Measures of Profitability
The ratios for measuring the profits or performance of a company are known as the profitability ratios. These ratios measure the relationships between a company's earnings or income and the company's costs and expenses. Thus, by measuring different relationships of earnings and costs, the measures provide important information about a company's profitability.
Some of the most common profitability ratios are: Gross profit, net profit, operating margin, return on investments, return on assets, return on equity, earnings per share, and price per earnings.
Gross Profit
The gross profit is the surplus or difference between the net sales and the cost of goods sold.Gross Profit = Revenue/Sales − Cost of Goods Sold
Gross Profit Margin
The gross profit margin is the percentage of the profits over the revenue.Gross Profit Margin = (Revenue/Sales − Cost of Goods Sold) ÷ Revenue/sales × 100
Net Profit
The net profit is the net income that is derived from subtracting the net sales from total costs including taxes.Net Profit = Net sales - Total Costs
Operating Margin
The operating margin is a measure that shows the percentage of operating income to the company's revenues. Operating margin provides a glimpse of how much a company makes on every dollar it earns.Operating Margin = Operating income ÷ Net Sales
Return on Investments (ROI)
ROI is the measure of a company's returns compared to the cost of that investment. ROI is measure used by managers to make decisions of investing in a given project by measuring its ROI.Return on Investments (ROI) = (Gain from investment − Cost of Investment) ÷ Cost of Investment
Return on Assets (ROA)
ROA is the measure of a company's returns compared to its assets. The measure provides information of understanding how the company utilizes its assets to produce its revenue.Return on Assets (ROA) = Net Income ÷ Total Assets
Return on Equity (ROE)
ROE is the measure of a company's returns compared to the shareholder's equity. The measure provides information of understanding how a company utilizes the invested money from the shareholders to produce its revenue.Return on Equity (ROE) = Net Income ÷ Shareholders’ equity