DuPont Analysis (also known as the dupont identity, DuPont equation, DuPont Model or

the DuPont method) is an expression which breaks ROE (return on equity) into three parts.
The name comes from the DuPont Corporation that started using this formula in the 1920s.
DuPont explosives salesman Donaldson Brown invented this formula in an internal efficiency
report in 1912.[1]
Contents
[hide]

1Basic formula

2ROE analysis
2.1Examples

2.1.1High margin industries

2.1.2High turnover industries

2.1.3High leverage industries

3ROA and ROE ratio

4References

5External links

Basic formula[edit]
ROE = (Profit margin)*(Asset turnover)*(Equity multiplier) = (Net
profit/Sales)*(Sales/Assets)*(Assets/Equity)= (Net Profit/Equity)

Profitability (measured by profit margin)

Operating efficiency (measured by asset turnover)

Financial leverage (measured by equity multiplier)

ROE analysis[edit]
The Du Pont identity breaks down Return on Equity (that is, the returns that investors receive
from the firm) into three distinct elements. This analysis enables the analyst to understand the
source of superior (or inferior) return by comparison with companies in similar industries (or
between industries).

The Du Pont identity is less useful for industries such as investment banking, in which the
underlying elements are not meaningful. Variations of the Du Pont identity have been developed
for industries where the elements are weakly meaningful.

Examples[edit]
High margin industries[edit]
Other industries, such as fashion, may derive a substantial portion of their competitive advantage
from selling at a higher margin, rather than higher sales. For high-end fashion brands, increasing
sales without sacrificing margin may be critical. The Du Pont identity allows analysts to determine
which of the elements is dominant in any change of ROE.
High turnover industries[edit]
Certain types of retail operations, particularly stores, may have very low profit margins on sales,
and relatively moderate leverage. In contrast, though, groceries may have very high turnover,
selling a significant multiple of their assets per year. The ROE of such firms may be particularly
dependent on performance of this metric, and hence asset turnover may be studied extremely
carefully for signs of under-, or, over-performance. For example, same store sales of many
retailers is considered important as an indication that the firm is deriving greater profits from
existing stores (rather than showing improved performance by continually opening stores).
High leverage industries[edit]
Some sectors, such as the financial sector, rely on high leverage to generate acceptable ROE.
Other industries would see high levels of leverage as unacceptably risky. Du Pont analysis
enables third parties that rely primarily on their financial statements to compare leverage among
similar companies.

ROA and ROE ratio[edit]

The return on assets (ROA) ratio developed by DuPont for its own use is now used by many
firms to evaluate how effectively assets are used. It measures the combined effects of profit
margins and asset turnover.[2]

The return on equity (ROE) ratio is a measure of the rate of return to stockholders.
[3]

Decomposing the ROE into various factors influencing company performance is often

called the Du Pont system.[4]

Where

Net income = net income after taxes

Equity = shareholders' equity

EBIT = Earnings before interest and taxes

This decomposition presents various ratios used in fundamental analysis.

The company's tax burden is (Net income Pretax profit). This is the proportion
of the company's profits retained after paying income taxes. [NI/EBT]

The company's interest burden is (Pretax income EBIT). This will be 1.00 for a
firm with no debt or financial leverage. [EBT/EBIT]

The company's operating income margin or return on sales (ROS) is (EBIT

Sales). This is the operating income per dollar of sales. [EBIT/Sales]

The company's asset turnover (ATO) is (Sales Assets).

The company's leverage ratio is (Assets Equity), which is equal to the firm's
[[debt to equity ratio]+1] . This is a measure of financial leverage.

The company's return on assets (ROA) is (Return on sales x Asset turnover).

The company's compound leverage factor is (Interest burden x Leverage).

ROE can also be stated as:[5]

ROE = Tax burden x Interest burden x Margin x Turnover x Leverage
ROE = Tax burden x ROA x Compound leverage factor
Profit margin is (Net income Sales), so the ROE equation can be restated:

Gross working capital equals to current assets. Working capital is

calculated as current assets minus current liabilities. If current

assets are less than current liabilities, an entity has a working

capital deficiency, also called a working capital deficit.