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Shareholder equity is the value that a company has left after liquidating all assets and paying off all outstanding obligations. In the balance sheet, shareholder equity is divided into three categories (a) Common shares, (b) Preferred shares, and (c) Retained Earnings

Mary Ann Benson Company is more profitablein terms of return on total assets.

Calculation of Return of Total Assets of Mary Ann Benson Company

$\begin{array}{rcl}\mathbf{Return}\mathbf{}\mathbf{of}\mathbf{}\mathbf{Total}\mathbf{}\mathbf{Assets}& \mathbf{=}& \frac{\mathbf{Net}\mathbf{}\mathbf{Income}}{\mathbf{Total}\mathbf{}\mathbf{Asset}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{660}\mathbf{,}\mathbf{000}}{\mathbf{\$}\mathbf{4}\mathbf{,}\mathbf{200}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \mathbf{15}\mathbf{.}\mathbf{71}\mathbf{\%}\end{array}$

Calculation of Return of Total Assets of Jana Kingston Company

$\begin{array}{rcl}\mathbf{Return}\mathbf{}\mathbf{on}\mathbf{}\mathbf{Total}\mathbf{}\mathbf{Asset}& \mathbf{=}& \frac{\mathbf{Net}\mathbf{}\mathbf{Income}}{\mathbf{Total}\mathbf{}\mathbf{Asset}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{594}\mathbf{,}\mathbf{000}}{\mathbf{\$}\mathbf{4}\mathbf{,}\mathbf{200}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \mathbf{14}\mathbf{.}\mathbf{14}\mathbf{\%}\end{array}$

It should be noted that these returns are based on net income related to total assets, where the ending amount of total assets is considered representative. If the return on total assets uses net income before interest, but after taxes in the numerator, the rates of return on total assets are the same as shown below:

$\begin{array}{rcl}\mathbf{Mary}\mathbf{}\mathbf{Ann}\mathbf{}\mathbf{Bension}\mathbf{}\mathbf{Company}& \mathbf{=}& \frac{\mathbf{Net}\mathbf{}\mathbf{Income}}{\mathbf{Total}\mathbf{}\mathbf{Assets}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{660}\mathbf{,}\mathbf{000}}{\mathbf{\$}\mathbf{4}\mathbf{,}\mathbf{200}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \mathbf{15}\mathbf{.}\mathbf{71}\mathbf{\%}\end{array}$

$\begin{array}{rcl}\mathbf{Jana}\mathbf{}\mathbf{Kingston}\mathbf{}\mathbf{company}& \mathbf{=}& \frac{\mathbf{Net}\mathbf{}\mathbf{Income}\mathbf{+}\mathbf{Interest}\mathbf{}\mathbf{Expense}\mathbf{-}\mathbf{Taxes}}{\mathbf{Total}\mathbf{}\mathbf{Asset}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{594}\mathbf{,}\mathbf{000}\mathbf{+}\mathbf{\$}\mathbf{120}\mathbf{,}\mathbf{000}\mathbf{-}\mathbf{\$}\mathbf{54}\mathbf{,}\mathbf{000}}{\mathbf{\$}\mathbf{4}\mathbf{,}\mathbf{200}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{660}\mathbf{,}\mathbf{000}}{\mathbf{\$}\mathbf{4}\mathbf{,}\mathbf{200}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \mathbf{15}\mathbf{.}\mathbf{71}\mathbf{\%}\\ & & \end{array}$

Jana Kingston Company is more profitablein terms of return on common stock equity. This may be shown as follows:

Calculation of Return on Common Stock Stockholders鈥� Equity of Jana Kingston Company

$\begin{array}{rcl}\mathbf{Return}\mathbf{}\mathbf{on}\mathbf{}\mathbf{Common}\mathbf{}\mathbf{Stock}\mathbf{}\mathbf{Equity}& \mathbf{=}& \frac{\mathbf{Net}\mathbf{}\mathbf{Income}}{\mathbf{Common}\mathbf{}\mathbf{Stock}\mathbf{+}\mathbf{Retained}\mathbf{}\mathbf{Earnings}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{594}\mathbf{,}\mathbf{000}}{\mathbf{2}\mathbf{,}\mathbf{000}\mathbf{,}\mathbf{000}\mathbf{+}\mathbf{700}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{594}\mathbf{,}\mathbf{000}}{\mathbf{2}\mathbf{,}\mathbf{700}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \mathbf{22}\mathbf{\%}\end{array}$

