Sunny’s Sunglasses Shop had net earnings of $15,283, which represents a net margin of 10.6%.
Net Profit Margin = Net Income/Sales
Sunny has managed to make a profit from his small business, and increase the value, or equity, of his company.
This is truly a bottom line goal of any business.
To understand why net earnings increase the value of a company, click on accounting formulas.
Sunny Sunglasses Shop falls right in line with S&P 500 company averages, but more importantly and more relevantly, its main competitor, Luxottica Group, and its industry, Specialty Retail, Other:Sunglasses Hut Int. (Luxottica Group)
This does not mean that Sunny could not improve the company bottom line further, especially by investigating operating expenses which took the biggest chunk of the company’s profits.
Sunny started on his road to profits by finding an industry with high gross profit margins.
As one Wall Street analyst commented when Luxottica purchased Sunglasses Hut International for $462 million in 2001, “The attraction of both prescription glasses and sunglasses is that they have an unbelievable gross margin. It’s a very profitable business.”
The income statement format separates revenue and expenses from the main operations of the business, called net operating income or EBIT, from revenue and expenses incidental to the business that are included in net income.
Since Sunny Sunglasses Shop sells Sunglasses, the main operating revenue of $144,000 is from sales. Repairing Sunglasses, measured in “Repair Revenue,” is incidental to the business and categorized outside of operating income. Similarly, accountants do not consider interest and taxes as an operating expense, and separate it from the main operating expenses of the business.
Another main difference between operating profit margins and net margins are tax rates. Sunny Sunglasses Shop has lower tax rates on less taxable income than its much larger competitor, and managed to come out ahead in net margins.
Each of these key operating margins should be tracked year to year to see if they are increasing, or decreasing, and why.The income statement separates net operating revenue, revenue generated from the main operations of the business, from non-operating revenue.The income statement also separates operating expenses, those expenses required to support the main operations of the business, from non-operating expenses. Income taxes and interest are considered non-operating expenses.