Janet Ludlow is a recently hired analyst. After describing the electric toothbrush industry, her first report focuses on two companies, QuickBrush Company and SmileWhite Corporation, and concludes:

QuickBrush is a more profitable company than SmileWhite, as indicated by the 40%

sales growth and substantially higher margins it has produced over the last few years.

SmileWhite’s sales and earnings are growing at a 10% rate and produce much lower margins. We do not think SmileWhite is capable of growing faster than its recent growth rate of 10%, whereas QuickBrush can sustain a 30% long-term growth rate.

a. Criticize Ludlow’s analysis and conclusion that QuickBrush is more profitable, as defined by return on equity (ROE), than SmileWhite and that it has a higher sustainable growth rate. Use only the information provided in Tables 19B and 19C. Support your criticism by calculating and analyzing:

• The five components that determine ROE.

• The two ratios that determine sustainable growth: ROE and plowback.

b. Explain how QuickBrush has produced an average annual earnings per share (EPS) growth rate of 40% over the last two years with an ROE that has been declining. Use only the information provided in Table 19B.  p-696