Return on equity measures how much net income a company produces per rupee of shareholder equity, but a single aggregate percentage does not reveal which operational or financial factors drove the result. The 5-stage DuPont decomposition separates return on equity into five distinct multiplicative drivers:

1. Tax Burden = Net Income / Earnings Before Tax (EBT). Measures the proportion of pre-tax profit retained after corporate taxes.
2. Interest Burden = EBT / Earnings Before Interest and Taxes (EBIT). Reflects how much operating profit remains after financing charges. A value closer to 1.0 indicates minimal interest drag.
3. Operating Margin = EBIT / Revenue. Captures core operating efficiency before financing and tax considerations.
4. Asset Turnover = Revenue / Total Assets. Indicates the efficiency with which capital equipment and operational assets generate top-line sales.
5. Financial Leverage = Total Assets / Shareholders' Equity. Measures the degree to which assets are funded by liabilities rather than equity.

The Mathematical Identity

Multiplying all five factors together simplifies algebraically back to Net Income / Equity:

$$\text{ROE} = \left(\frac{\text{Net Income}}{\text{EBT}}\right) \times \left(\frac{\text{EBT}}{\text{EBIT}}\right) \times \left(\frac{\text{EBIT}}{\text{Revenue}}\right) \times \left(\frac{\text{Revenue}}{\text{Assets}}\right) \times \left(\frac{\text{Assets}}{\text{Equity}}\right)$$

Interpreting Changes Over Time

Separating ROE into these components allows an analyst to distinguish between quality improvements (such as widening operating margins or accelerating asset turnover) and balance-sheet leverage expansions (where higher borrowing inflates return on equity while increasing solvency commitments).