Profitability of fixed assets: calculation formula and rules

2024 Author: Howard Calhoun | [email protected]. Last modified: 2023-12-17 10:16

The production assets of a firm determine its value, power, market place and ability to accumulate income. Management pays special attention to the efficiency of asset use. If the asset is misused, it loses its usefulness. Economists determine the economic effect in terms of profitability of fixed assets.

Essence of terms

Profitability is often confused with profitability. These are terms that are close in meaning but have different meanings. In a broad sense, profitability is the excess of profit over costs. If less money is invested than received, then the investment is profitable. Here you can draw an analogy with a deposit. A person transfers funds to the bank for temporary use, and then receives them with interest. In the case of business investment, we are also talking about the “bonuses” that can be derived from the initial investment in fixed assets. Therefore, the ratio is expressed as a percentage.

Profitability showsabsolute value, and profitability - potential. If a firm made a profit of 10 million and a profit margin of 15%, then this is a less efficient business compared to a firm that made a profit of 2 million with a profit margin of 80%.

OS

Fixed assets (funds) include: buildings, structures, machinery, equipment, durable inventory, etc.

Signs of OF:

• reusable;
• long shape retention;
• wear and tear;
• transferring value to products;
• service life - more than 12 months;
• cost over 100 minimum wages.

The profitability of fixed assets shows the ratio of absolute values - what proportion of the invested funds is profit. Below is its formula.

Return on Fixed Assets=Profit / Cost of Fixed Assets

For the purpose of a deeper analysis, those elements that are directly involved in production are distinguished from among the equipment. Many large objects, for example, service cars or departmental gardens, do not bring profit, but need constant care (maintenance costs). Economists are primarily interested in the efficiency of the use of assets involved in production. To calculate this indicator, approximately the same formula is used. However, the denominator is the cost of production assets only:

Profitability of Fixed Assets=Profit / PF Cost

What are they showing?

These ratios are calculated to determine the effectivenessOS usage. Low profitability is a signal for management action. Sharp fluctuations in values indicate an unbalanced strategy and the potential for improvement in the position of the firm.

Investors need these coefficients to determine the profit received from each invested ruble. Profitability reflects the return on investment in an object. If the value gradually decreases, then inefficiently used equipment should be discarded. The values of indicators in dynamics make it possible to identify problem areas that need optimization, unprofitable assets and reserves for labor productivity growth.

Customers and lenders evaluate the success of the organization by profitability.

Other indicators

When purchasing equipment, the organization spends additional money on its delivery and installation. Already at this stage, the owner expects to get a beneficial effect from its use. Such a purchase is carried out based on the results of calculations of quality indicators of work. These include, in addition to the profitability of fixed assets, capital productivity and capital intensity. Let's consider them in more detail.

Return on assets is the ratio of the amount of the issued product to the cost of fixed assets:

FO=Issue / Residual Value

The denominator of the fraction is the average annual balance sheet value.

Example: a company purchased an automated line for $10 million. It produces 5,000 cars a year using this equipment.

FO=5,000 / 10,000,000=0.0005, i.e. every dollar"creates" 0.0005 car.

Capital intensity is working capital productivity.

FU=Residual Value / Issue

Substitute the values from the previous task into the formula:

FU=10,000,000 / 5,000=2,000.

To craft a car, you need to use OS worth $2,000

Balance calculations

Usually, the coefficient is calculated from the balance sheet data for the year. Profit is taken from line 2400 or the balance of account 99. It is much more difficult to calculate the cost of fixed assets. This is the arithmetic average of the values at the beginning and end of the period:

OF avg=(OSN + OSK) / 2

Depreciation must be taken into account in this formula. In addition, during the analyzed period, new funds may appear or old funds may be written off. The cost of such equipment sometimes greatly affects the final result. Therefore, it is better to use values from the balance:

Ch. 01 or sch. 1050 (at the beginning and end of the year) or ledger data. This is a more accurate method that does not incur additional costs:

OS=OSStart + Basic(N/12) – OSRetired х (12-N)/12, where:

Fixed and retired fixed assets - this is the cost of fixed assets entered and withdrawn from the balance.

N is the number of months the equipment has been used.

Tasks

It is necessary to calculate the profitability of using fixed assets with the following data:

Condition 1. Net profit – RUB 569

Average annual cost of OF - 2 thousand rublesRUB 928

R=PE / OFav=569 / 2,928100=19, 43%

Condition 2. Net profit - 250 rubles.

The cost of OF at the end of the year is 1,950 rubles.

The cost of OF at the beginning of the year is 2,150 rubles.

R=PE / ((OFn + OFK) / 2)=250 / ((2 150+ 1 950) / 2)100=12, 19%

Purpose of evaluation

When deciding to invest in a particular object, evaluate its effectiveness. Any investment should pay off. Otherwise, they make no sense.

Economic profitability analysis helps the owner in solving such problems:

• make a decision on further investment of funds;
• calculate the profitability of the organization;
• adjust business practices;
• compare the dynamics of coefficients;
• identify the most efficient and unprofitable activities;
• evaluate the quality of work of employees;
• find room for improvement.

