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1. I would like to find out your view on the best data to use to determine Net Profit Margin (one of the Rule Maker Criteria).

I have copied a post from the RM Discussion Board (USA) that may also interest some participants in the Aussie Board.

2. I would also appreciate a more comprehensive answer to Q3 below.

Q1: My first question - why is gross margin so important?

A1: While it's not always a direct relationship, you'll find that companies with higher gross margins have the highest net margins. What we're doing though is whittling our way through the income statement. A company that has higher gross margins has more to invest in R&D, sales and marketing expense, etc. Companies that have low gross margins and relatively high net margins are normally more retail oriented than companies that make tangible goods. Gross margin gives us a measure of pricing power and is also somewhat reflective of demand, as higher gross margin products are often in higher demand.

When looking for Rule Makers we're looking for the companies that can efficiently make what they sell, the companies with lower gross margins and passable net margins like Home Depot, Dell, Wal-Mart are driven more by asset turnover (i.e., quickly turning over product) than Rule Makers.

Q2: My second question has to do with calculating the net margin - the financial data I have been using lists figures over 5 years under the following measures:

Reported EBITDA
Reported EBIT
Reported Pre-Tax Profit
Reported NPAT before Abnormals
Reported NPAT after Abnormals
Adjusted NPAT before Abnormals
Adjusted NPAT after Abnormals

As there wasn't a measure termed "Net Profit", I elected to use the last one on the above list. Was that a Foolish choice?

A2: Personally, when I see the term EBITDA (earnings before interest, taxes, depreciation and amortization) , I turn and go the other way. I think it's not a meaningful number. If it was simply EBTDA, it would at least be remotely interesting.

Q3: Finally, can someone explain to me what "Abnormals" are and how they affect other measures such as Cash, Debt, Revenue?

A3: I'm not sure, but I believe that "Abnormals" are extraordinary or unusual items. I'd probably go with NPAT before Abnormals (meaning net profit after tax before unusual items) when calculating net margin. I can't be sure of this though as these are UK/Australian (I'm pretty sure that the UK and Australia use the same accounting system) GAAP terms rather than US GAAP tems. You'll find that the balance sheet presentation of the companies that you're looking at is much different than what you'll see for US companies.
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