CFA Level IFinancial Statement AnalysisHard
A company has a net profit margin of 8%, total asset turnover of 1.5x, and a financial leverage ratio (average total assets/average total equity) of 2.0x. Using the DuPont decomposition, what is the company's return on equity?
- A12.0%
- B16.0%
- C20.0%
- D24.0%
Show answer & explanationAnswer & explanation
Correct answer: D. 24.0%
ROE = Net profit margin × Asset turnover × Financial leverage = 0.08 × 1.5 × 2.0 = 0.24, or 24.0%.
Why the other options are wrong
- A. Incorrect — this omits the financial leverage multiplier.
- B. Incorrect — this understates the product of the three components.
- C. Incorrect — this is close but miscalculates the multiplication.
DuPont Decomposition of ROE
The three-factor DuPont model breaks ROE into net profit margin, asset turnover, and financial leverage to analyze the sources of equity returns.
- ROE = Net Profit Margin × Asset Turnover × Financial Leverage
- Net Profit Margin = Net Income/Sales
- Financial Leverage = Average Total Assets/Average Total Equity
Memory trick: Margin × Turnover × Leverage = ROE story