Question

Explain the importance of each component of the DuPont Identity (return on equity, profit margin, total asset turnover, equity multiplier).

Answer 1

A. Return on equity component of DuPont analysis will be focusing upon the overall capacity of the company in order to maximize the return on equity and it would be by cutting the cost in order to maximize the return on equity.

Return on equity is reflecting the overall rate of return which will be earned by the equity shareholders of the company and every company will want to maximize the return on equity because it will be reflecting the increasing ability of the company in maximization of earning.

B. Profit margin is the overall rate of margin of profit on the overall net revenues so it will be reflecting the ability of the company in order to generate the profit out of net revenue and it is a reflection of the pricing power of the company and the ability of the company to generate a higher amount of margin on its sales so the company will always be looking for generate of higher profits on higher volumes so it will be helpful in maintenance of higher margins.

C. Total asset turnover will be reflecting the ability of the company in order to enhance its turnover out of the uses of its total assets So, Como will always try to maximize the turnover by efficiently using its asset and hence total asset turnover will be reflecting the efficiency on the part of the company to maximise its sales by effectively utilising its assets

D. Equity multiplier will be reflecting the ability of the company to take higher leverage and maximize the equity of the company and it will be reflecting the ability of the company to maximize the the equity portion of the company and it will be helpful in stability of the company