DuPont analysis explained

DuPont equation tutorial. ROE: Return On Equity. ROA: Return On Assets. ROS: Return On Sales. This video takes you through the financial ratios of the ROE formula, the ROA formula, the ROS formula, asset turnover and leverage, and shows how they fit together. The very basics and the very essence of financial ratio analysis!

ROE or Return On Equity is defined as Net Income divided by Equity. In other words, the net profit that a company has generated during a year, divided by the book value of the shareholder capital invested in the company. ROE is a measure of the rate of return to shareholders.

⏱️TIMESTAMPS⏱️
00:00 ROE ROA ROS
00:20 Financial statements
00:39 ROE definition
02:03 DuPont analysis
03:18 ROA definition
04:05 Leverage
04:51 Extended DuPont equation

The 3-part version of the DuPont analysis shows you that ROE = ROS x asset turnover x leverage. The first two elements together, ROS multiplied by Asset Turnover, form ROA, Return On Assets. This ratio of ROA has many variations, some companies measure ROIC Return On Invested Capital, ROTC Return On Total Capital, ROCE Return On Capital Employed, or RONOA Return On Net Operating Assets. These are all variations on the same theme, you look at the returns (profit) generated during a period, and compared them to the capital invested in the company to generate those returns. ROA is an indicator of business success, influenced by two factors: ROS or margin performance, and asset turnover which you could call speed or velocity.

ROS or Return On Sales, is Net Income divided by Sales, which is an indicator of the relative profitability or operating efficiency: how many cents of profit are generated for every dollar of sales?

Asset Turnover is calculated as Sales divided by Assets, a measure of asset use efficiency.

The last element of the DuPont 3-part equation is leverage, Assets divided by Equity.

You can expand the DuPont formula to 5 steps, if you want even more analytical insight into the drivers of where your ROE increase or decrease is coming from. The two elements on the right stay the same: asset turnover and leverage. However, ROS gets split into three elements: Net Income divided by Earnings Before Tax, which is called tax burden, Earnings Before Tax divided by EBIT, called interest burden, and EBIT divided by sales, which is EBIT%. In a lot of companies, improving the EBIT% and increasing the Asset Turnover, are important targets for the management team, whereas the other elements are for the finance, treasury and tax departments to manage.

Philip de Vroe (The Finance Storyteller) aims to make strategy, finance and leadership enjoyable and easier to understand. Learn the business vocabulary to join the conversation with your CEO at your company. Understand how financial statements work in order to make better stock market investment decisions. Philip delivers training in various formats: YouTube videos, classroom sessions, webinars, and business simulations. Connect with me through Linked In!

[antonioromero]

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[julieflannery]

You made me laugh out loud (in a good way) when you asked if we wanted "even more excitement" when hearing about the 5-STEP DuPont formula.
Thank you for the video. :)

[patrickblackrock]

Now I realised finance and accounting is a language, with each day I become more fluent in it.

[mhugos]

Clearest explanation of DuPont analysis technique that I have seen. Thank you. Now I understand

[OreConst]

Not to be confused with the DuPont approach that Royce DuPont devised for a 1000% ROI

[princesa]

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[WinterBear]

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[globalwarming]

Great analysis - short and sweet. Thank you!

[nomnombr]

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[cbaide]

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[moonflower_]

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[vijetavadi]

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[aliali]

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[ClaudiaRamirez-bpte]

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[nealshah]

Thank you for such informative Video...could you please make a video on Growth Ratio ie ROE x RR

[master]

Clear explanation. Revising for financial analysis exam and you are making my nights easier. Btw are you from Holland ? Accent sounds familiar. Thank you ! :D

[jossy]

Thank-you Sir! I really appreciate the detail and I also got the trivia question right!

[sir.yarrulous]

Hey, may I please know why the formula, Assets / equity, is used for financial leverage instead of Debt / Equity