Operating Profit Margin

Primary accounting ratio driving return on total assets

If you want to get the most bang for your buck, then the operating profit margin will help you focus on what drives total business performance.

Operating costs are the costs derived from the activities you need to keep your business running. They're the thing's you're in control of. They're not taxation, they're not finance charges from loans, and they're not distributions of dividends to investors.

So they're everything else then. Material, Labour, Admin and Selling Overheads

From the income statement, you first need to work out

Operating Profit = Sales - Operating Costs

Then you can compute the

Operating Profit Margin = Operating profit / Sales

Using the example income statement shown above, you can compute the operating profit ratio

Operating Profit $1,890 / Sales $97,500 = 1.94%

In this very real world example, you can see that there has been a massive amount of work for quite a small profit

To stand a chance of improving the operating profit percentage, it'd be a good idea to study the cost elements as a percentage of sales, and also the activities that drove them.

So for example other admin expenses as a percentage of sales is

$9,500 / $97,500 = 9.7%

By concentrating on initiatives that drive costs down, then it may be possible to reduce that cost to say 8.5% - 9%

Increasing sales prices or volumes could also have a favorable effect on the admin expenses as a % of sales, so you could start a program to achieve that. You may of course though drive advertising costs up too. This would adversely affect your operating profit ratio if you didn't achieve the same return on your advertising dollar.

Regularly monitoring these numbers will give you essential feedback about whether your operating activities are moving you towards or away from better performance

Top of Operating Profit Margin.

More magic Accounting Formulas

Financial Ratio Analysis in more detail.

Gross Profit Margin - another profitability ratio you can use.

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