Profitability PPT

8/3/2019 Profitability PPT

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Analysis of

Financial StatementsProfitability ratio

Presented by:

Sumit kumar


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What is Profitability?

Is it always all about success?

It is about achieving what is expected orbetter.

It is about benchmarks and goals.

It is about managing risk and minimising

these. Profit means that revenues are higher than

costs.


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Profit Mastery Content

Seven Steps to Building Value

1. Plan Properly

2. Monitor Financial position

3. Understand Price, Volume, Cost

4. Manage Cash Flow

5. Manage Growth

6. Finance Properly

7. Plan for Transition


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Profitability can be achieved by:

Selling More

Selling at a better margin

Better use of Debt Capital More efficient use of assets (Ryanair Vs BA)


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Assets = Liabilities + Net Worth

BalanceSheet

Uses of Profits:

1. To pay for new assets2. To pay off debt3. To pay dividends to owners

Sales

IncomeStatement

Net Profit

Financial Operating Cycle

Efficiency

CashProfit


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What is Profitability?

How do we measure it?

Is how successful the business is.

Evaluation of the Income Statement

Comparison of results

Evaluate against benchmarks


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The roadtoimprove

profits


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Profitability Ratios

Measure the income or operating success of an

enterprise for a given period of time

WHO CARES? Everybody

WHY? A companys income affects:

its ability to obtain debt and equity financing

its liquidity positionits ability to grow


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These ratios measure the operatingefficiency of the firm and its ability to ensure

adequate returns to its shareholders.The profitability of a firm can be measuredby its profitability ratios.

Further the profitability ratios can bedetermined :

(i) in relation to sales and(ii) in relation to investments


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Profitability ratios

Profitability ratios in relation to sales:

gross profit margin

Net profit margin Expenses ratio


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Gross profit margin

A firm should have a reasonable grossprofit margin to ensure coverage of itsoperating expenses and ensure adequate

return to the owners of the business ie. theshareholders.

To judge whether the ratio is satisfactory

or not, it should be compared with thefirms past ratios or with the ratio of similarfirms in the same industry or with the

industry average.


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Gross Profit Margin

The percentage that a company makes onselling products after taking into accountthe direct costs of that sale. This is the

Gross Profit as a percentage of Sales.

Th I t f G P fit f


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The Importance of Gross Profit fora Higher Margin Business: The

Virtuous CycleGross Profit

Marketing & SalesAdministrationCustomer ServiceR & DPURCHASING

High grossmargin enablescompany tospend largeamounts for R&D,advertising,customer serviceetc.

Spending onR&D etc.enablecompany tochargepremiumprices, therebysupporting thehigher grossmargin


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Net profit margin

Another variant of net profit margin isoperating profit margin which is calculatedas:

Operating profit margin =

net profit before interest and tax x100

Net sales

Higher the ratio, greater is the capacity ofthe firm to withstand adverse economicconditions and vice versa


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Expenses ratioThese ratios are calculated by dividing the variousexpenses by sales. The variants of expenses ratios are:

Material consumed ratio = Material consumed x 100Net sales

Manufacturing expenses ratio = manufacturingexpenses x 100

Net salesAdministration expenses ratio = administration expensesx 100

Net salesSelling expenses ratio = Selling expenses x 100

Net salesOperating ratio = cost of goods sold plus operatingexpenses x 100

Net salesFinancial expense ratio = financial expenses x 100

Net sales


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Expenses ratio

The expenses ratios should be comparedover a period of time with the industryaverage as well as with the ratios of firms

of similar type. A low expenses ratio isfavourable.

The implication of a high ratio is that only a

small percentage share of sales isavailable for meeting financial liabilitieslike interest, tax, dividend etc.


