{'}\mathrm{s}\mathrm{equity}\mathrm{ratio}& =& \frac{\mathrm{Net}\mathrm{income}}{\mathrm{Stockholder}\text{'}\mathrm{s}\mathrm{ratio}}\\ & =& \frac{\$192,000}{\$2,220,000}\\ & =& 8.65\%\end{array}$

The net income to stockholder’s equity of the company for the year 20X4 is 8.65%. In addition, there is downward movement in return on equity over the four year period, becaue the stockholder’s equity is rapidly increasing in comparison to the net income of the company.