# Basic Earning Power Ratio

Basic earning power (BEP) ratio is a measure that calculates the earning power of a business before the effect of the business' income taxes and its financial leverage. It is calculated by dividing earnings before interest and taxes (EBIT) by total assets.

Basic earning power (BEP) ratio is similar to return on assets ratio as both have the same denominator i.e. total assets. However, unlike return on assets which measures the net earning power, the basic earning power (BEP) ratio calculated the operating earning power i.e. their numerators are different.

## Formula

$$\text{Basic Earning Power} \\= \frac{\text{Earnings Before Interest and Taxes}\ (\text{EBIT})}{\text{Total Assets}}$$

## Example

Dell Inc. earnings before interest and taxes for the financial year ended 2 February 2012 are $4,431 million while its total assets as at 2 February 2012 are$44,533. The company's net income for the same period is $3,492 million. Find the basic earning power ratio and return on assets and high light how is BEP ratio useful. Basic Earning Power (BEP) Ratio = EBIT ($4,431 million) ÷ Total Assets ($44,533 million) = 9.95% Return on Assets Ratio = Net Income ($3,492 million) ÷ Total Assets (\$44,533 million)
= 7.84%

Basic earning power ratio tells that Dell has a raw earning power of 9.95%. Since its return on assets is 7.84%, we can conclude that 2.11% of the company's revenue is expensed out as interest expense and taxes.

by Obaidullah Jan, ACA, CFA and last modified on

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