Measuring Increasing Profit Profit v profitability l l
Measuring & Increasing Profit
Profit v. profitability l l l Profit = Revenue – Total Costs Profitability is the ability of a business to generate profit, or the efficiency of a business in generating profit For profit to be meaningful, need to compare it to size of the business, or capital employed
Net Profit l The profit made from all activities l l Operating profit is profit made from trading (i. e. main business activities) l l Can be misleading if the business makes a lot of money through selling an asset Often the preferred measure Net profit margin (%) = net profit before tax x 100 sales (turnover)
Net profit margins l Useful for comparisons: l l Over time with other firms
Return on capital employed ROCE l Ratio showing net profit as a percentage of capital invested (all the money provided to the business by owners) l ROCE (%) = net profit before tax x 100 capital invested
ROCE l l Looks at % return on a sum of money invested Allows comparisons: l l l Over time With other firms What is the opportunity cost of this money? Compare to bank interest rate
Methods to improve profits l Increase the price l l l Decrease the cost l l Except it may be more profitable to cut the price Price elasticity of demand Wage levels Raw material costs Reduce overheads Increase sales volume l How do you increase demand?
Other methods l Investment in fixed assets l l l Expand scale of operation Improve efficiency & quality Product development Marketing Human resource strategies l l l Careful selection & retention Motivation >> increased efficiency Training
Cash v. Profit l Profitable firms may be short of cash because: l l l Built up stock levels Wealth may be in debtors rather than cash Used profit to pay dividends or repay long-term loans Purchase of fixed assets Even profitable businesses may face difficulties if they do not plan cash flow carefully
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