Question

Profitability ratios profitability ratios in the analysis of the combined impact of liquidity ratios, asset management ratios, and debt management ratios on the operating performance of a firm. your boss has asked you to calculate the profitability ratios of st. mcstanky beer co. and make comments on its second-year performance as compared with its first-year performance. the following shows st. mcstanky beer co.’s income statement for the last two years. the company had assets of $8,225 million in the first year and $13,157 million in the second year. common equity was equal to $4,375 million in the first year, and the company distributed 100% of its earnings out as dividends during the first and the second years. in addition, the firm did not issue new stock during either year.St. McStanky Beer Co. Income Statement For the Year Ending on December 31 (Millions of dollars) Year 2 Year 1 Net Sales 4,445 3,500 Operating costs except depreciation and amortization 1,855 1,723 Depreciation and amortization 222 140 Total Operating Costs 2,077 1,863 Operating Income (or EBIT) 2,368 1,637 Less: Interest 237 213 Earnings before taxes (EBT) 2,131 1,424 Less: Taxes (25%) 533 356 Net Income 1,598 1,068calculate the profitability ratios of st. mcstanky beer co. in the following table. convert all calculations to a percentage rounded to two decimal places.

Answer 1

Answer:

Details                                  Year 2             Year 1

Operating profit margin       53.27%          46.77%

Net income margin              35.95%          30.51%

Return on total assets          12.51%            12.98%

Return on common equity   36.53%          24.41%

Comments:

1. St. McStanky Beer Co. income generation from operation improved in year 2 by 6.50% as it increased to 53.27% in Year 2 from 46.77% in Year 1.

2. St. McStanky Beer Co. net income generation improved in year by 5.44% as it increased to 35.95% in Year 2 from 30.51% in Year 1.

3. The assets of St. McStanky Beer Co. are less profitable in generating revenue in year 2 as it decreased by 0.84% to 12.51% in Year 2 from 12.98% in Year 1.

4. St. McStanky Beer Co. earns more net income per investment dollar as it returns on common equity improved by 12.11% to 36.53% in Year 2 from 24.41% in Year 1.

Explanation:                                                  

The profitability ratios are calculated as follows:

a. Operating profit margin

Operating margin = Operating Income / Net Sales

Year 2 Operating margin = 2,368 / 4,445 = 0.5327, or 53.27%

Year 1 Operating margin = 1,637 / 3,500 = 0.4677, or 46.77%

b. Net income margin

Net income margin = Net income / Net Sales

Year 2 Net income margin = 1,598 / 4,445 =  0.3595, or 35.95%

Year 1 Net income margin =  1,068 / 3,500 = 0.3051, or 30.51%

c. Return on total assets

Return on total assets = Net income / Total assets

Year 2 Return on total assets = 1,598 / 13,157 = 0.1215, or 12.15%

Year 1 Return on total assets = 1,068 / 8,225 = 0.1298, or 12.98%

d. Return on common equity

Return on common equity = Net income / Common equity

Since the firm did not issue new stock during either year, we use the same common equity for the two years as follows:

Year 2 Return on common equity = 1,598 / 4,375 = 0.3653, or 36.53%

Year 1 Return on common equity = 1,068 / 4,375 = 0.2441, or 24.41%