Common Terminology Flashcards
Net Profit Margin
Profit Margin
Net Income Margin
The total Net Income of a company or business line as a percentage of its Revenue: Net Profit Margin = Net Income ÷ Total Revenue.
Gross Profit Margin
The interviewer could also refer to Gross Profit Margin, which is simply Gross Profit as a percentage of revenue: Gross Profit Margin = Gross Profit ÷ Total Revenue
Operating Profit Margin/EBIT Margin
EBITDA Margin
Similarly, the interview may also refer to Operating Profit Margin (EBIT Margin), or EBITDA Margin. In both cases, this is simply the figure in question (Operating Profit, a.k.a. EBIT, or EBITDA) as a percentage of Revenue.
Break Even Analysis
The Fixed Costs of a business—i.e., the costs that are unavoidable—need to be overcome by making profit from sales of products. Presumably, each incremental sale contributes to profit at a rate that can be determined (or at least estimated); the question that is to be answered is, “How many units do I have to sell in order to overcome my Fixed Costs, i.e., to ‘Break Even’?”
When to use: Break-Even Analysis is often applied when deciding whether to develop a new product or make a capital equipment investment, as well as helping in making decisions around how to price products and service and the number of units to produce.
Break Even Point
the number of units sold at which Revenue equals Total Expenses (Fixed Expenses plus Variable Expenses).
Break-Even Number of Units = Fixed expenses ÷ (Revenue per unit – Variable Expenses per unit).
Unit Contribution Margin
Revenue per unit – Variable Expenses per unit
Break Even Price
Break-Even Price = (Fixed Expenses ÷ Sales Volume) + Variable Expenses per unit
Note that the expression (Fixed Expenses ÷ Sales Volume) equates to the required Unit Contribution Margin at the assumed Sales Volume in order to break even. In other words, Break-Even Price = Required Unit Contribution Margin + Variable Expenses per Unit.
Fixed Expenses/Costs
Expenses that typically fluctuate regardless of the production or sales levels. These expenses can be viewed as “unavoidable,” at least in the short-term. Typical examples for Fixed Expenses include Rent, Insurance, Mortgage Payments, and Corporate Overhead Expenses.
Fixed Expenses remain constant as volume rises (or falls), but Fixed Expenses per unit decline as volume rises (rise as volume falls).
Variable Expenses/Costs
Impacted by changes in production or sales levels – typical examples include are Raw Materials, Direct Labor Expenses (wages and benefits), and delivery costs.
Variable Expenses rise proportionately as volume increases, so Variable Expenses per unit remain constant.
ROI
Profit from the Investment (Revenue minus Costs) ÷ Capital Invested.
A ratio that determines the return, or Profit, from capital invested. ROI is used in consulting interviews as a way to evaluate the return of a particular investment or to assess the feasibility of a potential investment or acquisition. Many companies have an internal ROI metric for capital investments.
ROA
Return on Assets (ROA) is a variation of this concept, but instead revolves around all capital invested in a project (Liabilities + Equity), rather than just Equity invested, which is typical for an ROI calculation.
CAGR
[(Ending Value ÷ Beginning Value)^(1 ÷ Number of Years)] – 1.
Compound Annual Growth Rate (CAGR) is the percentage rate at which any figure, such as number of units sold, a population, or an investment must grow in each year to reach a given end value over a certain amount of time. (Note that this is not the only growth path to grow from a beginning number to an ending number, but it is the only growth path that is the same growth rate every year.)
IRR
Internal Rate of Return (IRR), which is the annual rate of return on an investment if its value grows by a specific multiple over a specific amount of time.
LCV
Lifetime Customer Value (LCV) projects the total profitability attributed to a firm’s future relationship to a typical customer.
It can also be used to determine level and type of customer service to provide, and as another way to estimate the value of a business. (In theory, the value of a business should equal the number of existing customers × the LCV per customer, plus growth opportunities.)
The steps to calculate the LCV are as follows:
1) Estimate the remaining customer years; in other words, how long is a typical customer expected to last with the company?
2) Estimate future Revenue per year per customer, based on product volume per customer × price
3) Estimate Total Expenses for producing those products (either separating Fixed Costs out or allocating them on a per-customer basis)
4) Calculate the Net Present Value of the future profit (Revenue – Expenses) per customer (in other words, discount these future profits back into today’s equivalent dollars
Product Life Cycle
Annual Market Size = Total Revenue of a product outstanding ÷ Average life of the product
Important for market sizing problems to calculate and project the annual market size for a given market/industry. It is often used by companies to project their own anticipated Revenue figures.
