Profitability is the ability of the

firm to generate earnings.

Analysis of profit is important to:
stockholders, creditors and
management.
 Profitability Measures
NET PROFIT MARGIN
Total Asset Turnover
RETURN ON ASSETS
DUPONT RETURN ON
ASSETS
VARIATION IN COMPUTATION OF DUPONT

RATIOS CONSIDERING ONLY OPERATING

ACCOUNTS
SALES TO FIXED
ASSETS
 RETURN ON
INVESTMENT (ROI)
RETURN ON COMMON
EQUITY
THE RELATIONSHIP BETWEEN
PROFITABILITY RATIOS
GROSS PROFIT
MARGIN
Trends in Profitability
 Segment Reporting
A public business enterprise reports financial and
descriptive information about reportable
operating segments.

Operating segments are segments about which

separate financial information is available that is
evaluated by the chief operating decision maker
in deciding how to allocate resources and in
assessing performance.
 It requires information about the countries in
which the firm earns revenues and holds assets,
and about major customers.

Descriptive information must be disclosed about

the way the operating segments were
determined.
Revenues by Major
Product Lines
 shows revenues by major product lines presented
by Nike. Revenues by Major Product Lines
Horizontal Common-Size Analysis is presented in
Exhibit 8-23. Footwear is the dominate segment
representing over half the revenues. The fastest
growth was experienced in the Other segment.
 Gains and Losses from
Prior Period Adjustments
Prior period adjustments result from certain
changes in accounting principles, the realization
of income tax benefits of preacquisition operating
loss carryforwards of purchased subsidiaries,
a change in accounting entity, and corrections of
errors in prior periods. Prior period adjustments
are charged to retained earnings.
 Comprehensive Income
Chapter 4 explained that the categories within
accumulated other income are:
1. foreign currency translation adjustments,
2. unrealized holding gains and losses on
available-for-sale marketable securities,
3. changes to stockholders equity resulting from
additional minimum pension liability adjustments,
4. unrealized gains and losses from derivative
instruments.
 It also explained that there is considerable
flexibility in reporting comprehensive income.
One format uses a single income statement to
report net income and comprehensive income.
The second format reports comprehensive income
in a separate statement of financial activity. The
third format reports comprehensive income within
the statement of changes in stockholders equity.
Our traditional profitability analysis includes
items that related to net income.
This excludes other comprehensive income items.
 Ratios in which you may want to consider
including comprehensive income are:
1. return on assets,
2. return on investment,
3. return on total equity
4. return on common equity.
 Pro forma financial
information

Pro forma financial information is a hypothetical

or projected amount. Synonymous with what if
analysis, pro forma data indicate what would
have happened under specified circumstances.
Used properly, pro forma financial information
makes a positive contribution to financial
reporting

 Interim reports
Interim reports are an additional source of
information on profitability. These are reports that
cover fiscal periods of less than one year.
For interim financial reports, timeliness of data
offsets lack of detail. Some data included are:
 1. Income statement amounts:
a. Sales or gross revenues
b. Provision for income taxes
c. Extraordinary items and tax effect
d. Cumulative effect of an accounting change
e. Net income
2. Earnings per share
3. Seasonal information
4. Significant changes in income tax provision or estimate
5. Disposal of segments of business and unusual items
material to the period
6. Contingent items
7. Changes in accounting principles or estimates
8. Significant changes in financial position
 Interim reports contain more estimates in the
financial data than in the annual reports. Interim
reports are also unaudited.
For these reasons, they are less reliable than
annual reports. Income tax expense is an
example of a figure that can require considerable
judgment and estimation for the interim period.
The objective with the interim income tax
expense is to use an annual effective tax rate,
which may require considerable estimation.