3.4 The DuPont Identity

The difference between ROA and ROE is a reflection of the use of ______ or _____

debt financing, financial leverage

ROE

net income / total equity

ROE equation (decomposed to 2 elements)

ROA * equity multiplier

ROE (extended DuPont equation)

profit margin x total asset turnover x equity multiplier

ROE is affected by 3 things (which are measured by profit margin, total asset turnover, and equity multiplier)

operating efficiency, asset use efficiency, financial leverage

profit margin (operating efficiency) summarizes the _________

income statement

total asset turnover (asset use efficiency) summarizes the ___________

left-hand side of balance sheet

leverage ratio (financial leverage) summarizes the __________

right-hand side of balance sheet

___________ is measured by profit margin

operating efficiency

_____ is measured by total asset turnover

asset use efficiency

_____ is measured by the equity multiplier

financial leverage

The amount of leverage a firm uses is governed by its ____________ policy

capital structure

ROE can be expressed as the product of 2 identities. Which 2?

ROA, equity multiplier

ROE can be expressed as the product of 3 ratios. Which 3?

profit margin, total asset turnover, equity multiplier

What figure do all profitability ratios have in the numerator?

net income

Turnover ratios all have one of two figures as the numerator. What are these 2 figures?

sales, COGS

Limitations of ROE: 1) ROE considers only one accounting _________ (which does not consider any of the company's _____ plans)

period of performance, long-term

Limitations of ROE: 2) ROE does not take into account any ____ the firm took to boost ROE. (E.g., a firm could use more ____ to increase ROE)

risks, debt

Limitations of ROE: 3) ROE is the ______ of common equity. This is rarely a close approximation of the ______ of the firm's equity securities

book value, market value

For most firms, _____ exceeds _____

market value, book value