Deep analysis

In order to better assess the efficiency of equipment use, in addition to the profitability of fixed assets, the following coefficients are additionally calculated:

Return on sales - shows the income received from each unit earned:

Rent Prod=Net Profit / Revenue

Return on equity reflects the efficiency of using own funds. It is used to compare the performance of different companies and activities:

Rent SK=Net profit / Share capital

Profitabilitycurrent assets reflects the efficiency of using the most liquid assets (cash, securities, stocks, goods):

• Rent OA=Net income / OA.
• Profitability of fixed assets and working capital give a complete picture of the use of the property of the organization as a whole.
• Return on costs (of products) is the ratio of profit to cost.

If the value of the indicator is positive, then the revenue exceeds the cost.

It is better to analyze various indicators in dynamics in order to identify stages of growth and decline in efficiency.

Example

The organization has a furniture production workshop on its balance sheet. For the year, the company received a net profit of 5.6 thousand rubles. The cost of fixed assets at the beginning of the year amounted to 15.8 thousand rubles. During the same period, 2.3 thousand rubles were written off for depreciation. and purchased new equipment for 4.7 thousand rubles. The following year, the cost of fixed assets was fixed at 18.2 thousand rubles. at the beginning and 19.3 thousand rubles. at the end of the year. Net profit amounted to 6.2 thousand rubles. Calculate the profitability ratios of fixed assets:

• Average cost for the first year: (15.8 - 2.3 + 4.7)=18.2 thousand rubles.
• First year profitability=5.6 / 18.2100=30.7%.
• Average cost for the second year: (18.2 + 19.3) / 2=18.75 thousand rubles.
• Second Year Profitability=6.2 / 18.75100=33%.

Due to investments in operating systems, profitability for the second year increased by 3%. This positively characterizes the activity of the company. In the same timeincreased efficiency indicates that:

• there is an unrealizable investment potential;
• organization occupies a low-competitive niche;
• the company has inflated prices.

It is not enough just to calculate the profitability of fixed and working capital of the organization. It is also necessary to compare them in dynamics and with industry average values. The balance sheets of enterprises in the form of OJSCs can be viewed on the website of the organizations themselves or on the website of the State Statistics Committee. These enterprises are required to publish their financial statements quarterly in the media, as their securities are listed on the MIBR.

Reporting changes

Since it is necessary to analyze the effectiveness of the use of assets over a long period, it should be noted that in 2011 the form of financial statements has changed. If an economist needs to calculate the coefficients for an earlier period, then it must be taken into account that information on the initial and residual value for each period is entered into the balance sheet, and the amount of accumulated depreciation is reflected in a separate line. So it is much easier to analyze OF.

Also, such asset items as financial investments have undergone changes:

• the cost of investments is reflected separately at the beginning and end of the period;
• The amount of incoming and outgoing investments is reflected separately;
• exchange differences are calculated for all types of financial investments.

OS Analysis

FF are analyzed in suchsequences:

• investment strategy is being identified;
• calculate the profitability of fixed assets (according to the formulas above) from the balance sheet;
• changing coefficients in dynamics is analyzed.

To determine the strategy, you need to calculate the structure of assets in the form of non-current assets and short-term investments. It is also necessary to identify and determine the share of factors in the change in the book value:

DF=(Change in the value of financial investments / Change in the value of investment assets)100

If the change in assets occurred due to the growth of fixed assets, then the organization chose the direction of investment in the development of the production base. If the increase was due to an increase in financial investments, then the organization is engaged in the development of a group of companies.

When analyzing FA, attention should be paid to the use of assets received / leased. In the first case, production possibilities increase, and in the second they decrease.

What else to look out for?

The return on fixed assets indirectly characterizes the long-term goals of the owners, as it shows whether they seek to make a profit or intend to invest in funds for a long period. For organizations that are at the stage of growth, the rate of input of fixed assets (the share of funds that were updated during the year) and their production potential are quite high. Enterprises that intend to leave the market have high rates of asset retirement and depreciation.

When interpreting the results, it should be taken into account that the value of the coefficients depends on the level of wear. If the equipment almost completely transfers its value to the finished product, then the value of the coefficients will be overestimated. Objects are completely written off the balance, and the cost of new ones should cover the needs of simple reproduction.

The level of accrued depreciation is recommended to be compared with the average annual value:

I=Depreciation / Average annual cost.

To determine how much of the assets depreciated over the period, you should calculate the depreciation factor:

CI=Accumulated Depreciation / Cost Cost

The depreciation of retired fixed assets is determined in a similar way:

CI=Accumulated depreciation / Value written off

This ratio shows the timeliness of write-offs of funds. If an organization does not fully depreciate equipment, then it means that it is updating the OS and maintaining its production potential.

The shelf life coefficient, which shows what part of the fixed asset has not yet been amortized, can be calculated at the end of each period and on average for the year:

Kg=Residual cost / Initial cost100

Ratio

Separately, you should calculate the profitability of fixed assets for the active and passive parts. The competitiveness of the enterprise to a large extent depends on the renewal of the production part of the equipment. From this point of view, the depreciation of all other assets does not matter. With regard to the active part of the funds,the inequality is met:

Depreciation rate < Retirement rate < Entry rate

The increase in the retirement rate indicates the excess of depreciation written off over accrued. This leads to a decrease in the overall level of older OS. If this ratio is met, the retiring funds will not be fully amortized. The second inequality testifies to the expansion of reproduction, the increase in the usefulness of objects. A comprehensive assessment is given by wear coefficients, the limiting value of which is 50%. If more than half of the cost of objects is written off for products, then the condition of the funds is not good enough.