Logic Profitability

Anonymous A asked on Aug 23, 2018 - 1 answer

Dear all,

Even though it clearly states that a decrease in profits is due to either lower revenues, higher costs or both, I struggle to apply this logic. More precisely, once the situation changes i.e. increase in profits, flat profits etc. I tend to struggle a lot. How can I improve this?
Somehow I run into a dead end with thinking about "if scenarios of profitability cases (e.g. profits down, revenues etc." The more I think about it, the more confusing it becomes. I know there must be a simple yet powerful logic behind it all...

Can someone explain for example why stagnating profits imply that revenues have been flat, or costs increased or both? Imho profits chan be stagnating also when revenue and costs decrease by the same amount.

Also I have problems when to look at profit margins and when to know the problem can be solved without looking at profit margins.

Help is very welcome! I hope someone understands what I mean with the whole problem above.

Thanks a lot.

1 answer

  • Upvotes
  • Date ascending
  • Date descending
Best Answer
Jeremy updated his answer on Aug 24, 2018

You may be getting confused on the difference between profit ($) and profitability (%).

If profits are stagnant then either a) revenue and costs haven't changed or b) revenues and costs changed by the same amount (e.g. $100 rev, $80 cost, $20 profit can change to $150 revenue, $130 cost, $20 profit). BUT, in that case profitability changed from $20/100 = 20% to $20/150 = 13.3%. So you're right, profits can be stagnating when revenue and costs decrease by the same amount, and that is something that you would want to test for.

If profitability is stagnant then revenues and costs must have increased by the same proportion (e.g. using the example above, going to $150 rev, $120 costs, $30 profit). The profit is higher but the level of profitability is the same, still 20%. It can be confusing because sometimes people say profit margin and you don't know what they are referring to, so in a case setting you should definitely clarify if they mean $ or %.

(edited)

Related BootCamp article(s)

Profitability Case

Learn to crack Profitability Framework Consulting Cases, which are the number 1 reason for real consulting projects and hence are an important case type.

Quiz

Related case(s)

DHL Consulting case: Bike Shop

Solved 43.4k times
4.3 5 10962
| Rating: (4.3 / 5.0)

You have been hired to support the owner of a bike-shop as a business consultant. The bike-shop has suffered a significant revenue decline during the last year, and now the owner would like you to assess the situation and options for the way forward. They want to know last year’s profit, i.e. how i ... Open whole case

Oliver Wyman case: Setting up a Wine Cellar

Solved 37.4k times
4.3 5 3320
| Rating: (4.3 / 5.0)

I’m thinking about setting up a wine cellar in my basement. The way I see it, shelf space would be divided into two sections: (1) a “drinking” section where I store bottles for my own consumption and (2) an “investment” section where I store bottles that I intend to sell at a profit after they appre ... Open whole case

zeb case: Private Bank Anytown

Solved 20.9k times
3.9 5 5009
| Rating: (3.9 / 5.0)

Private Bank Anytown disposes total assets of approx. EUR 3 bn on December 31, 2014. The growth strategy of the institution determined at the end of 2010, however, has a higher impact on the cost side than on the income side. Aggregated to the return on equity as defined central parameter of the ba ... Open whole case

Bank envelope

Solved 49.2k times
4.4 5 1989
| Rating: (4.4 / 5.0) |

Your client, Customlope, is the leader in the US secure envelope manufacturing industry. Banks buy these envelopes for operations such as money deposits and high value transactions. Next year, a new digital technology will reduce the overall number of units sold in the industry by 25%. In the shor ... Open whole case

Chewing gum

Solved 46.0k times
4.4 5 1606
| Rating: (4.4 / 5.0) |

Your client is a chewing gum manufacturer. The CEO of the manufacturing company wants you to find out why his company is experiencing a declining profit margin. He then wants you to suggest ways to improve his company’s profit margin. Open whole case