Increase Revenue or Profitability?
Executives often talk about the business’s revenue growth, but fail to focus on the profitability of the business. Over time there have been many businesses that have grown themselves right out of business by just focusing on revenue growth.
Revenue growth is a wonderful thing for any business, but revenue growth at the sacrifice of profitability is a less than stellar business strategy. Revenue growth, coupled with profitability growth, on the other hand, is a business strategy that works for any business.
All businesses need to approach their strategic plan with both revenue growth and profitability in mind. A singular focus on just one or the other can have detrimental effects on a business’s financial health and their business’s image in their market space. Below are a couple of examples.
A business that only wants to increase revenues, at any cost, may reduce the sales price of their products in hopes of selling more and in hopes of increasing revenue. This strategy will require that a business purchase more inventory, lower credit requirements and have an increase in accounts receivables. In addition, the increasing revenue, at any cost, may also reduce gross margin (lower sales price, same unit cost) and increase operating cost (additional employees, increased marketing and advertising expense). These actions also require additional cash to implement (higher inventory and accounts receivables), so the business may need to borrow funds to support this business strategy. So now the question is how much more does the business have to sell to obtain the same profitability it had before implementing the increase revenues at any cost philosophy.
A business that only wants to increase profitability, at any cost, they may reduce the production cost of the product. This strategy will provide the business with lower inventory values and increase gross margin, while accounts receivable stay flat with stable revenues (hopefully). In addition, increasing profitability, at any cost, may reduce the quality of their product causing customers to go to their competitors, in turn reducing revenue. So now the question is how will the business react to lower revenues and loss of customers due to poor product quality, now that it has implemented the increase profitability at any cost philosophy.
Though both of these examples demonstrate business extremes, both business strategies are implemented on a daily basis. Maybe a better business strategy is to develop a way that provides for both revenue and profitability growth.
Consider the business that has a reasonable sales price increase or even better a new product. In addition, they implement production processes that reduce production defects/waste (this may require the purchase of new equipment or production software, but you are making a long-term investment in the business), thus reducing inventory levels. In this example the business has both revenue growth and improved profitability.