Retail and commercial banks had a net profit margin of around 13.9% in the twelve months leading up to June 2020. The net profit margin for commercial banks had dropped significantly from June 2019 to 27.6%. 1 In contrast, commercial banks' net profit margins were 23.8% and 24.3% in June 2018 and June 2017, respectively.
The average profit margin of banking industry firms is very sensitive to changes in the state of the financial markets. The International Monetary Fund blames the difficulties brought on by the COVID-19 epidemic for the 2020 drop. According to the IMF, the continued tightening of financial conditions will lead to a worldwide banking industry that posts diminishing profits through 2025.
How Do You Figure Out Your Margin Of Profit?
Gross margin is the starting point. This is one of the most used financial ratios since it is the most straightforward tool for measuring profitability. Let's say your company earns $100 in sales, and it takes $10 in expenses to produce the goods. Suppose you have many interests or provide multiple services.
The product cost is the total of all production costs. It incorporates direct and indirect costs, such as salaries and raw supplies. Here, if we subtract $10 from our income of $100, we are left with $90.
To get to the net profit percentage, take the gross profit and divide it by the total revenue ($100): ($90) ($100) = (0.9). Multiplying by 100 gives us a final percentage, which in this case is 90%, the profit margin.
Why Is Profit Margin Necessary?
According to Ken Wentworth of Wentworth Financial Partners, "profit margin is significant because simply expressed; it demonstrates how much of every sales dollar is moving to the bottom line." It may be used to pinpoint price issues in a hurry. Furthermore, incorrect pricing might lead to cash flow problems, which can ultimately affect the survival of your business.
Understanding your field is essential for calculating whether or not your business is making a sufficient profit. For instance, "margin is often less than 10% in the restaurant business," Wentworth noted.
The Profit Margin at Different Banks
To even discuss a typical profit margin in the banking business is problematic. Banks' profit margins range widely, from around 5% to about 45%. Regional banks have a more significant average profit margin than money centre banks.
A 20% net profit for a specific money centre bank may indicate an absolute dollar number much higher than the amount represented by a regional bank's 25.7% profit margin due to the larger capital quantities involved.
Any valid comparison of financial institutions must be limited to those with similar business models, asset levels, and target markets. A regional retail bank cannot be compared to a huge investment bank, nor can an Indian investment bank be compared to a U.S. institution.
Banking Evaluation Criteria
Equity valuation indicators allow investors and analysts to evaluate financial institutions. Net interest margin, efficiency ratios, and asset return are frequently used measures.
Interest Profit Margin Net
By deducting interest expenses from interest revenue, a bank may determine its net interest margin, which is analogous to the gross profit margin used by most businesses. The primary source of a bank's income is interest earned from its loan portfolio. Interest costs are the money a bank spends to pay depositors interest on their various deposit accounts.
The average net interest margin for commercial banks in the United States in the first quarter of 2019 was 2.74%. Banks of different sizes and types have different net interest margins. When comparing bank holding companies with $50 billion to $500 billion in assets and those with more than $500 billion in assets, the net interest margin for the latter has generally trended downward from 2011 to 2019. 8
Ratios of Effectiveness
Another well-known statistic used to assess financial institutions is efficiency ratios. An efficiency ratio quantifies how well a business converts its resources into cash. These ratios also serve as benchmarks against which firms in the same sector may evaluate how well they are doing.
The efficiency ratio measures the proportion of operating expenditures incurred by the bank that are not related to earning interest. The banking sector generally has efficiency levels between 60% and 70%. 9
Expenses Divided by Revenues
Companies in the banking industry should pay close attention to their return on assets ratios since this metric is used to gauge how lucrative a business is about its total assets. A bank's return on assets ratio is determined by dividing its net income by its total assets.
A bank's high level of leverage means that even a modest return on assets of 1% or 2% can translate to significant profits. Commercial banks in the United States posted a ROA of 1.19% in the first quarter of 2019.