Calculation of Return on Common Stock Stockholders鈥� Equity of Mary Ann Benson Company

$\begin{array}{rcl}\mathbf{Return}\mathbf{}\mathbf{on}\mathbf{}\mathbf{common}\mathbf{}\mathbf{Stock}\mathbf{}\mathbf{Equity}& \mathbf{=}& \frac{\mathbf{Net}\mathbf{}\mathbf{Income}}{\mathbf{Common}\mathbf{}\mathbf{stock}\mathbf{+}\mathbf{Retained}\mathbf{}\mathbf{Earnings}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{660}\mathbf{,}\mathbf{000}}{\mathbf{2}\mathbf{,}\mathbf{900}\mathbf{,}\mathbf{000}\mathbf{+}\mathbf{700}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{660}\mathbf{,}\mathbf{000}}{\mathbf{3}\mathbf{,}\mathbf{600}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \mathbf{18}\mathbf{.}\mathbf{33}\mathbf{\%}\end{array}$

Note: Explaining why the difference in return on assets and return on common stock equity occurs.

Determined in Step 2:15.71%

The cost funds are the interest of $120,000.This cost must be reduced by the tax saving (45%) related to the interest.

The schedule indicates that the income earned on the total assets (before interest cost) was $659,820.This income's interest cost (net of tax) was $66,000, which indicates a net return to the common equity of $593,820.

The Jana Kingston Company earned a net income per share, that is:

$\begin{array}{rcl}\mathbf{Net}\mathbf{}\mathbf{income}\mathbf{}\mathbf{per}\mathbf{}\mathbf{share}& \mathbf{=}& \frac{\mathbf{Net}\mathbf{}\mathbf{Income}}{\mathbf{Share}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{594}\mathbf{,}\mathbf{000}}{\mathbf{100}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \mathbf{\$}\mathbf{5}\mathbf{.}\mathbf{94}\end{array}$

While the Benson Company鈥檚 net income per share is

$\begin{array}{rcl}\mathbf{Net}\mathbf{}\mathbf{Income}\mathbf{}\mathbf{per}\mathbf{}\mathbf{share}\mathbf{}\mathbf{of}& \mathbf{=}& \frac{\mathbf{Net}\mathbf{}\mathbf{Income}}{\mathbf{Share}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{660}\mathbf{,}\mathbf{000}}{\mathbf{145}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \mathbf{\$}\mathbf{4}\mathbf{.}\mathbf{55}\end{array}$

The Kingston Company has borrowed a substantial portion of its assets at the cost of 10% and has used these assets to represent additional income for the stockholders. This has resulted in a higher income per share. Due to the debt financing, Kingston has fewer shares of stock outstanding.

Yes, from the point of view of income, it is advantageous for the stockholders of the Kingston Company to have long-term debt outstanding. These assets obtained from the incurrence of this debt are earning a higher return than the cost of the Kingston Company.

Book Value per Share of Jana Kingston Company

$\begin{array}{rcl}\mathbf{Book}\mathbf{}\mathbf{value}\mathbf{}\mathbf{per}\mathbf{}\mathbf{share}& \mathbf{=}& \frac{\mathbf{Common}\mathbf{}\mathbf{stock}\mathbf{+}\mathbf{Retained}}{\mathbf{100}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{2}\mathbf{,}\mathbf{000}\mathbf{,}\mathbf{000}\mathbf{+}\mathbf{\$}\mathbf{700}\mathbf{,}\mathbf{000}}{\mathbf{100}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \mathbf{\$}\mathbf{27}\mathbf{.}\mathbf{00}\end{array}$

Book Value per Share of Marry Ann Benson Company

$\begin{array}{rcl}\mathbf{Book}\mathbf{}\mathbf{valueper}\mathbf{}\mathbf{share}& \mathbf{=}& \frac{\mathbf{Common}\mathbf{}\mathbf{stock}\mathbf{+}\mathbf{Retained}}{\mathbf{145}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{2}\mathbf{,}\mathbf{900}\mathbf{,}\mathbf{000}\mathbf{+}\mathbf{\$}\mathbf{700}\mathbf{,}\mathbf{000}}{\mathbf{145}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \mathbf{\$}\mathbf{24}\mathbf{.}\mathbf{83}\end{array}$