Basic Power Earning Ratio
Basic Power Earning is the ratio measures company’s ability to use the assets to generate profit before interest and tax. It measures the earning power of a business before taking into account financial cost and income tax expense.
Basic Power Earning is the relationship between company performance and the number of assets it owns. We exclude the income tax expense as it the compliance which needs to follow, it is not related to the company performance. Finance cost is the cost to obtain debt instead of equity capital. It is related to the company’s capital structure which requires a high-level decision before any change. The company performance should exclude the finance cost as it is managed at the top strategic level.
Basic Power Earning Formula
| Basic Power Earning = Earning Before Interest and Tax / Total Asset |
- EBIT: Earnings before interest and tax of the year.
- Total Asset: is the total asset which company owns at the reporting date. Average total assets is preferred if the data is sufficient. If not we can use stand-alone total assets.
Basic Power Earning Example
ABC Co., Ltd is a trading company that generates a profit of 500,000 in 202X with a total asset of $ 5,000,000. In the same year, company pays income tax of $ 100,000 and financial cost of $ 50,000. Please calculate Basic Power Earning Ratio.
Basic Power Earning = Earning Before Interest and Tax / total asset
EBIT = $ 500,000 – 100,000 – 50,000 = 350,000
Total Asset = $ 5,000,000
BPE = 350,000 / 5,000,000 = 7%
It means that ABC has the basic power of earning 7% of the total asset.