A Comprehensive Example

To illustrate how the DuPont Model is used, let's use the following hypothetical balance sheet and income statement figures from a company we will call Cobain Enterprises (Exhibit 7-7 and Exhibit 7-8, respectively).

Exhibit 7-7: Cobain Enterprises's balance sheet.

Average 2004	$ Millions	% to Sales
Accts. receivable	140	2.0
Inventory	1,235	7.8
Other current assets	107	1.5
Total current assets	1,482	21.3
Less current liabilities	(1,256)	18.1
Equals working capital	226	3.3
Net fixed assets	2,017	29.0
Total assets	2,243	32.3
LT liabilities	1,266	18.2
Preferred stock	255	3.7
Common equity	722	10.3
Total liabilities plus equity	2,243	32.3
[*]Cash flow = net income + depreciation

Year Ended 12/31/2001	$ Millions	% to Sales
Net Sales	6,945	100.0%
Gross margin	1,672	24.1%
Operating expenses	1,460	21.0%
Operating profit	212	3.1%
Depreciation and amortization	40	0.6%
Interest	65	0.9%
Other income	8	0.1%
Income before tax	155	2.2%
Income taxes	50	0.7%
Net income	105	1.5%
Depreciation and amortization	40	0.6%
Cash flow[*]	145	2.1%
[*]Cash flow = net income + depreciation

Exhibit 7-8: Cobain's Coffee Roasters income statement.

Let's work through an example of how a hypothetical SA will affect ROA using DuPont. Assume that Cobain is looking to implement a $25 million supply chain management technology. Assume the following changes to the financial statement (Exhibit 7-9).

Exhibit 7-9: Impact on the adjusted ROA.

• Fixed assets will increase by $20 million for the acquisition of the software and hardware associated with the system. The depreciation and amortization is $5 million per year over a five-year life. Depreciation and amortization would reduce the value of the assets. Total assets would become $2,263 million (total assets of $2,243 million plus $25 million, less $5 million in amortization and depreciation).

• Assume a cash flow improvement of $9 million (see Exhibit 10-3 in Chapter 10 for details). Remember that this is a model that measures short-term impacts, so we can include these costs, assuming that they may not be incurred in future periods.

Exhibit 7-9 shows an increase in adjusted ROA from 6.5 percent to 6.8 percent. After looking at the drivers of ROA (cash flow margin and asset turnover), the impact to ROA comes from a lift in the cash flow margin. Asset turnover offsets the cash flow margin increase as it declines from 4.5 sales to 4.4 sales ( meaning "times").