Profit margin

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Profit margin, net margin, net profit margin or net profit ratio is a measure of profitability. It is calculated by finding the net profit as a percentage of the revenue. [1]

Contents

Overview

Profit margin is calculated with selling price (or revenue) taken as base times 100. It is the percentage of selling price that is turned into profit, whereas "profit percentage" or " markup " is the percentage of cost price that one gets as profit on top of cost price. While selling something one should know what percentage of profit one will get on a particular investment, so companies calculate profit percentage to find the ratio of profit to cost.

The profit margin is used mostly for internal comparison. It is difficult to accurately compare the net profit ratio for different entities. Individual businesses' operating and financing arrangements vary so much that different entities are bound to have different levels of expenditure, so that comparison of one with another can have little meaning. A low profit margin indicates a low margin of safety: higher risk that a decline in sales will erase profits and result in a net loss, or a negative margin.

Profit margin is an indicator of a company's pricing strategies and how well it controls costs. Differences in competitive strategy and product mix cause the profit margin to vary among different companies. [2]

Profit percentage

On the other hand, profit percentage is calculated with cost price taken as base

Suppose that something is bought for $50 and sold for $100.

Cost price = $50
Selling price (revenue) = $100
Profit = $100 − $50 = $50
Profit percentage = $50/$50 = 100%
Profit margin = ($100 - $50)/$100 = 50%
Return on investment multiple = $50 / $50 (profit divided by cost).

If the revenue is the same as the cost, profit percentage is 0%. The result above or below 100% can be calculated as the percentage of return on investment. In this example, the return on investment is a multiple of 1.0 of the investment, resulting in a 100% gain.

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Revenue

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DuPont analysis

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Gross margin

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Contribution margin

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Financial ratio

A financial ratio or accounting ratio is a relative magnitude of two selected numerical values taken from an enterprise's financial statements. Often used in accounting, there are many standard ratios used to try to evaluate the overall financial condition of a corporation or other organization. Financial ratios may be used by managers within a firm, by current and potential shareholders (owners) of a firm, and by a firm's creditors. Financial analysts use financial ratios to compare the strengths and weaknesses in various companies. If shares in a company are traded in a financial market, the market price of the shares is used in certain financial ratios.

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References

  1. "profit margin Definition". Investor Words. InvestorGuide.com. Retrieved December 17, 2009.
  2. "profit margin". TheFreeDictionary.com . Retrieved December 17, 2009.