Financial Statements and
Business Performance
Prof. M.S. Narasimhan
Module 8
Cost Management
To assess how good the company in managing the cost, we need to measure cost to sales ratio.
Total expenses to sales ratio for the year 1 is 164 divided by 180 and it is equal to 91. 11. For
the year 2, it is 75. 17. We are able to reduce the cost in the year 2 from 91 rupees to 75 rupees
for every 100 rupee of a sales.
Any reduction in the cost will have an impact on the profit. Instead of cost ratio, we can also
measure profit margin. Profit margin is equal to profit before interest and taxes divided by
sales. The profit margin for the year one is equal to 16 divided by 180, that is 8. 89. For the
year 2, it is 149 divided by 600, that is 24. 83. The company achieved superior performance by
controlling the cost and increasing the profit margin. Profit margin has improved nearly by 3
times during the second year.
For the year 1, the ROTA was 10. 67. Asset turnover ratio and profit margin for the year 1 are
1. 2 and 8. 89%. If you multiply these two values, you will get 10.67. For the year two, the
return on total asset was 49.67. The asset turnover ratio and profit margins are two times and
24.83 percentage. If you multiply these two values, you will get 49.67 percentage.
That is asset management and cost management are fundamental profitability drivers. We can
improve the profitability by improving the asset management or cost management or both. The
flowchart on the screen summarizes the asset turnover and profit margin and their relationship
with the return on total asset. Both asset and cost management have contributed to superior
performance. Let us drill down our flowchart to understand the contributor of superior asset
and cost management.
The total asset consists of fixed asset and current assets. Inventory, receivables, cash and bank
together is called current assets.
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