Question

The following ratios have been calculated for the Solar Tech Company. Analyze the profitability of Solar Tech Company.

                                                                   2015           2014

Gross profit margin                                    37.0%         42.5%

Operating profit margin                             4.7%         21.7%

Net profit margin                                       1.3%           17.2%

Cash flow margin                                       20.4%         25.9%

Answer 1

Analysis of profitability-

1. Gross Profit Margin: The gross profit margin looks at the cost of goods sold as a percentage of sales. This ratio looks at how well a company controls the cost of its inventory and the manufacturing of its products and subsequently pass on the costs to its customers. The larger the gross profit margin, the better for the company. The calculation is: Gross Profit/Net Sales = ____%.

2. Operating Profit Margin: Operating profit is also known as EBIT and is found on the company's income statement. EBIT is earnings before interest and taxes. The operating profit margin looks at EBIT as a percentage of sales. The operating profit margin ratio is a measure of overall operating efficiency, incorporating all of the expenses of ordinary, daily business activity. The calculation is: EBIT/Net Sales = _____%.

3. Net Profit Margin: When doing a simple profitability ratio analysis, the net profit margin is the most often margin ratio used. The net profit margin shows how much of each sales dollar shows up as net income after all expenses are paid. For example, if the net profit margin is 5 percent, that means that 5 cents of every dollar are profit. The net profit margin measures profitability after consideration of all expenses including taxes, interest, and depreciation. The calculation is: Net Income/Net Sales = _____%. Both terms of the equation come from the income statement.

4. Cash Flow Margin: The Cash Flow Margin ratio is an important ratio as it expresses the relationship between cash generated from operations and sales. The company needs cash to pay dividends, suppliers, service debt, and invest in new capital assets, so cash is just as important as profit to a business firm. The Cash Flow Margin ratio measures the ability of a firm to translate sales into cash. The calculation is: Cash flow from operating cash flows/Net sales = _____%. The numerator of the equation comes from the firm's Statement of Cash Flows. The denominator comes from the Income Statement. The larger the percentage, the better.

Here in the question, all the margins are decreasing in comparison to last year's recorded margins, which is not beneficial for the company. Hence profitability is decreasing.