financial ratios

Question 1

Gross Profit Margin:

Answer 1

• expressed as a percentage
• Measures the effectiveness of a company’s purchasing and pricing policies
• COGS is a company’s largest expense of overall profitability
  (operating expenses haven’t been deducted yet)

Question 2

Gross profit margin formula

Answer 2

Gross Profit ÷ Net Sales
(Net Sales – COGS) ÷ Net Sales

Question 3

Example how to use GPM:

Answer 3

• If you have two companies that both make pens and one company can make the pens for a fifth of the cost in the same amount of time, that company has the edge on the market.
• The company has figured out a way to reduce the costs of goods sold by
  five times its competitor.

Question 4

Profit Margin:

Answer 4

• The percentage of sales that results in profit
• percentage of each dollar of sales that results in profit
• Measures the ability of a company to cover all expenses and provide a return to owners
• how effectively a company can convert sales into net income

Question 5

profit margin formula

Answer 5

Profit ÷ Net Sales

Question 6

Example how to use PM:

Answer 6

• Investors want to make sure profits are high enough to distribute dividends
• Creditors want to make sure the company has enough profits to
  pay back its loans.
• In other words, outside users want to know that the company
  is running efficiently. An extremely low profit margin formula
  would indicate the expenses are too high and the management
  needs to budget and cut expenses.