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DUPONT ANALYSIS: Company V. Industry The DuPont formula relates return on equity (= net income ÷ Stockholders equity) to the company's net profit margin (= net income ÷ sales), asset turnover (= sales ÷ total assets), and equity multiplier (= total assets ÷ common equity). This Company is in an industry where the average net profit margin is 5.65%, the debt-toasset ratio (= total debt ÷ total assets) is 36.8%, and return on equity is 37.04%. For the company, the numbers are Balance Sheet, 12/31/2525 cash PP&E 2050 5000 7050 debt SE Income 1/1 - 12/31/2525 2650 sales 40890 4400 tot. costs 38600 7050 net income 2290 Use financial ratios to explain why the company's return-on-equity differs from its industry average. {ANSWER: Prepare a small table to describe the situation: ratio company industry 5.60% 5.65% profit margin 37.6% 36.8% debt ratio 5.80 4.14 asset turnover 52% 37% ROE The profit margin computation is straightforward (= net income ÷ sales), as is the debt-to-total assets ratio. The company asset turnover ratio is straightforward (=sales ÷ total assets) but for the industry you must compute the asset turnover from the dupont relation: return-on-equity = (net profit margin) x (asset turnover) x (equity multiplier) The equity multiplier, (=total assets ÷ stockholders equity), is exactly identical to 1/(1- debt-to-total assets.). Because the industry debt-to-total assets ratio is given as 36.8%, then the equity multiplier is 1.5823. Find the industry asset turnover as: 0.3704 = (.0565) x (asset turnover) x (1.5823), or asset turnover = 4.14. This company ratio differs a lot from the industry average. The company's ROE is bigger than the average firm in the industry because the company gets more sales per dollar of assets. Maybe they carry very little inventory or rely on labor more than on PP&E.