By Kapitall:
There is a lot more to profitability than whether a company’s bottom line is increasing. Profits can come from several sources, with some better than others.
To get a deeper look into a company’s profit trends, we performed DuPont analysis on stocks that have hit new 52-week highs during recent sessions.
DuPont analyzes return on equity (ROE, or net income/equity) profitability by breaking ROE up into three components:
ROE
= (Net Profit/Equity)
= (Net profit/Sales)*(Sales/Assets)*(Assets/Equity)
= (Net Profit margin)*(Asset turnover)*(Leverage ratio)
We therefore focus on companies with the following positive characteristics: Increasing ROE along with,
- Decreasing leverage, i.e. decreasing Asset/Equity ratio
- Improving asset use efficiency (i.e. increasing Sales/Assets ratio) and improving net profit margin (i.e. increasing Net Income/Sales ratio)
Companies with all of these characteristics are experiencing increasing profits due to operations and not to increased use of financial leverage.
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