DuPont Analysis

Anatomy of Returns

Total Assets = Total Liabilities + Total Equity

Total amount of

resources used in the

business to make

profits

How much of

that assets are

financed by the

outsiders that

is, debt capital.

How much of

assets are

financed by

proprietor is,

equity capital.

So, when a firm make profits, those profits are a return

to all the assets, some of which is a return to

shareholders’ money invested (equity capital) and

some of which is a return to the outsiders/borrowed

money (debt capital).

Anatomy of Returns – Case 1

Rs.1,000 of Total Assets (all financed by

shareholder) generated Rs.500 of total

revenue, Rs.400 of total expenses. Compute

ROA/ROCE and ROE

100 1000

= ROA = 10%

Since it is all shareholders’ money, ROE = 10%

Anatomy of Returns – Case 2 Rs.1,000 of Total Assets (financed Rs.700 by

Shareholders and Rs.300 @8% borrowed from a bank)

generated Rs.500 of total revenue, Rs.400 of expenses

Rs.700

76 700

=

Rs.300

(Equity Capital)

(Debt capital)

100 1000

=

Total Assets Rs.1000 ROA = 10%

ROE = 10.9%

ROA>i-rate The extra is payment to equity 10% 8% Thus 2% additional to Equity

leveraged someone else’s money to

increase the return to shareholders’ money.

Anatomy of Returns – Case 3 Rs.1,000 of Total Assets (financed Rs.700 by

Shareholders and Rs.300 @15% borrowed

from a bank) generated Rs.500 of total

revenue, Rs.400 of expenses before interest

Rs.700

55 700

=

Rs.300

(Equity Capital)

(Debt capital)

100 1000

=

Total Assets Rs.1000 ROA = 10%

ROE = 7.9%

Making 10% on all assets, but paying 15% on debt portion

(ROROA<i-rate), and the difference must come from equity.

So, How is return generated?

•Through Three Primary Levers

– By being efficient with your operations

– By getting the most out of your assets

– By leveraging your money

Analyzing Financial Performance

•By analyzing each of the three levers that

leads to Return on Equity – ROE:

– Efficiency of operations

– How well assets are working into profits

– Leverage

DuPont System

•Developed in 1919 by a finance executive at E.I. du Pont de Nemours and Co

•“DuPont Financial Analysis Model is a rather

straightforward method for assessing the factors

that influence a firm’s financial performance.”

(Gunderson, Detre, and Boehlje, AgriMarketing

2005)

DuPont System – What is It?

•The system identifies profitability as

being impacted by three different levers:

1. Earnings & efficiency in earnings

2. Ability of your assets to be turned into

profits

3. Financial leverage

Earnings/Profitability

Efficiency Leverage

The DuPont Equation

[Return on Equity (ROE)]

Equity

PATROE

The DuPont Equation

[Return on Equity (ROE)]

Equity

AssetsX

Assets

SalesX

Sales

PATROE

Equity

PATROE

The DuPont Equation

[Return on Equity (ROE)]

XityprofitabilROE

XSales

PATROE

)(

The DuPont Equation

[Return on Equity (ROE)]

XefficiencyXityprofitabilROE

XAssets

SalesX

Sales

PATROE

)()(

The DuPont Equation

[Return on Equity (ROE)]

)()()( leverageXefficiencyXityprofitabilROE

Equity

AssetsX

Assets

SalesX

Sales

PATROE

The DuPont Equation

[Return on Equity (ROE)]

)()()( leverageXefficiencyXityprofitabilROE

Equity

AssetsX

Assets

SalesX

Sales

PATROE

The DuPont Equation

[Return on Equity (ROE)]

)()()( leverageXefficiencyXityprofitabilROE

Equity

PAT

Equity

AssetsX

Assets

SalesX

Sales

PATROE

The DuPont Equation

[Return on Equity (ROE)]

Equity

AssetsX

Assets

SalesX

Sales

PATROE

Equity

PATROE