Magazine article Management Today

Don't You Believe It ... High Profit Margins Are Good

Magazine article Management Today

Don't You Believe It ... High Profit Margins Are Good

Article excerpt

Companies, particularly listed ones, live or die by their profit margin compared to that of rivals.

As a measure, profit margin has the virtue of being easy to compare across different companies, but that's about the only positive thing you can say. Here are some of the dangers of focusing too much on your margins ...

It incentivises you to avoid profitable growth. To maximise your profit margin, it makes sense to keep the business small, concentrated on the most profitable parts of the market. There is also a positive disincentive to invest in growth, as most investment reduces profit in the short term.

It ignores the amount of capital a business needs. For example, suppose a drinks company makes a 10% net margin on vodka and 12% on Scotch whisky. Scotch is a better business than vodka, right? Wrong. With vodka, you get paid within a couple of months of production. With scotch, you'll wait at least three years for it to mature before you can even ship it. With capital hard to come by, vodka has a huge advantage. …

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