Earnings per Share in Business - Essay Example

Business organizations operate with the primary aim of making profits for sustainability, facilitating growth, and paying investors for their financial input into the businesses. Profitability ratios help users of financial statements to understand management’s effectiveness in generating profits from business operations and the section reviews and compares profitability ratios of Baxter International and Becton, Dickens, and Company.

Earnings per Share

Earnings Per Share (EPS) is one of the commonly used and defines the amount of money that a business pays per share of its ordinary stock. The ratio is a significant indicator of returns on investors’ money and influences interest in organizations’ stock prices. It is computed by subtracting preference share earnings from net income after tax and dividing the remaining amount by the number of ordinary shares for an organization. The EPS is a strong profitability indicator because it is a derivative of profits. Baxter offered an EPS of $ 551 while Becton offered an EPS of $ 5.69. The high EPS for Baxter than Becton suggests higher profitability at Baxter than Becton because it is the organization’s net profits that influence the amount offered in EPS. The difference between the values of EPS offered by the two organizations is also too wide to have occurred by chance and instead indicates differences in profitability. Observed differences in the two EPS ratios imply that investing in Baxter is more profitable than investing in Becton (Siddiqui, 2006).

Profit rate

Profit margin defines the ratio of gross profits to sales and shows an organization’s efficiency in managing its cost of goods sold. Higher ratios show better management of production costs towards better profitability. Baxter reported a gross profit rate of 0.51 percent while Becton reported a rate of 0.246 percent. The higher rate at Baxter, therefore, suggests better management of the organization’s cost of sales and higher profitability. The rate is also consistent with the EPS and therefore supports the position that Baxter is more profitable than Becton. Two major factors could explain the difference. Baxter could be managing to sell its products at high prices and strategies towards competitiveness at such prices such as brand development and quality could be factors. The organization could alternatively be more successful in minimizing its cost of production than Becton does to generate higher unit gross profit for similar commodity sales. The difference in EPS for the two organizations is however very large as compared to the difference between profit ratios and the number of common stockholders in each organization could explain this (Siddiqui, 2006).     

Profit margin ratio

The profit margin ratio is a profitability measure that factors in expenses in sales. Examples of such expenses are sales commissions. It, therefore, explains management’s effectiveness in managing expenses. The profit margin ratio for Baxter is 0.17 percent while the profit margin ratio for Becton is 0.073 percent. The higher ratio at Baxter shows that the organization is more efficient in managing sales expenses than Becton. The direction of the difference is further consistent with the direction of differences in profit rate and EPS and supports better profitability at Baxter (Jagels, 2006).

Return on asset ratio

The return on asset ratio is a measure of an organization’s efficiencies in managing their assets towards earning profits. A higher ratio means better utilization of assets in pursuing an organization’s profit objectives. A comparison of the ratio between the two organizations suggests better profitability at Becton than at Baxter. Becton reported a return on assets ratio of 0.22 percent while reported a ratio of 0.063 percent. The profitability indicator is different from other indicators in which Baxter shows better profitability but the difference in the value of the organization’s total assets could explain this. Baxter could be having higher value of assets to moderate the rate of return per unit asset value (Jagels, 2006).  

Asset turnover ratio