Net Profit before tax X 100
Shareholders’ funds (bottom of balance sheet)
Net profit (profit before taxation) as a percentage of shareholders’ fund (money supplied by shareholders, reserves and the balance from the profit and loss account).
Shows the profit generated from the total financial investment in the company, generated from and on behalf of the shareholders.
The ratio gives an indication of how viable it is for the company to raise further funds for expansion (or to cut borrowings) via rights issues. Rights issues (the issue of more shares) increases the bottom line of the equation (shareholders’ funds) and, hence, the ratio value if profit remains the same. Earnings per share will also go down.
Hence rights issues should only be viable for companies showing an above average return with future prospects good in terms of profit.