What is the formula for calculating profit margin ratio?
The profit margin ratio, also known simply as the profit margin, is a financial metric that measures a company's profitability and is expressed as a percentage. It represents the proportion of profit a company earns for every dollar of revenue it generates. The formula for calculating the profit margin ratio is:
Profit Margin Ratio = (Net Profit / Total Revenue) × 100
Where:
- Net Profit (also known as Net Income or Profit After Tax) is the total income a company has left after deducting all expenses, including operating expenses, taxes, interest, and other costs.
- Total Revenue (also known as Total Sales or Total Income) is the total amount of money generated from the sale of goods or services.
To calculate the profit margin ratio, follow these steps:
Determine the company's net profit, which can be found on the income statement or profit and loss statement. This represents the total profit earned after all expenses are subtracted.
Determine the total revenue, which can also be found on the income statement. This represents the total amount of money generated from sales.
Use the formula mentioned above to calculate the profit margin ratio.
Multiply the result by 100 to express the ratio as a percentage.
For example, if a company has a net profit of $50,000 and total revenue of $250,000, the calculation would be as follows:
Profit Margin Ratio = ($50,000 / $250,000) × 100 = 20%
So, the profit margin ratio for this company is 20%. This means that for every dollar in revenue generated, the company retains 20 cents as profit after covering all expenses. A higher profit margin ratio generally indicates better profitability, while a lower ratio suggests lower profitability.
