Profitability Ratios Flashcards

All 10 cards in this deck

What does gross profit margin show a business?

How many pence of gross profit the business makes from each £1 of sales revenue. A higher margin means a bigger share of each sale is left after paying cost of sales.

Why are profit margins better than profit figures for comparing a business with its competitors?

Margins are percentages of revenue, so businesses of different sizes can be compared fairly.

Give one way a business could increase its gross profit margin.

Any one of: raise its selling price; reduce cost of sales, e.g. by finding cheaper suppliers or materials.

Give one way a business could increase its net profit margin without changing its gross profit.

Reduce its expenses (overheads), e.g. move to cheaper premises or spend less on advertising or insurance.

What is the formula for gross profit margin?

Gross profit margin = (gross profit ÷ sales revenue) × 100

What is the formula for net profit margin?

Net profit margin = (net profit ÷ sales revenue) × 100

True or false? Net profit margin is normally lower than gross profit margin.

True. Net profit margin takes more costs into account (other operating expenses and interest), not just cost of sales.

What does net profit margin show a business?

How many pence of net profit it keeps from each £1 of sales revenue once all its costs, including overheads and interest, have been paid.

True or false? If net profit margin falls from 4.2% to 2.9%, net profit has fallen by 1.3%.

False. The margin has fallen by 1.3 percentage points: each £100 of sales now earns £1.30 less net profit. Net profit itself could still rise if revenue has grown.

Gross profit margin stays the same but net profit margin falls. What has happened?

Its other operating expenses and interest have risen as a proportion of revenue, so a bigger share of each £1 of sales goes on running costs.