Question

what are the strengths and weaknesses with using profitability ratio? 250 words

Answer 1

Profitability is a firms ability to Generate Earnings over a period of time with a given set of resources. It is analyzed by examining the elements of revenue, the cost of sales , and operating expenses.  

Profitablity analysis can give numerous information to managers . Information like Gross Profit, Operating Income, Net Income . Analyst , investors and creditors all need to determine whether revenue represents the stable trend of a growing business or an unsual or one time event. Profitability ration will answer many questions and it leads to many decision taking activities. Some of the Ratios that can comes under profitability are as follows

1. Gross Profit Margin: Sales - Cost of Sales

2. Gross Profit Ratio: GP / Sales

3.Operating Profit Percentage: Operating Income/ Sales

4. Net Profit Margin Percentage: Net Income / Sales.

5. ROI: Income of a business unit/ Assets of business unit.

6. Return on Assets: Net income/ Average Total Assets.

Profitablity ratio tells how the asstes have been utilized, Elacticity of Demand for products , Ability of the business to anticipate demand trends by the introduction of new products & services. Level of competition. Degree of customer concentration .

Weakness:

-No single ration or measure is capable of capturing all relevent information about a particular company.

- Use of differnet accounting methods make comparability of ratios difficult

- Ratios require careful interpretation.

- Revenue can be altered or calculated differently by different managers.