Du-Pont Analysis

By: Madan rajput Devendra Jain

What Does DuPont Analysis Mean?
An expression that breaks return on equity (ROE) down into three parts: profit margin, total asset turnover and financial leverage. It is known as "DuPont Analysis".

A method of performance measurement that was started by the DuPont Corporation in the 1920s. With this method, assets are measured at their gross book value rather than at net book value in order to produce a higher return on equity (ROE). It is also known as "DuPont identity".

Definition   DuPont Analysis is an approach to analyze the firm by evaluating inter relationships among many of the performance measures. The three components of DuPont measure the profitability. By identifying these factors/drivers we can concentrate on them and improve our efficiency. The DuPont chart makes an intra firm comparison among these three parameters for three years. In the Du-Pont Analysis we try to find out what are the factors/drivers that are causing the profits to move up. . efficiency and the degree of leverage of the firm.

Du-pont identity DuPont identity tells us that ROE is affected by three things: . which is measured by total asset turnover .Operating efficiency.Asset use efficiency. which is measured by profit margin .Financial leverage. which is measured by the equity multiplier (ROE = Profit Margin (Profit/Sales) * Total Asset Turnover (Sales/Assets) * Equity Multiplier (Assets/Equity)) .

the higher a company’s profit margin compared to its competitors. the better. Asset Turnover: It provides a measure of a firm’s efficiency in the use of its assets in to generate revenue. in general. Equity Multiplier: It is used to measure of financial leverage. The higher the number the better. Savvy investors understand that it is possible for a company with weak sales results and poor margins to artificially increase its ROE by taking on an extraordinary amount of debt. Looking at asset turnover can also help an investor to understand the company’s pricing strategy as companies with lower profit margins tend to see higher asset turnover. While profit margins vary by industry.The Elements of the DuPont Analysis Net Profit Margin: It offers an indication of how much profit a company makes for every dollar of revenue it generates. allowing the investor to determine what portion of the ROE is the result of debt. .

Tax Exp. Equity .Du Pont analysis factor Factor’s Assets Turnover Calculation Revenue / Average Assest Profitability Interest EBIT / Revenue Interest Burden TaX Efficiency Leverage (EBIT .)/ EBIT 1 .Interest Exp.Interest Expenses Avg. Assets / Avg./(EBIT .

leverage ratio and profitability ratio’s Decision regarding product prices. per unit cost. .Importance of Du-Pont Analysis       Understanding the relationship among various ratio’s such as turnover ratio. Operating performance can be argumented. Helpful in risk adjustment Evaluate as every business is competing for limited capital resources. cost of capital of company or improve it. To know financial position. volume or efficiency. ratio of debt’s and equity used.

pharmaceutical. business institute.Application of dupont analysis 1. High leverage industries:Financial sector. High turnover industries:Groceries. Digital music product industries 3. IT industries. High margin industries:Fashion industry. Airlines industry. television. . banking sector. hospitality 2. Real estate (silicon valley).

Depicted Du Pont analysis through chart: .

Du-pont model .

Three major formula’s in dupont analysis 1.Equity Multiplier = Average Farm Assets Divided by Average Farm Equity . Operating Profit Margin Ratio = Net Farm Income from Operations + Interest Expense .Asset Turnover Ratio = Gross Revenue (Value of Farm Production) Divided by Average Farm Assets 3.Value of Unpaid Labor and Management Divided by Gross Revenue (Value of Farm Production) 2.

Du Pont analysis chart .

Dupont analysis case study on Hero-Honda Return on net worth in Hero Honda  .

Return on Capital employed in Hero Honda .

Return on total assets In Hero Honda .

. It shows that they are also undertaking measures to increase productivity. The company is maintaining cash which is optimum. Its sales/cash ratio has increased from 4166% to 16157%. which shows the efficient credit and follow up procedure. which reflects the after effect of a sound cash management policy. This is also the effect of working capital management policies. considering its future plans. Its sales/FA ratio increased from 925% in 01-02 to 1019% in 0304. The sales/debtors ratio has also increased. In this tough competition cost reduction is the only option available for increasing the profits.Following fact’s are stand out from du pont analysis of Hero Honda      Its cogs/sales ratio has fallen from 85% in 01-02 to 82% in 03-04. Sales/inventories ratio rose to 3186% in 03-04 from 2545% in 0102. This shows that Hero Honda is able to generate more sales from same amount of Fixed assets. This reflects the large scale cost reduction measures initiated by Hero Honda.

00 0.02 1. Equity multiplier 6.20 0. Interest expenses to avg.30 0.DuPont Analysis for Two Farms Farmer A 0. Operating profit margin ratio (OPMR) Farmer B 0.03 1. farm assets 5. ROA (1*2) 4.50 0.060 0.02 2.043 0.05 2.12 0. ROE (3-4) * 5 . Assets turnover ratio(ATO) 3.36 0.

Farmer A has a higher leverage ratio (equity multiplier) than Farmer B. A low or declining ROE is a signal that there may be a weakness. the levers of the DuPont system indicate that the sources of the weakness are different. expense control. . However. Furthermore.Conclusion of farm comparison    Farmer A and Farmer B each have a 2 % ROE. Expressing the individual components rather than interpreting ROE itself may identify these weaknesses more readily. using the DuPont analysis can better determine the source of weakness. The DuPont analysis is an excellent method to determine the strengths and weaknesses of a farm. To improve profit margins. To improve asset turnover Farmer A needs to increase production efficiency or price levels or reduce current or noncurrent assets. Asset management. Farmer A has a stronger operating profit margin ratio but lower asset turnover compared to Farmer B. The weak ratios for each farm may be decomposed into components to determine the potential sources of the weakness. production efficiency or marketing could be potential sources of weakness within the farm. However. Farmer B needs to increase production efficiency or price levels more than costs or reduce costs more than revenue.

investor can examines how effectively a company is using equity.Profit margin 2.Conclusion The types of analysis that examines a company’s return on equity (ROE) by breaking it into three main component’s: 1. Assets turnover (sales divided by assets). since poorly performing component’s will drag down the overall figure. financial leverage factor. The higher the result the higher the return on equity. Assets turnover 3. By breaking the ROE into three distinct part’s. To calculate a firm ROE through Du pont analysis Multiply the profit margin (net income divided by sales). (ROE= Profit margin * Assets turnover * Leverage factor) . and leverage factor ( total assets divided by shareholder equity) together.