# What is a Profit Ratio?

## Profit Ratio

A profit ratio is a measure of a company’s profitability, expressed as a percentage of the company’s revenues. This means it shows how much of the company’s revenues are turned into profits. It’s also often referred to as a profit margin.

There are several types of profit ratios:

These ratios help analysts, investors, and managers assess a company’s profitability and compare it with other businesses in the same industry. The higher these ratios are, the more profitable the company is considered. However, what constitutes a “good” profit ratio can vary significantly from one industry to another.

## Example of a Profit Ratio

let’s consider a fictitious company, “Comfy Couch Inc.”, that manufactures and sells furniture. Below are some numbers from its income statement for the past fiscal year:

• Revenue (Sales): \$1,000,000
• Cost of Goods Sold (COGS): \$600,000
• Operating Expenses (like wages, rent, etc.): \$200,000
• Interest Expenses: \$50,000
• Taxes: \$50,000

Let’s calculate the three types of profit ratios for this company:

• Gross Profit Ratio:

First, calculate the Gross Profit:

Gross Profit = Revenue – COGS = \$1,000,000 – \$600,000 = \$400,000

Then, calculate the Gross Profit Ratio:

Gross Profit Ratio = (Gross Profit / Revenue) x 100 = (\$400,000 / \$1,000,000) x 100 = 40%

• Operating Profit Ratio:

First, calculate the Operating Profit:

Operating Profit = Gross Profit – Operating Expenses = \$400,000 – \$200,000 = \$200,000

Then, calculate the Operating Profit Ratio:

Operating Profit Ratio = (Operating Profit / Revenue) x 100 = (\$200,000 / \$1,000,000) x 100 = 20%

• Net Profit Ratio:

First, calculate the Net Profit:

Net Profit = Operating Profit – Interest – Taxes = \$200,000 – \$50,000 – \$50,000 = \$100,000

Then, calculate the Net Profit Ratio:

Net Profit Ratio = (Net Profit / Revenue) x 100 = (\$100,000 / \$1,000,000) x 100 = 10%

In this example, for every dollar Comfy Couch Inc. makes in sales, it has a gross profit of 40 cents, an operating profit of 20 cents, and a net profit of 10 cents. These profit ratios provide insights into the company’s profitability at different stages of its operations.