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Profitability ratios

Profitability ratios in relation to investments

Return on assets (ROA)

Return on capital employed (ROCE)

Return on shareholders equity (ROE)

Earnings per share (EPS)

Dividend per share (DPS)

Dividend payout ratio (D/P)

Price earning ratio (P/E)


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Return on assets (ROA)

This ratio measures the profitability of the totalfunds of a firm. It measures the relationshipbetween net profits and total assets. The objectiveis to find out how efficiently the total assets have

been used by the management.Return on assets =

net profit after taxes plus interest x100

Total assetsTotal assets exclude fictitious assets. As the totalassets at the beginning of the year and end of theyear may not be the same, average total assetsmay be used as the denominator.


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Return on shareholders equity

This ratio measures the relationship ofprofits to owners funds. Shareholders fallinto two groups i.e. preference shareholdersand equity shareholders. So the variants of

return on shareholders equity are

Return on total shareholders equity =net profits after taxes x

100Total shareholders equity

.


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TOTAL SHAREHOLDERS EQUITYincludes preference share capital plusequity share capital plus reserves and

surplus less accumulated losses andfictitious assets. To have a fairrepresentation of the total shareholders

funds, average total shareholders fundsmay be used as the denominator


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Return on ordinary shareholders equity =

net profit after taxes pref. dividend x100 Ordinary shareholdersequity or net worth

ORDINARY SHAREHOLDERS EQUITY ORNET WORTH includes equity share capitalplus reserves and surplus minus fictitiousassets.


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Capital employed

Assets Financing

Fixed assetsEquity

Net working capitalLT Debt

Current assetsCurrent liabilities

Capitalemployed

Capitalemployed


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Debt500

Equity500

ROA and ROE:A Simple Illustration

Liabilities+ Equity Revenue 2000

(COGS)

(Expenses)

(Interest)

(Taxes)

Net Profit 100

1000

Assets

ROA = 10%

ROE = 20%

1,900


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Debt

667

Equity

333

ROA and ROE The Impact ofIncreased Leverage

Liabilities+ Equity Revenue 2000

(COGS)

(Expenses)

(Interest)

(Taxes)

Net Profit 100

1000

Assets

ROA = 10%ROE = 30%


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Key Factors Affecting Profit Margin

and Asset Turnover

Return onEquity

Pricing

Costs

Expenses

Product

Mix

Profit

Margin Return onAssets

Asset

Turnover

Inventory &

ReceivableManagement

Fixed Asset

Management

(leverage)


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Return on capital employed

(ROCE)

This ratio measures the relationship between net profit andcapital employed. It indicates how efficiently the long-termfunds of owners and creditors are being used.

Return on capital employed =

net profit after taxes plus interestx 100

Capital employed

CAPITAL EMPLOYED denotes shareholders funds and

long-term borrowings.To have a fair representation of the capital employed,average capital employed may be used as thedenominator.


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Earnings per share (EPS)

This ratio measures the profit available tothe equity shareholders on a per sharebasis. This ratio is calculated by dividing net

profit available to equity shareholders by thenumber of equity shares.

Earnings per share =

net profit after tax preferencedividend

Number of equity shares


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Dividend per share (DPS)

This ratio shows the dividend paid to theshareholder on a per share basis. This is abetter indicator than the EPS as it shows the

amount of dividend received by the ordinaryshareholders, while EPS merely showstheoretically how much belongs to theordinary shareholders

Dividend per share =

Dividend paid to ordinaryshareholders

Number of equity shares


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Dividend payout ratio (D/P)

This ratio measures the relationship between theearnings belonging to the ordinary shareholdersand the dividend paid to them.

Dividend pay out ratio =total dividend paid to ordinary shareholders x

100

Net profit after taxpreference dividendOR

Dividend pay out ratio = Dividend per share x100

Earnings per share


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Price earning ratio (P/E)

This ratio is computed by dividing the marketprice of the shares by the earnings pershare. It measures the expectations of the

investors and market appraisal of theperformance of the firm.

Price earning ratio = market price per share

Earnings per share

Profitability PPT

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