Concept and types of return
Profitability reflects a company's ability to control costs and reflects the correctness and the performance of the selected pricing policy. Also an indicator often used to assess the operating efficiency of the companies.
The profitability calculations are often carried out quarterly and annually, monitoring its dynamics compared to the previous period. The cost-benefit analysis should be performed on each group produced (sold) goods.
In economic analysis there are several varieties of profitability, the most commonly used:
- profitability of sales – reflects the effectiveness of the financial activities of the organization, shows what portion of revenue goes to profit;
Profitability = net income from sales (services)/cost*100%.
Profit margin = net profit/ revenue*100%.
- profitability of production - shows how efficiently used the assets of the company.
There are also the profitability of assets and productive assets (indicator reflects the percentage of profit earned on average assets or productive assets), return on equity (a measure of efficiency of use of own means of the company or the Bank). When evaluating investment projects used the indicator of the profitability of investments - it is calculated as the ratio of net profit to the cost of the initial investment.
The essence of negative profitability
Negative profitability is an important signal for the company management, it shows the percentage loss of production or sales in each ruble invested in the product. It turns out that the cost of production higher than the profit from its sale, and the price isn't high enough to cover all costs.
The higher the negative value of profitability in absolute terms, the more the price deviates from its efficient equilibrium value.
Parameter negative profitability is symbolic and reflects the inefficiency of the enterprise.Negative margin indicates that the company inefficiently manages its own assets.
With regard to profitability, the negative profitability - evidence that the sum of the costs of production and sales of products above the price of its sale.
If the profitability of the company show a negative value, this is the reason for the price increase on products or to find ways to reduce its cost. A positive effect in this case may also have a assortment optimization.
For investors a negative return on sales is a signal for withdrawal from the project. This figure shows that capex has started to work less.
Advice 2: What is the return on sales
Profitability is one of the indicators of business activity of the enterprise which are necessary for making management decisions. It is used in financial statement analysis, valuation of economic activity, the pricing process. The level of effectiveness of sales characterizes their profitability.
Profit margin shows what part of the revenue of the enterprise has profit, and it is their ratio:
Profit margin = Profit / Revenue x 100%.
Thus its calculation can be carried out by different types of profit: gross, operating, that is, from the main activity, and clean. Formula of computation as follows:
- Return on sales (gross profit = gross profit / Revenue x 100%;
- Operating margin = Profit from sales / Revenue x 100%;
- Net profit margin = Net profit / Revenue x 100%.
The profitability ratio net profit margin shows how much net profit the enterprise has from 1 rouble of sales, i.e. how much available funds remain available after funding for core activities, interest payments on loans, other expenses and taxes. The profitability ratio's gross profit margin characterizes the main activities of the company and to determine the share of costs in sales and trading margin.
Profitability of sales is calculated according to the profit and loss statement (forms No. 2 of the balance sheet) at the reporting date. For objective evaluation it is necessary to consider its dynamics, that is, for several periods. Based on the analysis of changes of the coefficient we can conclude about the effectiveness of business management: the growth of evidence of competent and correct decision of the leadership of the organization and the reduction of potential problems in operation.
The change in the coefficient of profitability of sales in one direction or another can be attributed to various factors: the increase in the absolute rate of profit, reduced sales, etc. it is Important to identify the reasons: the higher prices for the products and services may be normal or low value, but if it is associated with a decline in consumer demand and interest in the company's product, it is regarded as a disturbing factor.
On the background of the implementation of advanced technologies or the development of new activities often marked by a temporary reduction of profitability of sales. However, when correctly chosen strategy of development in the future, the investments will pay off, and profit margin may rise to previous levels, and to overcome it.