Berry Ratio

The Berry Ratio - is defined as the ratio of gross profit to operating expenses. The Berry ratio has its source in the late 1970s, it was named after Dr Charles Berry who developed this method. Interest and external income are usually not included in gross profit, while depreciation may or may not be belonged in operating expenses.

$BerryRatio={\frac {GrossProfit}{OperatingExpenses}}$

Use of the Berry Ratio

The Berry ratio has been featured in many articles. It is used quite rarely due to its complexity. Lang M., Cottani G., Petruzzi R. and Storck A. in their book they write that "Largely viewed as a variant of the cost plus method, it can have quite a significant impact on the profitability of a tested party compared to the operating margin.". Therefore, caution is advised when using the Berry ratio in practice.

To apply the Berry Ratio, three conditions must be satisfied:

• The value of the functions performed in the controlled transaction (both the assets used and the risks assumed are taken into account) is proportional to the operating expenses.
• The value of the functions performed in the controlled transaction (as before taking into account the risks assumed and assets used) is not importantly affected by the value of the products distributed (is not proportional.
• The taxpayer does not perform any other meaningful function in the controlled transaction. Which should be remunerated using another financial indicator or method.

There are situations in which the Berry ratio can be very helpful and useful. This applies primarily to the activities of intermediaries, during which the taxpayer purchases goods from a related enterprise and resells to other related enterprises. In this situation, the resale price method may not apply due to the lack of uncontrolled sales. Moreover, the cost-plus method, which gives for a mark-up on the cost of goods sold, may also not apply if the cost of goods sold consists of controlled purchases. The operating costs at the intermediary can be reasonably independent of the formulation of transfer prices. Unless they are significantly affected by controlled transaction costs (for example rental charges, head office charges) paid to related enterprises.

Examples of Berry Ratio

• The Berry Ratio is a measure of the profitability of a business and can be calculated by dividing the gross profit by total operating expenses. For example, if a company has a gross profit of $50,000 and operating expenses of $30,000, its Berry Ratio would be 1.67 (50,000/30,000). This indicates that the company is generating a profit of 1.67 for every dollar of operating expenses.
• A retail store that sells shoes might measure its Berry Ratio by dividing the total revenue from shoe sales by the total cost of operating expenses related to the store. For example, if the store had total revenue of $80,000 from the sale of shoes and total operating expenses of $40,000, the Berry Ratio would be 2.0 (80,000/40,000). This indicates that the store is generating a profit of 2.0 for every dollar of operating expenses.
• A restaurant might measure its Berry Ratio by dividing the total revenue from food sales by the total cost of operating expenses related to the restaurant. For example, if the restaurant had total revenue of $120,000 from food sales and total operating expenses of $60,000, the Berry Ratio would be 2.0 (120,000/60,000). This indicates that the restaurant is generating a profit of 2.0 for every dollar of operating expenses.

Advantages of Berry Ratio

The Berry Ratio is a useful tool for measuring the profitability of a business. It is calculated by dividing the gross profit of a business by its operating expenses. It is a useful metric for assessing the overall financial performance of a business and can help to identify areas of improvement. The following are some of the advantages of using the Berry Ratio:

• It provides a quick and easy way to measure and compare the profitability of a business over time. It takes into account all of the major costs and revenue sources of a business, making it a comprehensive measure of financial performance.
• The Berry Ratio can help to identify areas of waste and inefficiency in a business’s operations. By looking at the overall profitability of a business, it can pinpoint areas where expenses are excessive and suggest ways to reduce costs.
• It can be used as a benchmarking tool to compare the performance of a business to its competitors or to the industry as a whole. This can be useful for assessing the competitive positioning of a business and can help to inform strategic decisions.

Limitations of Berry Ratio

The Berry Ratio is a useful tool for evaluating a company's performance, but it has some limitations. These include:

• It does not take into account non-operating expenses, such as interest payments, taxes, or one-time expenses.
• It does not take into account non-recurring income or revenue.
• It does not consider the size of the company, which can influence profitability.
• It does not factor in changes in the cost of goods sold or other costs associated with running a business.
• It does not account for the effects of inflation, which can affect the value of a company's assets.
• It does not reflect the potential growth of the company.

Other approaches related to Berry Ratio

The Berry Ratio is an important tool for measuring the overall financial health of a business. While it is a useful metric, there are several other methods of analyzing a business’s financial performance. These include:

• Return on Investment (ROI): ROI measures the efficiency of an investment, by taking the total return of the investment and dividing it by the total cost of the investment.
• Operating Profit Margin: This ratio calculates the amount of profit made after operating costs have been deducted from total revenue.
• Cash Flow to Debt Ratio: This ratio measures a company’s ability to cover its current debt obligations by comparing its available cash flow with its total debt.
• Earnings per Share (EPS): EPS measures the profitability of a company by dividing its total net income by its total number of shares outstanding.

In summary, the Berry Ratio is an important tool for measuring the financial health of a business, but it is just one of many different methods of analyzing a company’s financial performance. Other methods include ROI, Operating Profit Margin, Cash Flow to Debt Ratio and EPS.

Footnotes

Berry Ratio — recommended articles

Return on sales — EBITDAR — Underlying Profit — Du Pont analysis — Basic earnings power — Combined Ratio — Gross margin in retail industry — Cost-income ratio — Return on common equity

References

• Eden L., Zakrevska T. (2017), The Berry Ratio: More than a Profit Level Indicator?
• Lang M., Cottani G., Petruzzi R., Storck A. (2018), Fundamentals of Transfer Pricing: A Practical Guide, Kluwer Law International B.V.
• OECD (2017), OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations 2017, OECD Publishing
• Przysuski M., Lalapet S. (2005), A Comprehensive Look at the Berry Ratio in Transfer Pricing, Tax Analyst, Volume 40, Number 8
• Wittendorff J. (2010), Transfer Pricing and the Arm's Length Principle in International Tax Law, Kluwer Law International B.V.

Author: Justyna Siudy