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Do we always want a higher net profit margin?

2010 2009 Vet sales $3,000.0 $2,850.0 Operating costs excluding depreciation and amortization 2 616 2,497.0 Earnings before interest, taxes, depreciation, and amortization (EBITDA) 383.8 S 353.0 Depreciation 100.0 90.0 Do we always want higher net profit margin? 0.0 0.0 100.0 S 90.0 Earnings before interest and taxes (EBIT, or operating income) $ 283 8 S 263.0 Less interest 88.0 600 Earnings before taxes (EBT) $ 195.8 S 203.0 Taxes (40%) 78 3 81.2 Net income before preferred dividends $ 1173 S 1218 4.0 Net income $ 113 5 117.8 Common dividends $ 57.5 S 53.0 Addition to retained earnings S 56.0 S 64.8 Per-Share Data Common stock price $ 23.00 S 26.00 Earnings per share (EPS) S 2.27 S 2.36 Book value per share (BVPS) S 17.92 S 16.80 Cash flow per share (CFPS) S 427 S 4:16 "The bonds have a sinking fund requirement of $20 million a year. "The costs include lease payments of $28 million a year.The ROC (return on capitals) is often used, too: ROC = Net income / Total capitalization Total capitalization = Long-term debt + Equity When does ROA = ROE? Profitability Ratios (continued) Return on Total Assets Net income available to Return on total assets = ROA = common stockholders Total assets $113.5 - 5.7% $2,000 Industry average = 9.0% Return on Common Equity Net income available to Return on = ROE = common stockholders common equity Common equity $113.5 - 12.7% $896 Industry average = 15.0% 57Discussion: Do we want higher or lower P/E ratio? Ratio Analysis - Market Value Ratios Price / Earnings Ratio Price per share Price/ earnings (P/E) ratio Earnings per share $23.00 = 10.1 $2.27 Industry average = 12.5 The ratios are higher for firms with strong growth prospects but lower for firms with high returns of earnings. 59Ratio Analysis PrOfitability Ratios (continued) A company has $200 billion of sales and $10 billion of net income. Its total assets are $100 billion, financed half by debt and half by common equity. What is its profit margin? What is its ROA? What is its ROE? Would ROA increase if the firm used less leverage? Would ROE increase? hunk When equity multiplier gets higher, what happen to total debt ratio? The Du Pont Equation The Du Pont equation provides a framework that ties together a firm's profitability, asset efficiency, and use of debt. ROA = Profit margin x Total assets turnover Net income Sales X Sales Total assets For MicroDrive, the ROA is ROA = 3.8% X 1.5 = 5.7% Total assets Equity multiplier = Common equity23 Industries, 1990-2004 14 12 ROA = 6% 10 ROA = 3% Utilities 8 Profit margin (%) Oil & gas Hotels 6 extraction Petroleum. Printing & publishing Paper . Amusements Personal services 4 Lumber Retailing-apparel Agricultural Health services . Food products Metals Transportation equipment production Restaurants . Retailing-general merchandise 2 Airlines Industrial Wholesalers- Communications equipment Wholesalers- durables Grocery stores nondurables 0 0.0 0.5 1.0 1.5 2.0 2.5 3.0 Asset turnoverDiscussion: What do you see? Can we conclude that Google perform much better than Yahoo because its stable ROA? Yahoo! Year ROE = Profit Margin X Asset Turnover X E.M. 2008 3.8% = 5.9% X 0.527 X 1.22 2007 6.9% = 9.5% X 0.570 X 1.28 2006 8.2% = 11.7% X 0.558 X 1.26 Google Year ROE = Profit Margin X Asset Turnover X E.M. 2008 18.9% = 19.4% X 0.686 X 1.42 2007 21.1% = 25.3% X 0.655 X 1.27 2006 18.1% = 29.0% X 0.574 X 1.08