Overview of Business Profitability in terms of Ratios


Disclaimer- No Trading or Investment Suggestion. This blog is only made for education purpose. 

Here is list below, what we are going to learn in next 10-15 minutes.
  1. What is profitability and Profitability Ratio?
  2. For whom & why it is important?
  3. What are Main Ratio's in Profitability Ratio and how to calculate them?
  4. Case study.
  1. What is profitability and Profitability Ratio?
=> Profit equals to a company's revenues minus expenses. In accounting, profitability analysis is an analysis of the profitability of an organization's output. So, basically profitability is a business's ability to produce return on investment based on its resources.
Profitability ratio is used to evaluate the company's ability to generate income as compared to its expenses, investments, capital and other resources associated with the generation of income during a particular period.

       2. For whom & why it is important?
=> Owners, creditors, investors and other stakeholders need or want to know and understand about profitability. Profitability ratios are financial metrics used by analysts and investors to measure and evaluate the ability of a company to generate income (profit), relative to revenue and other assets. The ratios are most useful when they are analyzed in comparison with similar companies or compared with previous time periods.

       3. What are main Ratios in Profitability Ratio and how to calculate them?
=> Few of the explanation of ratios are given below:
Return on Capital Employed, Return on Equity, and Return on Assets.
  • Return on capital employed or ROCE being a profitability ratio, measures how efficiently a company can generate profits from its capital employed by comparing net operating profit with capital employed. In other words, return on capital employed shows how much profits on each rupee of capital employed is generated by company.
To calculate ROCE, we need Earning before Income Tax and Capital Employed. To calculate EBIT(Earning before income tax)= Net Income + Interest + Taxes. To calculate Capital Employed, we need to subtract current liabilities from total assets.

ROCE% = EBIT/CAPITAL EMPLOYED*100
  • Return on equity ratio or ROE is a profitability ratio that measures the ability of a firm to generate profit from its shareholders investments in the company.
To calculate ROE, we need Profit after Tax and total of share's fund(Share capital+ Share warrants+ Reserves).

ROE% = NET PROFIT/SHAREHOLDERS FUND*100
  • Return on assets ratio or ROA is a profitability ratio that measures how efficiently a company can manage its assets to produce profits during a period. It measures the net income produced by total assets during a period by comparing net income with the average total assets.
For ROA calculation, we need net profit after tax and total assets.

ROA% = NET PROFIT/TOTAL ASSETS*100

       4. CASE STUDY

Please find the link below, ITC LTD. Annual Report of 2020.
Open page 258(Balance Sheet) and 259(Profit & Loss Account).

https://www.bseindia.com/bseplus/AnnualReport/500875/5008750320.pdf

ROCE:
EBIT is given on page no. 259 in Profit and loss statement as Profit before tax.

2019= Profit before tax: 19,149.82 Cr.
           Capital employed(Total Assets- Current Liab.): 61,786.42 Cr.

2020= Profit before tax: 20,166.68 Cr.
           Capital employed(Total Assets- Current Liab.): 67,807.27 Cr.

ROCE CALCULATION: 
2019= 19,149.82/ 61,786.42* 100 = 31%
2020= 20,166.68/ 67,807.27* 100 = 29.74%

ROE:
Net profit is profit for the year given on page 259 and Net worth is Attributable to owners of the parent given on page 258.

2019= Net Profit: 12,835.90 Cr.
           Net worth: 59,140.87 Cr.

2020= Net profit: 15,592.78 Cr.
           Net worth: 65,273.26 Cr.

ROE CALCULATION:
2019= 12,835.90/ 59,140.87* 100 = 21.71%
2020= 15,592.78/ 65,273.26* 100 = 23.89%

ROA:
Net profit is profit for the year given on page 259 and total assets is given on page 258.

2019= Net Profit: 12,835.90 Cr.
           Total assets: 71,798.41 Cr.

2020= Net profit: 15,592.78 Cr.
           Total assets: 77,367.04 Cr.

ROA CALCULATION:
2019= 12,835.90/ 71,798.41* 100 = 17.88%
2020= 15,592.78/ 77,367.04* 100 = 20.16%



Ok so, I want you guys to utilize and capitalize this information. 
How?
At least you must know where not to put your hard earned money, right!
Three Links are given below. Just do this simple analysis of ROCE, ROE & ROA and let me know, where you want to put your money if you have only these three options? 

Have fun ;)

DHFL - https://www.bseindia.com/bseplus/AnnualReport/511072/67061511072.pdf
YES BANK - https://www.bseindia.com/bseplus/AnnualReport/532648/5326480320.pdf
MCX - https://www.bseindia.com/bseplus/AnnualReport/534091/5340910320.pdf

Thank you for reading and I request you to share this information with your friends and family so that they can save money or help them to make money.

😇

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