Friday, December 13, 2013

A Net Profits Ratio Alone Can be a Misleading Benchmark

The average net profit ratio (net profit as a percentage of revenues) was determined for five European-headquartered companies and compared to the average net profit ratios for six US-headquartered companies.  2012 data was used.

The five European-headquartered companies used for the data were:   BASF, DSM; Solvay; Borealis; and Laxness.  The six US-headquartered companies used were:  Dow; Huntsman; Monentive; Celanese; Cytec; and FMC.  

The average net profit as a percentage of revenues for the European companies is 5.2% and for the US companies, 7.4%.  

The lower average net profit ratio for the five European chemical companies suggests a poorer performance for these five companies compared to the six United States companies.  However, this would be a wrong conclusion.
For example, the average 2012 revenues for the five European companies were $30.7 billion and the average US companies’ revenues were $14.1 billion.  This difference in average revenues is important.  Europe’s 5.2% average net profit as a percentage of revenues represents $1.605 billion in net profit, whereas the US 7.4% represents $1.037 billion in net profit, a difference of $568 million in favor of Europe.  A conclusion is the $568 greater profit being made by the five European-headquartered chemical companies represents a significantly higher increase of value generated by the European companies.  This increased value (wealth) that these European companies generated was reflected in the European companies’ 2012 stock prices, which were significantly higher than for the US companies

Using net profit ratios in comparing companies’ performances without applying the ratios to the companies’ revenues can lead to incorrect comparisons.  The profit amounts being generated are what are important.

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