Multiple Choice
A company has income before taxes of $100,000. Net sales are $400,000 and gross profit is $300,000. What is the profit margin, assuming the company has a 40% tax rate?
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14. Financial Statement Analysis
Ratios: Profit Margin
Struggling with Financial Accounting?
Join thousands of students who trust us to help them ace their exams!Watch the first videoMultiple Choice
Which of the following ratios is commonly used to assess a company's profitability?
A
Inventory Turnover Ratio
B
Debt-to-Equity Ratio
C
Profit Margin Ratio
D
Current Ratio
Verified step by step guidance1
Understand the concept of profitability: Profitability refers to a company's ability to generate earnings relative to its revenue, assets, or equity over time.
Review the provided ratios: Inventory Turnover Ratio measures how efficiently inventory is managed, Debt-to-Equity Ratio assesses financial leverage, Current Ratio evaluates liquidity, and Profit Margin Ratio measures profitability.
Focus on the Profit Margin Ratio: This ratio is calculated as \( \text{Profit Margin Ratio} = \frac{\text{Net Income}}{\text{Net Sales}} \), and it indicates the percentage of revenue that remains as profit after all expenses are deducted.
Understand why the Profit Margin Ratio is relevant: It directly assesses profitability by showing how much profit a company generates for every dollar of sales.
Conclude that the Profit Margin Ratio is the correct choice for assessing a company's profitability, as it specifically measures the efficiency of converting sales into net income.
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