Looking at a company's profitability is a very important step in understanding a company. Profitability is essentially why the company exists and is a key component while deciding to invest or to stay invested in a company. There are many metrics involved in calculating profitability, but for this test, I will look at Joy Global's (NYSE:JOY) Earnings and Earnings Growth, Profit Margins, Profitability Ratios and Cash Flows.
Through the above-mentioned four main metrics, we will understand more about the company's profitability and if this summary is compared with other companies in the same sector, you will be able see which has been the most profitable.
Earnings and Earnings Growth
1. Earnings = sales x profit margin
• 2010 - $3.524 billion x 13.1% = $461.6 million
• 2011 - $4.403 billion x 14.3% = $629.62 million
Joy Global's Earnings increased from $461.6 million in 2010 to $629.62 million in 2011.
2. Earnings per share = net income / shares outstanding
• 2010 - $461.6 million / 103.53 million = $4.46
• 2011 - $629.62 million / 105.11 million = $5.99
Joy Global's Earnings per share increased from $4.46 in 2010 to $5.99 in 2011.
3. Five-year historical look at earnings growth
• 2007 - $280.17 million, .4% increase over 2006
• 2008 - $372.56 million, 32% increase
• 2009 - $453.34 million, 21.7% decrease
• 2010 - $461.6 million, 1.8% increase
• 2011 - $629.62 million, 36.4% increase
In analyzing the growth of Joy Global Inc over the past five years, it is clear the company has posted very consistent sales growth compared to its peers. Even during the financial crisis in 2008 into 2009 Joy Global Inc still reported positive earnings growth. Over the past five years, the company has averaged earnings growth of 18.46%.
4. Gross Profit = Total sales - cost of sales
When analyzing a company, gross profit is very important because it indicates how efficiently management uses labor and supplies in the production process. More specifically, it can be used to calculate gross profit margin.
• 2010 - $3.524 billion - $2.350 billion = $1.173 billion
• 2011 - $4.403 billion - $2.897 billion = $1.506 billion
5. Gross Profit Margin = Gross Income / Sales
The gross profit margin is a measurement of a company's manufacturing and distribution efficiency during the production process. The gross profit tells an investor the percentage of revenue/ sales left after subtracting the cost of goods sold. A company that boasts a higher gross profit margin than its competitors and industry is more efficient. Investors tend to pay more for businesses that have higher efficiency ratings than their competitors, as these businesses should be able to make a decent profit as long as overhead costs are controlled (overhead refers to rent, utilities, etc.)
• 2010 - $1.173 billion / $3.524 billion = 33.28%
• 2011 - $1.506 / $4.403 billion = 34.20%
As the gross profit margin increased, it implies that management was more efficient in it's manufacturing and distribution in the production process than the year previous. The gross margin went from 33.28% to 34.20%. As the gross margin increased Joy Global Inc passes.
6. Operating income = Total sales - operating expenses
The amount of profit realized from a businesses operations after taking out operating expenses - such as cost of goods sold (COGS) or wages - and depreciation. Operating income takes the gross income (revenue minus COGS) and subtracts other operating expenses and then removes depreciation. These operating expenses are costs that are incurred from operating activities and include things such as office supplies and heat and power.
• 2010 - $695.79 million
• 2011 - $920.14 million
7. Operating Margin = operating income / total sales
Operating margin is a measure of what proportion of a company's revenue is left over after paying for variable costs of production such as wages, raw materials, etc. A healthy operating margin is required for a company to be able to pay for its fixed costs, such as interest on debt.
If a company's margin is increasing, it is earning more per dollar of sales. The higher the margin, the better.
• 2010 - $695.79 million / $3.524 billion = 19.74%
• 2011 - $920.14 million / $4.403 billion = 20.89%
As Joy Global's Operating Margin has increased, it leaves more cash for the company to pay for its fixed costs. As the operating margin increased, Joy Global Inc. passes this metric.
8. Net Profit Margin = Net income / total sales
A ratio of profitability calculated as net income divided by revenues, or net profits divided by sales. It measures how much out of every dollar of sales a company actually keeps in earnings.
Profit margin is very useful when comparing companies in similar industries. A higher profit margin indicates a more profitable company that has better control over its costs compared to its competitors. Profit margin is displayed as a percentage; a 20% profit margin, for example, means the company has a net income of $0.20 for each dollar of sales.
• 2010 - $461.5 million / $3.524 billion = 13.09%
• 2011 - $609.66 million / $4.403 billion = 13.84%
As Joy Global's net profit increased, it implies that the company is more profitable than it was a year ago. To pass, the net income must increase. Joy Global Inc passes.
9. SG&A % Sales = SG&A / total sales
Reported on the income statement, it is the sum of all direct and indirect selling expenses and all general and administrative expenses of a company.
High SG&A expenses can be a serious problem for almost any business. Examining this figure as a percentage of sales or net income compared to other companies in the same industry can give some idea of whether management is spending efficiently or wasting valuable cash flow.
