Friday, May 23, 2008

Analytical Review 101 – Part II

Gross Profit%
What does the Gross Profit % represent? To understand this, we need to understand two components, Revenue and Cost of Goods Sold.

Revenue, turnover and sales all mean the same thing. It represents sales to customers for goods sold or services rendered. For a company like Nestlé, its’ revenues, inter-alia, are derived from the marketing and the sale, both locally and for export, of ice-cream, powdered milk and drinks, liquid milk and juices, instant coffee and other beverages, chocolate confectionery products, instant noodles, culinary products, cereals, yogurt and related products.

Cost of Goods Sold (COGS)
Cost of goods sold, COGS, or "cost of sales", comprises of all direct costs attributable to the production of the goods sold by a company.

This amount includes the materials cost used in creating the goods along with the direct labor costs used to produce the good, meaning only costs that are directly tied to the production of the products are classified under COGS.

For Nestlé, its’ COGS would include costs of raw materials purchased including transport costs to bring these materials to its’ factories. The factory workers’ wages and overheads to convert the raw material foodstuffs into saleable products’ would also form part of its’ COGS.

Gross Profit
Gross Profit = Revenue - COGS. Therefore, gross profit % represents the overall gain realized from the sale of its’ products. A gross profit % of 32.94% means that for each Ringgit of sales made, Nestlé earns RM0.32 sen. This means it only costs Nestlé RM0.68 to produce the product.

However, take note that the Company must cover its’ other costs not included in the COGS. These include indirect costs such as distribution & selling expenses, administrative expenses, other expenses, interest costs and tax expense.

Analytical Review
So what does else does the Gross Profit % tells us? Not much really. That is why we need to compare over a period of time. By constructing the financial dashboard, we can see the trend of the Gross Profit % over a period of five years, from 2003 to 2007.

Overall, we can see that Nestlé has been successful in maintaining its’ Gross Profit. This means that despite the increase in raw materials such as basic foodstuffs, the Company has managed to pass on these additional costs to its’ customers by raising its’ prices. It may also indicate that the factories of Nestlé are continuously improving its’ efficiency and processes and keeping operating costs down.

An even better comparison would be to compare Nestlé Gross Profit % with its’ competitors such as DUTCH LADY MILK INDUSTRIES BHD. We shall do this at a later date.

By performing some basic computations, we know now that Nestlé appears to profitable as it is making approximately RM0.32 for every RM1 of sales. These profits appear sustainable as the Company has managed to maintain its’ Gross Profit % despite the rising costs of raw materials foodstuff.


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