Q:
A:
Demonstrate,
using equations from the Dupont or similar ratio model,
how and why a highmargin business such as an Auto Dealership
(AD) can have the same Return
on Equity as a lowmargin donut shop business (DS).
The key to this question is the relationship between
margins and turns in the ROE portion of ratio models
and formulas.
ROE = NI/E = Sales/E * NI/Sales
Or in other words,
ROE = Margins * Equity Turns
In the case of this example, assume AD and DS both have a ROE of 12%. From the model:
AD = .24 * .5 = .12 ("Half a turn")
DS = .01 * 12 = .12 ("12 turns")
In
other words when generating ROE:
higher margins times lower turns = lower margins times
higher turns
(Don't confuse, but relate, turns with returns).
MORE FAQS

What level of return on equity is common for a company in the banking sector?

How do you calculate return on equity (ROE)?

What is the average return on equity for a company in the financial services sector?

Are companies with a negative return on equity (ROE) always a bad investment?

What is the average return on equity for a company in the forest products sector?

How do you determine a tangible asset's useful life?

What are the main differences between return on equity (ROE) and return on assets (ROA)?

What is the difference between a currency and interest rate swap?

What is the difference between ROCE and ROE?

Should I expect growth or income from buying stock in the consumer packaged goods sector?

What are some of the advantages and disadvantages of DuPont Analysis?

How does DuPont Analysis measure profitability?

What is the average return on equity for a company in the aerospace sector?

What is the average return on equity for a company in the internet sector?

What are the differences between threestep and fivestep DuPont Analysis?

What are the Differences Among a Real Estate Agent, a Broker and a Realtor?

What is the difference between Magna Cum Laude and Summa Cum Laude?

What schools did Warren Buffett attend on his way to getting his science and economics degrees?

How many attempts at each CFA exam is a candidate permitted?
RELATED FAQS

What level of return on equity is common for a company in the banking sector?
Discover what the average return on equity (ROE) ratio is for companies in the banking industry, and understand the significance ... 
How do you calculate return on equity (ROE)?
Return on equity (ROE) is a ratio that provides investors with insight into how efficiently a company (or more specifically, ... 
What is the average return on equity for a company in the financial services sector?
Learn the importance of calculating a company's return on equity and what businesses in the financial services industry average ... 
Are companies with a negative return on equity (ROE) always a bad investment?
Any metric that uses net income is basically nullified as an input when a company reports negative profits. Return on equity ... 
What is the average return on equity for a company in the forest products sector?
Investing in the forestry sector can provide a hedge against other asset classes, but investors should be aware of the sector's ... 
How do you determine a tangible asset's useful life?
Learn what the average return on equity for a company in the chemicals sector is and what factors influence changes in the ...
RELATED TERMS

Profitability Ratios
A class of financial metrics that are used to assess a business's ... 
Margin
1. Borrowed money that is used to purchase securities. This practice ... 
Asset Turnover Ratio
The amount of sales generated for every dollar's worth of assets ... 
Discount Margin  DM
The return earned in addition to the index underlying the floating ... 
Leverage Ratio
Any ratio used to calculate the financial leverage of a company ... 
Financial Modeling
The process by which a firm constructs a financial representation ...