5 Profit & how to increase it 41 Flashcards
What is ratio analysis ?
It involves looking at the relationship between financial data to assess the performance of a business.
What is the formula for Gross Profit ?
Profit Margin = revenue - costs of sales
how are Profitability ratios useful ?
It can show you :
If the business is making profit
If the profit is growing
What is the formula for Gross Margin (%) ?
Gross Margin = gross profit / revenue
How is the operating profit margin useful ?
It helps tell us :
How a efficiently a business is run
How effectively a business turns its sales into profit
What is the formula for Gross Profit Margin ?
Gross Profit Margin = (gross profit / sales revenue) x 100
How to increase profit ?
+ Increase the quantity sold (higher sales)
+ Increase selling prices (higher sales)
+ Reduce variable costs per unit (Lower costs of sales =
Higher gross margin %)
+ Increase Production Output (spread fixed costs over higher output)
+ Redice fixed costs (lower costs = Higher profit)
Increase the quantity sold ( Higher sales )
Why?
- Higher sales volume = higher sales, assuming price is not lowered & makes better use of production capacity
- May result in higher market share
Will it work?
- Depends on elasticity of demand
Why might it not work?
- Competitors are likely to respond
- Marketing efforts may fail
- Fixed cost might actually rise
Increase selling prices ( Higher sales )
Why?
- Higher selling price = higher sales, assuming quantity sold does not fall in response
Will it work?
- Depends on elasticity of demand
Why might it not work?
- Competitors are likely to respond ( e.g. lower prices )
- Customers may decide to switch to competitors with lower prices
Reduce Variables Costs per Unit ( Lower Cost of Sales = Higher Gross Margin % )
Why?
- Increase the value added per unit sold
- Higher profit margin on each item produced and sold
- Customers do not notice the change in price
Will it work?
- Yes, if suppliers can be persuaded to offer lower prices
- Yes, if quality can be improves through lower wastage
- Yes, if operations can be organized more efficiently
Why it might not work?
- Lower inout costs might mean lower quality inputs-can lead to greater wastage
- Customers may notice a decrease in product quality
Increase Production Output ( Spread fixed costs over higher output )
Why?
- Provides grater quantity of product to be sold
- Enables business to maximize share of market demand
Will it work?
- Yes, if extra output can be sold
- Yes, if the business has spare capacity
Why it might not work’
- A dangerous option, what if demand is not there? Fixed costs might actually rise
- Production quality might be compromised in the rush to produce more
Redice fixed costs ( Lower costs = Higher profit )
Why?
- A drop in fixed costs translates directly into higher profits
- Reduces the break-even output
Will it work?
- Yes, provided costs cut don’t affect quality
Why might it not work?
- Might reduce ability of business to increase sales
