Net profit (NP) ratio

Net profit ratio (NP ratio) is a popular profitability ratio that shows relationship between net profit after tax and net sales. It is computed by dividing the net profit (after tax) by net sales.

Formula:

net-profit-ratio-img1

For the purpose of this ratio, net profit is equal to gross profit minus operating expenses and income tax.  All non-operating revenues and expenses are not taken into account because the purpose of this ratio is to evaluate the profitability of the business from its primary operations. Examples of non-operating revenues include interest on investments and income from sale of fixed assets. Examples of non-operating expenses include interest on loan and loss on sale of assets.

The relationship between net profit and net sales may also be expressed in percentage form. When it is shown in percentage form, it is known as net profit margin. The formula of net profit margin is written as follows:

net-profit-ratio-img2

Example:

The following data has been extracted from income statement of Albari corporation.

Gross sales: $210,000

Returns inwards: $10,000

Net profit before tax: $50,000

Income tax: 10%

Required: Compute net profit ratio of Albari corporation using above information.

Solution:

= ($45,000* / 200,000**)

= 0.225 or 22.5%

*Net profit after tax:

= $50,000 – ($50,000 × 0.1)

= $45,000

** Net sales:

= $210,000 – $10,000

= $200,000

Significance and Interpretation:

Net profit (NP) ratio is a useful tool to measure the overall profitability of the business. A high ratio indicates the efficient management of the affairs of business.

There is no norm to interpret this ratio. To see whether the business is constantly improving its profitability or not, the analyst should compare the ratio with the previous years’ ratio, the industry’s average and the budgeted net profit ratio.

The use of net profit ratio in conjunction with the assets turnover ratio helps in ascertaining how profitably the assets have been used during the period.

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24 Comments on Net profit (NP) ratio

  1. Arup Goswami

    Is net profit ratio calculated on net profit (after tax)/net sales*100. Please comment.

  2. Accounting For Management

    Arup did you read the whole article? It explains in detail.
    Your formula is correct.

  3. Rahul Roy

    If the net profit margin is lower than previous year, what should be the suggestion to the company?

  4. umadevi

    if the net profit ratio is lower than previous year,what should be the suggestion to the company?

  5. Emerson

    What should be the action if the NP ration is lower than the previous year?

  6. Gourav

    how to calculate gross profit and net profit in the case of banks?

  7. Gourav

    How to calculate sales in the case of banks?

    1. Accounting For Management

      Banking companies have a different format of their profit and loss account /income statement. Banks do not make sales, their revenues include interest on loans, discount on bills and commission etc.

  8. pauline

    Net profit margin=profit for the year(less preference share dividend) /sales

  9. Deep

    Why closing stock is deducted from net sales. Is it applied to all kind of business sectors?

  10. kp

    if the net profit ratio is lower than the previous year, the company is in recession period of business cycle. So, it should revise the marketing plan for company.

  11. damilola

    what if there was a net loss instead of a profit, how do you calculate for that?

  12. DIVYA

    If net profit is less than the previous year what will be the suggestion given to the company.

  13. raghuveer

    is interest on debentures to be deducted on gross profit?

    is income tax is paid or provision?

  14. Meraj

    I want to use your website for studying purpose.

  15. kamlesh arya

    sir i have a question related to the ratio analysis..

    the following info is given on a question

    gross sale 5000000rs

    sale tax 8%

    profit before tax 1000000

    income tax rate 40%

    we have to find out net profit ratio as before tax

    ans is 21.74%

    please give me reply with full solution

    1. Accounting For Management

      Sales – sales tax
      $5000,000 – $400,000(8% of gross sales)
      =$4,600,000

      Np ratio = ($1000,000/$4,600,000)*100
      =21.74%

  16. sangeetha

    crushing tonnes expenses how to find percentage expenses

  17. sangeetha

    how to calculate total expenses percentage how to find it

  18. cookie

    how do you interpret net profit ratios when calculated?

  19. Sher

    What does a net loss percentage ratio means? Eg. if total net loss is 2,613,360 and total sales is 8,033,786. How would you interpret the results and what could be the possible cause? Thanks in advance for your assistance.

  20. Ajay

    Banks have different format of b/s & p&l a/c…
    how to calculate the 1)Gross Profit Ratio 2) Net Profit Ratio and 3)Fixed assets turnover ratio ?

  21. Nazim

    Dear accountant,
    Can you explain more about if I owned 5 star homes regarding to the net profit ratio?

  22. Nava Thakuria

    how to calculte net profit ratii if there is loss in the company?

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