PLEASE NOTE: the following is an excerpt from "20 Competitive Metrics Every Business Needs to Know," which is now available as a free download here.
Performance Metric: PROFITABILITY
Definition: THE DIFFERENCE BETWEEN TOTAL REVENUE AND TOTAL EXPENSES
Importance: Sometimes profit is meaningful, sometimes it isn't.
Insight: Because it can be manipulated via the timing or choice of various accounting methods, it can say more about owner/management priorities and/or industry traditions than a company's ability to generate revenue while controlling costs. For this reason, analysts rely on common-sized, comparative ratios to put "profitability" in context so they can more accurately gauge how effectively or ineffectively a company is being operated.
Key metrics:
- Earnings Before Interest Taxes Depreciation and Amortization (EBITDA): measures a company’s financial performance by computing earnings from core business operations. It is used to evaluate companies in the same industry with widely different capital structures, tax rates, and depreciation policies.
- Return on Assets (ROA): indicates how efficiently a company generates profits from its overall resources, rather than by using leverage. It varies widely across industries, so should be used only with direct competitors.
- Return on Capital Employed (ROCE): measures the return a company achieves from its long-term funds and indicates the efficiency and profitability of its capital investments. In general, ROCE is good when it is greater than the rate at which the company borrows.
- Return on Equity (ROE): measures how profitably a company employs its equity. Higher is better, unless a company is heavily leveraged. In the U.S., average ROE is 10-12 percent.
Goal: VARIES, BUT GENERALLY > COMPETITION
Links:
Managing Profitability: One Year Later
Top 5 Challenges Facing Businesses Now
Case Study on Profitability Analysis
Increased Profitability & Improved Balance Sheet
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