Living in the Future
Conventional profit optimization methods could cause your company to miss out on opportunities to grow. This four-step approach will help your business make the most of its strengths to boost margins for years to come.
All management teams want to position their company to weather the ups and downs of a business cycle without compromising its ability to thrive. The key to that goal is optimizing profit targets. While all organizations generally apply some effort to profit optimization initiatives, I have found that when those attempts fall short, it is because they lack a strong framework for establishing the right targets or a strategy for executing on their goals.
Establishing this kind of framework is all the more important when economic trends are gloomy. A potential recession can cast doubt on expected revenue growth and cash flows. Inflationary pressures push wages, material costs, and operating expenses upward, eroding profitability unless they are swiftly countered with price increases or other offsetting levers.
Step 1: Define Optimal Profitability and Establish Targets
As Yogi Berra famously said, you have got to be very careful if you do not know where you are going, because you might not get there. Once you untangle this advice, it applies to all strategic planning. When dealing with profit optimization, it is critical that management does not engage in initiatives that deliver short-term improvements at the expense of long-term strategic objectives.
You have got to be very careful if you do not know where you are going because you might not get there.
Frequently, I see management teams set goals without knowing the true potential of their business. Traditionally, you would analyze your historical data in order to estimate future profitability targets — however, that can shortchange your organization.
Step 2: Identify Levers to Optimize Profitability
Regarding the income statement, I like to take a top-down approach to identifying operating levers so that revenue is the first item under review. The guiding questions during this stage of the process should be:
- What revenue factors contribute most significantly to EBITDA margins?
- Which of these factors does management have the most control over?
- Which of these factors can help management differentiate the business and establish a competitive advantage?
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