DuPont Analysis Overview DuPont analysis (also called the DuPont identity or DuPont model) decomposes return on equity (ROE) into the operational and financial drivers that produce it. It helps managers and investors identify whether changes in ROE come from profitability, asset use efficiency, or financial leverage. Key takeaways:
Breaks ROE into component ratios to pinpoint strengths and weaknesses.
Useful for comparing operational efficiency among peers.
* Has existed since 1919 and remains widely used, but depends on the quality of accounting inputs. Explore More Resources
Core idea and basic formula ROE is net income divided by shareholders’ equity. The DuPont approach expands ROE into three multiplicative components: ROE = Net Profit Margin × Asset Turnover × Equity Multiplier Explore More Resources
Where:
Net Profit Margin = Net Income / Revenue
Asset Turnover = Revenue / Average Total Assets
* Equity Multiplier = Average Total Assets / Average Shareholders’ Equity Multiplying these three yields ROE and shows whether ROE changes stem from margins, asset efficiency, or leverage. Explore More Resources
Components explained Net Profit Margin Measures profitability per dollar of sales:
Net Profit Margin = Net Income / Revenue Example: If a product sells for $1 and yields $0.15 net income, the margin is 15%. Improving margins (higher prices or lower costs) raises ROE directly. Explore More Resources
Asset Turnover Measures how effectively assets generate sales:
Asset Turnover = Revenue / Average Total Assets Example: $1,000 revenue on $100 in assets gives an asset turnover of 10. Asset turnover varies widely by industry (high for retailers, low for utilities). Rising asset turnover improves ROE. Explore More Resources
Equity Multiplier (Financial Leverage) Shows how much assets are financed by equity vs. debt:
Equity Multiplier = Average Total Assets / Average Shareholders’ Equity Example: $1,000 assets with $250 equity → equity multiplier = 4. Higher leverage can boost ROE but increases financial risk. Explore More Resources
3-step vs 5-step DuPont
* 3-step (common): ROE = (Net Income / Sales) × (Sales / Assets) × (Assets / Equity)
* 5-step (finer): ROE = (EBT / Sales) × (Sales / Assets) × (Assets / Equity) × (1 − Tax Rate)
* EBT = Earnings before tax
* The 5-step version separates pre-tax operating performance and the tax effect.
Example applications Hypothetical comparison Two peers improved ROE:
SuperCo: ROE improvement driven by higher net margin and better asset turnover (operational gains). Equity stayed roughly constant.
Gear Inc.: ROE improvement came solely from higher financial leverage (more debt), with no change in margin or turnover — a riskier, potentially unsustainable gain. Interpreting which improvement is preferable depends on sustainability and risk tolerance; operational improvements are generally more durable than leverage-driven gains. Explore More Resources
Real-world example (Walmart fiscal year ended Jan. 31, 2025) Reported figures:
Net income = $19.4 billion
Revenue = $681.0 billion
Total assets = $260.8 billion
Shareholders’ equity = $97.4 billion Computed components:
Profit margin = 19.4 / 681.0 = 2.85%
Asset turnover = 681.0 / 260.8 = 2.61
* Equity multiplier = 260.8 / 97.4 = 2.68 Explore More Resources
ROE = 2.85% × 2.61 × 2.68 ≈ 19.9% Limitations and cautions
* Relies on accounting data that can be manipulated (different accounting policies, one-time items).
* Lacks context—high or low component ratios require industry benchmarks and qualitative assessment.
* Seasonal factors and timing (use of averages) can distort comparisons.
* Increased ROE from leverage raises financial risk and may not create real operational value.
Practical use Use DuPont analysis to:
Diagnose which drivers are changing ROE.
Compare similar companies within an industry.
* Monitor management actions (cost control, asset use, capital structure). Explore More Resources
Always pair DuPont findings with industry context, trend analysis, and qualitative information about business strategy and risk.