Cash Flow

2481 Words Dec 7th, 2012 10 Pages
Profitability Ratios: How Profitable is the Company?

Net sales/Net profit after taxes

The information necessary to determine a company’s profit as a percentage of sales can be found in the company’s income statement.

1. Magnetronics’ profit as a percentage of sales for 1999 was $1,307 divided by $48,769, or 2.68%.

2. This represented a decrease from 3.6% in 1995.

3. The deterioration in profitability resulted from a decrease in cost of goods sold as a percentage of sales, and from a decrease in operating expenses as a percentage of sales. The only favorable factor was the decrease in the income tax paid.

Management and investors are often more interested in the return earned on the funds invested than in the
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One important category is accounts receivables. The average collection period measures the number of days that the company must wait on average between the time of sale and the time when it is paid. The average collection period is calculated in two steps. First, divide annual credit sales by 365 days to determine average sales per day:

Net credit sales/365 days

Then, divide the accounts receivable by average sales per day to determine the number of days of sales that are still unpaid:

Accounts receivable/Credit sales per day

2. Magnetronics had $7,380 invested in accounts receivables at year-end 1999. Its average sales per day were $133,614 during 1999 and its average collection period was 55.23 days. This represented an improvement from the average collection period of 58.68 days in 1995.

A third activity ratio is the inventory turnover ratio, which indicates the effectiveness with which the company is employing inventory. Since inventory is recorded on the balance sheet at cost (not at its sales value), it is advisable to use cost of goods sold as the measure of activity. The inventory turnover figure is calculated by dividing cost of goods sold by inventory:

Cost of goods sold/Inventory

3. Magnetronics apparently needed $8,220 of inventory at year-end 1999 to support its operations during 1999. Its activity during 1999 as measured by

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