Profitability: the proverbial and literal bottom line

We’ll close out the income statement with a look at profitability.

Again, we’re still anchored on the income statement with this portion of our analysis.

In prior posts, we first looked at revenue, then operating costs.

If we isolate only operating revenues, then pull out operating costs, we’re left with operating income. Divide operating income by operating revenue and we get operating margin.

(We can use the words “income” and “profit” interchangeably.)

Examples from Income Statements

So let’s go back to our BioTechne Income Statement again:

In some cases, we’ll find gross profit, which lives above the operating profit line.

Gross profit is when we just subtract the direct costs of producing a good or providing a service. Recall from previous sections that gross profit can be greatly impacted by when a business chooses to recognize revenue and by decisions about what to include in Cost of Goods (CoGs).

We exclude operating costs like corporate overhead, e.g. selling, general and administrative expenses. We typically also exclude research and development expenses, since those are investments in future goods and services.

Note that for BioTechne the gross margin is almost 70%- pretty healthy. Just for fun, let’s compare the gross margin of our comparator, Beckton Dickenson.

Here’s their income statement. They don’t list out their gross margin for us, but we can calculate it by subtracting the second line from the first one: $8477, which gets us to a gross margin of ~45%.

If the gross margin is low, then management is very likely to hawkishly monitor the cost of sales. And if you are on the receiving side of that (either in R&D for future product improvements or in an operations function), then that’s a key piece of information you’d want to know to be effective.

Going back to the BioTechne Income Statement, next we see the operating expenses broken out by selling, general and administrative (sometimes called SG&A, and some companies break Selling and ‘G&A’ into separate lines) and R&D. This is then subtracted from the gross margin to give the operating income.

Finance for Scientists

More in this series

1. Why am I writing about finance?
2. How to learn the financial basics about a new (to you) business
3. Every scientist’s dream: Understanding financial statements
4. A first look at income statements: revenue, costs and profits
5. What scientists need to understand about revenue and its recognition
6. Income Statement Fun: What is included in the Cost of Sales and why you should care
7. How expenses and depreciation can affect the profitability of your scientific work
8. Profitability: the proverbial and literal bottom line
9. Using the Balance Sheet to Understand a Company’s Financial Health
10. Assets: tangible, intangible, and goodwill
11. Decoding Financial Health with Liabilities & Equity from the Balance Sheet
12. Navigating a company’s financial condition with the cash flow statement
13. The Anatomy of a Cash Flow Statement: Operating, Investing, and Financing
14. Budgeting 101: Using our newly acquired financial intelligence to make sense of the budgeting process
15. Making Sense of the Numbers Through Financial Ratios
16. Your Company’s Quarterly Earnings Call: How to Make Sense of It All
17. The “Big Five” Numbers — What Investors Care About and Why
18. Net Present Value: Making the Financial Case for Advancing Scientific Projects You Care About

Pulling more meaning from the bottom line

Operating income or profit is a key to financial health— it shows the profit made from running the business. You may have heard the term EBIT in an earnings call. This acronym stands for Earnings Before Interest and Taxes, and is synonymous with operating income. Remember how we talked about all the shenanigans that are possible with depreciation and amortization? Well, due to outright fraud (beyond poor judgment or bias) being committed by some companies with those figures, Wall Street now prefers EBITDA, where the DA tacks on Depreciation and Amortization, which removes depreciation and amortization from the operating income to hopefully provide a more clear-eyed view of operating cash flows.

One other interesting thing to pay attention to here as someone in a scientific function is the percentage of gross margin a company is spending on R&D. In the case of BioTechne, R&D is about 11% of their gross margin. For BD, it’s about 14%. For Illumina, it’s close to 44%. Different sectors in life sciences will have very different investments, so it’s not a bad idea to poke around at a few financial statements to get a sense of what is standard and how a prospective employer, for instance, compares. Investors will sometimes look at something called Return on Research Capital (RORC), which is basically comparing the previous year’s R&D expenditure to this year’s gross margin. This might be somewhat challenging and discouraging for scientists.  When you work for BD, 14% is a lot bigger in real dollars than when you work for Bio Techne.

Below operating income or profit, you find a compendium of other line items that we will skip over here (you can see that these are generally smaller dollar values than what we’ve already covered), before finally arriving at Net Profit. Or, as it’s called on the BioTechne Income Statement, ‘Comprehensive Income Attributable to BioTechne.’ This line is the oft referred to ‘Bottom Line.’

To summarize: Revenue = Top Line, Profit = Bottom Line. To this day I have to pause to remind myself of the difference between Revenue and Profit, but there it is.

There is plenty more to the Income Statement that we aren’t covering here, but hopefully these posts have helped orient you to what’s included and how to parse it.

In the next post we will move on from the income statement and start to tackle the second financial statement in the trifecta: the Balance Sheet. Don’t forget to join the mailing list to be notified when it’s published!