• 2010 - $480.64 million / $3.524 billion = 13.63%
• 2011 - $602.01 million / $4.403 billion = 13.67%
As the SG&A % Sales increased, it implies that management is spending less efficiently. To pass, the SG&A % Sales must decrease. Joy Global Inc. does not pass.
10. ROA - Return on Assets = Net income / total assets
ROA is an indicator of how profitable a company is relative to its total assets. ROA gives an idea as to how efficient management is at using its assets to generate earnings. Calculated by dividing a company's net income by its total assets, ROA is displayed as a percentage. Sometimes this is referred to as "return on investment."
• 2010 - $461.5 million / $5.426 billion = 8.5%
• 2011 - $609.66 million / $6.166 billion = 9.88%
As the ROA increased from 8.5% in 2010 to 9.88% in 2011, it implies that management is using its assets to generate earnings. Joy Global Inc passes.
11. ROE - Return on Equity = Net income / shareholder's equity
The amount of net income returned as a percentage of shareholders equity. Return on equity measures a corporation's profitability by revealing how much profit a company generates with the money shareholders have invested.
• 2010 - $461.5 million / $1.952 billion = 23.64%
• 2011 - $609.66 million / $2.111 billion = 28.88%
As the ROE increased from 23.64% in 2010 to 28.88% in 2011, it reveals that the company is generating more profits from the money shareholders have invested. Joy Global Inc passes.
12. Free Cash Flow = operating cash flow - capital expenditure
A measure of financial performance calculated as operating cash flow minus capital expenditures. Free cash flow (FCF) represents the cash that a company is able to generate after laying out the money required to maintain or expand its asset base. Free cash flow is important because it allows a company to pursue opportunities that enhance shareholder value. Without cash, it's tough to develop new products, make acquisitions, pay dividends and reduce debt.
It is important to note that negative free cash flow is not bad in itself. If free cash flow is negative, it could be a sign that a company is making large investments. If these investments earn a high return, the strategy has the potential to pay off in the long run.
• 2010 - $583.49 million - $73.47 million = $510.02 million
• 2011 - $504.69 million - $110.52 million = $394.17 million
As the final number in free cash flow fell by 29% it raised a few questions. The main question is, did the company make any large purchases in 2011 that would reduce free cash flow? The answer is yes, On May 13, 2011 Joy Global Inc purchased LeTourneau Technologies Inc. from Rowan Companies Inc (NYSE:RDC) for $1.1 billion. For more information on the purchase read, View the 2011 Dynamic Annual Report. As this is a large investment one should watch for future erosion of the Margins to ensure that the company is making money on its assets. As the company has a history of strong results on its assets, this point neither a pass or fail but something to watch for in the future.
13. Cash flow margin = Cash flow from operating activities / total sales
The higher the percentage, the more cash available from sales.
If a company is generating a negative cash flow, which would show up as a negative number in the numerator in the cash flow margin equation, then even as it is generating sales revenue, it is losing money. The company will have to borrow money or raise money through investors in order to keep on operating.
• 2010 - $583.49 million / $3.524 billion = 16.55%
• 2011 - $504.69 million / $4.403 billion = 11.46%
As the company's cash flow margin is positive, it does not have to borrow money or raise money to keep operating. Even though the number is positive the margin has slipped. The margin slipped due to Joy Global's purchase of LeTourneau Technologies Inc. in 2011. One of the positive aspects of the purchase is, the company still has a positive cash flow, suggesting that it will not have to borrow or raise money to keep operating. Joy Global passes.
In analyzing Joy Global's profitability, it is clear that the company has been very consistent in creating profits. The company's Earnings and Earnings growth has been steady, with an average increase of 18.46% over the past five years. Joy Global still created positive earnings through the economic recession in 2009, giving the company a very consistent track record of growth.
Joy Global passed all aspects of the Profit margins segment, expect for the SG&A % Sales . In 2010 through to 2011, the SG&A % Sales fell slightly, indicating that management was less efficient in direct and indirect selling expenses. The company had healthy increases in gross margin, operating margin and net profit margin. Joy Global received 3 passes out of 4 on the Profit margins segment of the analysis.
Joy Global passed all aspects of the profitability ratio segment of the analysis. The company had healthy increases in its ROA and ROE. As both aspects of the analysis displayed positive growth, Joy Global received 2 passes out of 2.
Joy Global passed one of the two aspects of the cash flow summary and was neutral on the other. As Joy Global Inc purchased LeTourneau Technologies Inc. from Rowan Companies Inc, it decreased the companys free cash flow. As Joy Global made a large purchase in 2011 it will be a positive if Joy Global Inc. makes a return on the investment.
In analyzing Joy Global's profitability, it is clear that the company has been very profitable and consistent over the past few years. Most aspects of profitability are positive, and there are no red flags raised with these aspects of Joy Global's profitability.
Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in JOY over the next 72 hours.