Financial Statement Analysis Lecture 4 
Financial Statement Analysis
Lecture 4
Learning Objectives:
- Financial Analysis continued:
Profitability ratios
Interpreting Financial Statements…
We will continue today by looking at what we want to get from financial statements.
We will look at a range of financial ratios and measures for assessing performance, starting with profitability ratios.
Two basic concerns of financial statement analysis
1. Management performance
(i) Profitability
(ii) Asset utilisation
2. Financial strength
(iii)Solvency
(iv)Liquidity
Profitability
Multiple measures of profit:
- gross profit
- operating profit
- net profit before tax
- net profit after tax
Why use ratios?
Profit measures by themselves will be affected by the size of the business
Larger businesses are more likely to show larger profits (or losses!) than smaller businesses
Using ratios makes the numbers comparable for different sizes of business
Margin ratios
• Gross Profit Margin
• Operating Margin
• Net Profit Margin
Gross profit margin
GPM = Gross profit / Sales X 100%
Gives an indication of how well management has controlled direct costs in relation to sales
Widget Plc
2013 2012
2011
£m £m
£m
Sales 762 745 620
Cost of Sales
(267) (246)
Gross Profit
495 499
Admin Expenses (368) (358)
Operating Profit 127 141
Tax (69) (70) (42)
Net Profit After Tax 58 71
(217)
403
(300)
103
61
Gross profit margin
GPM = Gross profit / Sales X 100%
2011: GPM =
2012: GPM =
2013: GPM =
Operating margin
OM = Operating profit / Sales X 100%
A measure of the profitability of the core business, excluding financing and taxation costs.
Provides an indication of management's control over all operating costs - direct costs and indirect overhead costs.
Operating margin
OM = Operating profit / Sales X 100%
2011: OM =
2012: OM =
2013: OM =
Net profit margin
NPM = Net profit after tax / Sales X 100%
Also called "return on sales" and shows how successful the business has been creating profit from its sales (after all costs
Lecture 4
Learning Objectives:
- Financial Analysis continued:
Profitability ratios
Interpreting Financial Statements…
We will continue today by looking at what we want to get from financial statements.
We will look at a range of financial ratios and measures for assessing performance, starting with profitability ratios.
Two basic concerns of financial statement analysis
1. Management performance
(i) Profitability
(ii) Asset utilisation
2. Financial strength
(iii)Solvency
(iv)Liquidity
Profitability
Multiple measures of profit:
- gross profit
- operating profit
- net profit before tax
- net profit after tax
Why use ratios?
Profit measures by themselves will be affected by the size of the business
Larger businesses are more likely to show larger profits (or losses!) than smaller businesses
Using ratios makes the numbers comparable for different sizes of business
Margin ratios
• Gross Profit Margin
• Operating Margin
• Net Profit Margin
Gross profit margin
GPM = Gross profit / Sales X 100%
Gives an indication of how well management has controlled direct costs in relation to sales
Widget Plc
2013 2012
2011
£m £m
£m
Sales 762 745 620
Cost of Sales
(267) (246)
Gross Profit
495 499
Admin Expenses (368) (358)
Operating Profit 127 141
Tax (69) (70) (42)
Net Profit After Tax 58 71
(217)
403
(300)
103
61
Gross profit margin
GPM = Gross profit / Sales X 100%
2011: GPM =
2012: GPM =
2013: GPM =
Operating margin
OM = Operating profit / Sales X 100%
A measure of the profitability of the core business, excluding financing and taxation costs.
Provides an indication of management's control over all operating costs - direct costs and indirect overhead costs.
Operating margin
OM = Operating profit / Sales X 100%
2011: OM =
2012: OM =
2013: OM =
Net profit margin
NPM = Net profit after tax / Sales X 100%
Also called "return on sales" and shows how successful the business has been creating profit from its sales (after all costs