(a) Given below is the data of two firms in the same industry: | Particulars | Firm A (₹) | Firm B (₹)…

(a)(i) RoE by DuPont analysis and the investors' choice

The DuPont identity splits return on equity into three drivers: RoE = net profit margin × total asset turnover × equity multiplier, that is, (net profit ÷ sales) × (sales ÷ total assets) × (total assets ÷ equity). The data give no EBIT, interest or tax, so the three-step form is used.

Firm A: net profit margin = 25,000 ÷ 1,25,000 = 20%; asset turnover = 1,25,000 ÷ 75,000 = 1.67 times; equity multiplier = 75,000 ÷ 25,000 = 3.0. RoE = 0.20 × 1.667 × 3.0 = 100%.

Firm B: net profit margin = 10,000 ÷ 60,000 = 16.67%; asset turnover = 60,000 ÷ 30,000 = 2.0 times; equity multiplier = 30,000 ÷ 20,000 = 1.5. RoE = 0.1667 × 2.0 × 1.5 = 50%.

Direct check: 25,000 ÷ 25,000 = 100% and 10,000 ÷ 20,000 = 50%.

On RoE alone, investors would prefer Firm A, which earns twice B's return on shareholders' money. The decomposition qualifies this. Return on assets is the same for both, 25,000 ÷ 75,000 = 33.3% and 10,000 ÷ 30,000 = 33.3%, because A's higher margin is offset by B's faster asset turnover. A's higher RoE comes wholly from leverage: two-thirds of A's assets are financed by liabilities (₹50,000 against equity of ₹25,000) while B's liabilities are ₹10,000 against equity of ₹20,000. Whether A is truly better depends on the cost of that debt and on its risk, so a risk-averse investor may choose B, while one seeking higher returns would choose A.

(a)(ii) Limitations of DuPont analysis

DuPont analysis rests on accounting data, so it inherits their weaknesses. It uses historical book values, which depreciation methods, inventory valuation and one-time items can distort, and which window dressing can inflate. It is a snapshot of one period and gives little guide to the future or to cyclical and seasonal businesses.

A high RoE produced by a high equity multiplier signals higher financial risk, not better performance, and the analysis does not price that risk. It ignores the cost of capital, so it cannot show whether the return exceeds what shareholders require. It also ignores cash flow quality, liquidity and off-balance-sheet liabilities, and it breaks down when equity is negative or very small.

Comparison across firms is hard when accounting policies, asset ages and industries differ. The method shows what drives RoE but not why a ratio changed, and the three-step form hides the effect of interest and tax, which the five-step version separates.

(b) Factors in designing the capital structure

The aim is a mix of debt and equity that minimises the cost of capital and maximises firm value at acceptable risk. The main factors are these.

Cost of capital: debt is cheaper after tax than equity, but cost rises as leverage rises. Business risk: firms with stable earnings can carry more debt, while cyclical ones need less. Tax: interest is deductible, creating a tax shield that is valuable at a high tax rate. Cash-flow position: interest coverage and debt service ability must be adequate. Control: new equity dilutes ownership, while debt does not but brings covenants.

Flexibility: unused borrowing capacity should be kept for future needs. Size and stage: large, established firms get cheaper debt than small or start-up firms. Market conditions: the state of the capital market and interest rates affects timing and choice of instrument. Asset structure: firms with tangible assets that can be pledged can raise more debt. Industry norms, legal limits and management's attitude to risk also matter.

(c) Marketing channels, the value network and intermediaries

A value network is the set of the firm's suppliers, distributors and customers that together create, deliver and enhance value. Marketing channel decisions, such as choosing intermediaries, their number, roles and terms, shape that network, since the channel decides how well the product reaches customers and what service accompanies it.

Intermediaries are important for several reasons. They give wide reach at lower cost, since a manufacturer cannot contact every customer directly. They break bulk, assort goods from many producers into the variety a customer wants, and hold stock close to the buyer. They finance the channel through credit and bear the risk of inventory. They provide market information, promotion, installation and after-sales service. Contact efficiency rises because few transactions replace many.

Hindustan Unilever reaches rural India through distributors and kirana stores, and Project Shakti uses women entrepreneurs as the last link. Maruti Suzuki's dealer network sells, services and finances cars. Amazon's marketplace gives sellers reach and gives customers choice. Disintermediation is possible, as in direct-to-consumer sales, but firms that remove intermediaries must then perform these functions themselves.