Pre-tax return on sales and post-tax return on sales of corporations are two important profit margins which require to be analysed prior to acquiring stocks of the corporations. Let us briefly comprehend the which means of these two margins along with their application in the investment choice generating context.
Let us assume that the operating income of Himanshu Ltd (HL) in its current economic year is Rs 2,500 crore, its other revenue is Rs 500 crore, raw material consumed is Rs 800 crore, acquire of stock in trade is Rs one hundred crore, alter in inventory of FG and WIP is Rs one hundred crore, depreciation and amortisation is Rs 200 crore, employee advantage expenditures is Rs 500 crore, finance expenses is Rs one hundred crore and other expenditures is rs 200 crore. Tax expenditures immediately after adjusting for deferred tax is Rs 300 crore.
Pre-tax return on sales
It is otherwise recognized as Profit Before Tax (PBT). It is computed by dividing the Earnings Before Tax (EBT) quantity by the total income of a firm. Operating income refers to the portion of total income that is generated by a firm from its core operating activities (it is Rs 2,500 crore for HL) when other revenue refers to the income generated by a firm from its non-operating activities such as income from investments in stocks and bonds of other firms and from the sale proceeds of investments (it is Rs 500 crore for HL). Total income is the sum of operating income and other revenue and is Rs 3,000 crore for HL.
Pre-tax return on sales is the excess of total income more than the operating and non-operating expenditures (finance expenses) excluding tax expenditures of a firm in a particular accounting period. Hence, total pre-tax expenditures for HL is `2,000 crore (sum of raw material consumed, acquire of stock in trade, alter in inventory of FG and WIP, D&A, employee advantage expenditures, finance expenses and other expenditures).
PBT for HL is Rs 1,000 crore, i.e., Rs 3,000 crore much less Rs 2,000 crore. Therefore, pre-tax ROS is 33.33% (i.e 1000/3000 *one hundred). This indicates HL is earning EBT of Rs 33.33 for every single Rs one hundred of its total income. PBT margin assists us in comparing two firms with variations in their tax expenditures.
Post-tax return on sales
It is otherwise recognized as Profit After Tax Margin (PATM) or Earnings After Tax Margin (EATM) or Net Income Margin. It is computed by dividing net revenue (or PAT) by total income of a firm. Consume can be computed by subtracting total tax expenditures from the PBT figure. For HL it is Rs 700 crore i.e., PBT of Rs 1,000 crore much less tax expenditures of Rs 300 crore. After-tax return on sales for HL is 23.33 % (i.e 700/3000 *one hundred). This reflects that HL is earning Rs 23.33 as net profit for every single Rs one hundred of its total income.
PBT and PAT margins are to be computed for every single firm. Both PBT & PAT are the line products of interest for shareholders of a firm and therefore, an understanding of their which means and application is a pre-requisite in assessing the attractiveness of the stocks for equity investors.
The writer is associate professor of Finance at XLRI – Xavier School of Management, Jamshedpur