Question

DuPont system of analysis (LO3) Using the DuPont method, evaluate the effects of the following relationships for the Harpers Corporation: a. Harpers Corporation has a profit margin of 6 percent and its return on assets (investment) is 15.5 percent. What is its assets turnover?

b. If the Harpers Corporation has a debt-to-total-assets ratio of 50 percent, what would the firm's return on equity be?
c. What would happen to return on equity if the debt-to-total-assets ratio decreased to 30 percent?

Answer 1

Using the DuPont method, Harpers Corporation's asset turnover is approximately 2.58. With a debt-to-total-assets ratio of 50%, the return on equity is 31%. A decrease in the debt-to-total-assets ratio to 30% would likely decrease the return on equity.

Step-by-step explanation:

The DuPont analysis is a framework for analyzing a company's financial performance by decomposing return on equity into its components. Specifically:

1. For Harpers Corporation, to calculate its asset turnover, we use the formula: Asset Turnover = Return on Assets (investment) / Profit Margin. Given the numbers, it is 15.5% / 6%, resulting in an asset turnover ratio of approximately 2.58.
2. If Harpers Corporation has a debt-to-total-assets ratio of 50%, we can determine the return on equity using the formula: Return on Equity = Return on Assets * (1 + Debt-to-Equity Ratio). This gives us 15.5% * (1 + 1), which equals a return on equity of 31%.
3. If the debt-to-total-assets ratio decreased to 30%, the debt-to-equity ratio would also decrease, leading to a likely decrease in the return on equity, all else being equal.