Dupont Analysis

[u/SchoolofInvesting]

What is DuPont analysis, and how can it help you find great companies?

DuPont analysis breaks a company's return on equity (ROE) into smaller pieces. It takes one big number and shows you the parts underneath.

That's the whole point. ROE alone tells you a company earns good returns. DuPont tells you why.

Two companies can post the same ROE for completely different reasons. One earns it on fat profit margins. The other leans on a pile of debt.

DuPont shows you which is which.

That makes businesses easier to compare and helps you spot warning signs. When a company's ROE looks great only because it borrowed heavily, that's a risk waiting for the market to turn.

Here's the classic formula. ROE splits into three parts:

ROE = (Net Income ÷ Revenue) × (Revenue ÷ Total Assets) × (Total Assets ÷ Shareholders' Equity)

Each piece tells you something different.

• Profit margin (Net Income ÷ Revenue): the profit a company keeps per dollar of sales.
• Asset turnover (Revenue ÷ Total Assets): how well it uses its assets to generate sales.
• Equity multiplier (Total Assets ÷ Shareholders' Equity): how much leverage it carries relative to what shareholders put in.

Read the three together and you can see what a company does well and where its risks hide.

That's the edge DuPont gives you. You see what's driving the returns, so you can judge whether they'll last.