We explain what profitability is and the types of profitability that are distinguished. In addition, its indicators and its relationship with risk.
What is profitability?
When we speak of profitability, we refer to the capacity of a investment Determined to yield higher profits than invested after waiting a period of time. It is a fundamental element in the economic and financial planning, since it supposes to have made good choices.
There is profitability, then, when a significant percentage of the capital investment, at a rate considered adequate to project it over time. The gain obtained through the investment and, therefore, will determine the sustainability of the project or its convenience for partners or investors.
A common distinction is made between economic, financial and social profitability:
- Economic profitability. It has to do with the average profit of a organization u company with respect to all the investments it has made. It is usually represented in percentage terms (%), from the comparison between the global investment and the result obtained: the costs and profit.
- Financial profit. This term, on the other hand, is used to differentiate from the previous one the benefit that each partner of the business takes away, that is, the individual's ability to make a profit from his particular investment. It is a measure closer to investors and owners, and is conceived as the relationship between net profit and heritage company net.
- Social profitability. It is used to refer to other types of non-tax profit, such as time, prestige or social happiness, which are capitalized in other ways than monetary profit. A project may not be profitable economically but it can be socially.
Profitability indicators
The indicators of profitability (or profitability) in a business or a company are those that serve to determine the effectiveness of the project in the generation of wealth, that is, they allow to control the balance of expenses and benefits, and thus guarantee the return.
The profitability indicators are:
- Net profit margin. It consists of the relationship between the company's total sales (operating income) and its net profit. The return on assets and equity will depend on this.
- Gross margin of utility. It consists of the relationship between total sales and gross profit, that is, the remaining percentage of the income operational once the cost of sale has been discounted.
- Operating margin. It consists of the relationship between total sales, again, and operating profit, which is why it measures the performance of operating assets for the development of its corporate purpose.
- Net return on investment. It is used to evaluate the net profitability (use of assets, financing, taxes, expenses, etc.) originated on the assets of the company.
- Operational return on investment. Similar to the previous case, but assesses operational profitability instead of net profitability.
- Return on equity. Evaluates the profitability of the organization's owners before and after dealing with the taxes.
- Sustainable growth. Aspire to the growth of the demand is satisfied with a growth in sales and assets, that is, it is the result of the application of sales policies, financing, etc. of the company.
- EBITDA. This is known as the net cash flow of the company before taxes and financial expenses are paid.
Profitability and risk
The risk indicator assesses the economic profitability of companies and countries.
The risk of an asset or a company depends on its ability to generate return, that is, to provide Profits and comply with all the agreed financial terms, once the expiration date has been reached.
Thus, it is the product of an evaluation of the probability of payments: the greater the possibility of non-payment or non-compliance with the contractual terms, the greater the risk margin assigned.
This indicator is not only used to evaluate the economic profitability of companies, but also of countries. The risk margin of each entity will depend on the solvency that they present to their creditors and the guarantees that are incorporated into the title.