Problem -Earth's Best Company has sales of $200,000, a net income of $15,000, and the following balance sheet:
Cash$ 10,000 Accounts payable$ 30,000
Receivables50,000 Other current liabilities20,000
Inventories150,000 Long-term debt 50,000
Net fixed assets 90,000 Common equity200,000
Total assets$300,000 Total liabilities and equity$300,000
The company's new owner thinks that inventories are excessive and can be lowered to the point where the current ratio is equal to the industry average, 2.5x, without affecting either sales or net income. If inventories are sold off and not replaced so as to reduce the current ratio to 2.5x, if the funds generated are used to reduce common equity (stock can be repurchased at book value), and if no other changes occur, by how much will the return on equity (ROE) change?