9. An analysis of company performance using DuPont analysis Walking down the hall of your office building with a sheaf of papers in her hand, your friend and colleague, Chloe, stepped into your office and asked the following. CHLOE: Do you have 10 or 15 minutes that you can spare? YOU: Sure, I've got a meeting in an hour, but I don't want to start something new and then be interrupted by the meeting, so how can I help? CHLOE: I've been reviewing the company's financial statements and looking for general ways to improve our performance, in general, and the company's return on equity, or ROE, in particular. Eric, my new team leader, suggested that I start by using a DuPont analysis, and I'd like to run my numbers and conclusions by you, to see if I've missed anything. Here are the balance sheet and income statement data that Eric gave me, and here are my notes with my calculations. Could you start by making sure that my numbers are correct? YOU: Give me a minute to look at these financial statements and to remember what I know about the DuPont analysis. Balance Sheet Data Cash $600,000 Accounts payable Accruals 1,200,000 Accounts receivable Inventory Current assets 1,800,000 3,600,000 Notes payable Current liabilities Long-term debt Total liabilities $720,000 240,000 960,000 1,920,000 2,400,000 4,320,000 720,000 2,160,000 2,880,000 $7,200,000 Income Statement Data Sales cost of goods sold Gross profit Operating expenses EBIT Interest expense $12,000,000 7,200,000 4,800,000 3,000,000 1,800,000 403,200 1,396,800 Common stock Net fixed assets 3,600,000 488,880 Retained earnings Total equity Total debt and equity Taxes Net income $907,920 Total assets $7,200,000 If I remember correctly, the DuPont equation breaks down our return on equity (ROE) into three component ratios: the , the ratio, and the And, according to my understanding of the DuPont equation and its calculation of ROE, the three ratios provide insights into the company's , effectiveness in using the company's assets, and Now, let's see your notes with your ratios, and then we can talk about possible strategies that will improve the ratios. In the table below, select whether each of the ratios is correct or incorrect. Cepeus Manufacturing Inc.DuPont Analysis Ratios Value Correct/Incorrect Value Correct/Incorrect Ratios Asset management ratio Total asset turnover 40.00 1.67 Profitability ratios Gross profit margin (%) Operating profit margin (%) Net profit margin (%) Return on equity (%) 11.64 12.61 Financing ratios Equity multiplier 35.17 1.67 - - CHLOE: OK, it looks like I've got a couple of incorrect values, so show me your calculations, and then we can talk strategies for improvement. YOU: I've just made rough calculations, so let me complete this table by inputting the components of each ratio and its value: Note: Do not round intermediate calculations for this part. Cepeus Manufacturing Inc.DuPont Analysis Calculation Value Ratios Profitability ratios Gross profit margin (%) Numerator Denominator Operating profit margin (%) Net profit margin (%) Return on equity (%) Asset management ratio Total asset turnover Financing ratios Equity multiplier CHLOE: I see what I did wrong in my computations. Thanks for reviewing these calculations with me. You saved me from a lot of embarrassment! Eric would have been very disappointed in me if I had himshowed my original work. So, now let's switch topics and identify general strategies that could be used to positively affect Cepeus's ROE. YOU: OK, so given your knowledge of the component ratios used in the DuPont equation, which of the following strategies should improve the company's ROE? Check all that apply. Increase the firm's bottom-line profitability for the same volume of sales, which will increase the company's net profit margin. Increase the cost and amount of assets necessary to generate each dollar of sales because it will increase the company's total asset turnover. O Decrease the amount of debt financing used by the company, which will decrease the total asset turnover ratio. Use more debt financing in its capital structure and increase the equity multiplier. CHLOE: I think I understand now. Thanks for taking the time to go over this with me, and let me know when I can return the favor