Key Indicators on a Financial Statement That a Company is Profitable
Financial statements include the income or profit and loss statement, balance sheet and cash flow statement. Financial statements provide a picture of a company's financial health and performance. One measure of performance is profitability. Several key indicators of profitability stand out. These include operating income, net income, operational cash flow and owner's equity.
Gross income is net sales less cost of goods sold. Gross income is also referred to as gross profit. Cost of goods sold only includes direct costs, generally raw materials, parts and labor costs. Gross profit indicates how much expense a company incurs to create its products or deliver its services. The higher the gross income number when compared to revenue, the more pricing flexibility a company may have when it needs it.
Net operating income is gross revenue less cost of goods or services sold and less operating expenses. Net operating income does not factor in interest and taxes. It provides a good measure of a company's ability to generate revenues from its activities. Positive net operating income indicates a company’s overall profitability before factoring in the impact of taxes and interest from any debt.
Net income is what remains after a company deducts all of its production or service delivery, overhead expenses, interest and taxes from its revenue. A positive number -- net income or profit -- means the company was profitable for that period. A negative number -- net loss -- indicates the company lost money. Dividing the net income by the company's gross revenues provides the profit margin. What is considered a good profit margin depends on the industry. For example, software company Microsoft's is 21.2 percent, while grocery store Kroger's is 1.6 percent.
A positive number for cash flow from operations indicates that a company generates enough cash from its regular business operations to pay all of its bills. If the company generates significant cash flow from operations, the company may be able to fuel all of its growth and expansion solely from operations. Any issues with customer collections or unsold inventory will adversely affect the operational cash flow.
Owner's equity appears on a company's balance sheet. Owner's equity is assets less liabilities. Owner's equity includes retained earnings, which is the net income from prior years. A company with strong retained earnings shows a history of profitability. A strong owner's equity indicates that the company is reinvesting in its own growth.
Companies with a sizable debt load may have strong operational profit but high interest payments, which may reduce its net profit. Companies with strong net profit but negative operational cash flow may indicate issues with its account receivables. Therefore, it is important to look at and compare each of the key financial indicators to obtain an in-depth picture of a company’s profitability.