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Home Operating Profit Margin Ratio | Net Profit Margin Ratio | Profitability Ratios

# Operating Profit Margin Ratio | Net Profit Margin Ratio | Profitability Ratios

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Operating and Net Profit Margin Ratio measure in percentage terms, the profit being generated for each rupee of sales which the company makes. Operating Profit Margin Ratio measures the return being generated by the business purely from its operations. It is the proportion of revenues remaining after paying for the cost of operating a business such as, labour costs (salaries & wages), raw materials, selling and administrative expenses etc. When calculating the Operating Profit Margin on a consolidated basis, the numerator is the OPERATING PROFIT generated by the company along with its subsidiaries. Accordingly, the denominator will represents the total income generated from operations by ‘all the constituents’ of the company including minorities.

Net Profit Margin Ratio indicates what is left for the owners (i.e. shareholder) as a percentage of total income or sales after accounting for all other costs such as depreciation, finance charges, taxes and exceptional items. When calculating the Net Profit Margin on a consolidated basis, the numerator is profit after tax but before minority interest and share of associates. This is because total income from operations in the denominator represents the income generated by ‘all the constituents’ of the company including minorities. The denominator is total income from operations and excludes other income. Together these ratios help in understanding the cost and profit structure of the firm. They are helpful in identifying the areas of inefficiencies and the items that are causing pressure on the profitability of the company.

Note:

A variation of the Operating Profit Margin Ratio is the Earnings before, Interest, Tax, Depreciation and Amortisation (EBITDA) Margin Ratio calculated by simply adding other income to the numerator of this ratio. Other income should be included in the numerator only if it is of a recurring nature. We exclude other income consistently in all our calculations.

The only exception to this rule is banking companies where other income forms a big part of the total revenue and is of a recurring nature. Other income for banking companies largely constitutes of fee income such as commission and brokerage fees, client based merchant foreign exchange trade, service charges from account maintenance, transaction banking (including cash management services), syndication and placement fees, processing fees from loans and commission on non funded products (such as letters of credit and bank guarantees) etc. Banks in the more developed countries earn up to 50% of their total revenue in the form of fees and commission.

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