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The DuPont equation


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Published in: Economy & Finance, Business
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The DuPont equation

  1. 1. The DuPont Equation ROE = PM * AT * EM Where: ROE = Return on equityROE represents the percentage return on dollars invested in the firm ROE is important ratio to investors
  2. 2. The DuPont Equation – Part 1 - PM ROE = PM * AT * EM PM = Profit margin PM = Net income/Total revenues PM represents the percentage return on total revenues The higher the PM, the better management is doing at controlling costs
  3. 3. The DuPont Equation – Part 2 - AT AT = Asset turnover AT = Total revenues/Total assets Expressed as a number, the AT tells you how many dollars in revenue is produced by each dollar invested in assets. A higher AT tells us that assets are being managed efficiently
  4. 4. The DuPont Equation – Part 3 - EM EM = Equity multiplier EM = Total assets/Total equity If rearranged, EM = 1+(Total liabilities/Total equity) EM is a financial leverage measure; the higher the EM, the more reliant the firm is on debt
  5. 5. The DuPont Equation Quick and relatively simple way to measure the financial health of a firm Profit margin tells you how effective management is at controlling costs Asset turnover tells you how efficiently the assets are being used Equity multiplier tells you how financially levered the firm is; that is, it tells you how dependent the firm is on raising capital with debt, rather than equity. While there are advantages to debt, too much debt can be problematic.