Product Profitability: Definition and Methods

What Does Product Profitability Mean? Profit is the amount of revenue that remains after accounting for all expenses, debts, and other costs. So product profitability, then, refers to how much money a product makes minus what it costs to build, sell, and support it. Businesses also refer to profit as the bottom line.

Product Profitability Analysis Excel Template – Spreadsheet Tutorial

Why use product profitability analysis?

Knowing how profitable each product is when a company manufactures, sells, or distributes it is crucial for decision-making regarding revenue and business operations. Product profitability analysis gives a company knowledge that allows it to:

What is product profitability analysis?

The process of connecting a company’s overall profit to the profit of a particular product is called “product profitability analysis.” The amount of money left over at the end of an accounting period after total costs and total revenue have been deducted from one another is a company’s overall profit.

To better illustrate the idea of product profitability analysis, consider the following example:

The Frame Company manufactures picture frames in a variety of sizes, shapes, and colors. The Frame Company estimates their overall profit to be 15% at the end of the first quarter. Accordingly, they are profiting by 15 cents for every dollar of sales.

The Frame Company is interested in learning more information about their profit margin, such as which frames make up the majority of their 15% profit. To match each frame with its profitability, they perform a product profitability analysis on their products. The Frame Company’s analysis reveals that only 30% of their profits come from the other products they sell and that 70% of their profits come from selling wooden frames.

This does not imply that The Frame Company should only sell wooden frames going forward. Instead, they make even more money on the wooden frames by using this information to increase their profit margin. The Frame Company investigates the particular costs connected with their wooden frames and finds some unrecognized labor costs they can cut. They increase their profit on the wooden frames by reducing the cost of production.

Methods for analyzing product profitability

There isnt a specific math formula for product profitability analysis. Instead, this analysis includes some useful techniques for locating and reducing costs. Once a business determines the amount of profit generated by each distinct product, as in the case of The Frame Company, it can then look for strategies to boost that profit. Here are six techniques used frequently by businesses to achieve this:

Determining true cost

When determining the true cost to produce an item, there are numerous factors to take into account. Each fixed and variable cost that exists must be taken into account to determine the true cost of producing an item. Remember to include the following costs in the overall costs:

The following items should also be included in the profit margin by accountants:

Testing the market

Knowing an item’s market price is essential for determining whether consumers will pay enough for it to be profitable. This holds true for both existing products and novel products that a company is considering producing. There are many factors to take into account when determining the market price of a product, including:

Making assessments

The company stays engaged and informed about which products are meeting profit expectations and which ones aren’t through ongoing pricing assessments on a monthly, weekly, or even daily basis. Performing monthly product profitability assessments and classifying all products into groups like “growth,” “core,” and “probation” is one common practice. “Experts provide products in the probation category with an action plan to boost their sales. The company might eventually stop selling this item if sales don’t increase.

Understanding margins

Profit margins are the difference between an item’s total revenue and its cost of production. Anything a business can do to lower an item’s production costs will increase that item’s sales. Some ways to do this include:

Keeping detailed documentation

A company is prevented from keeping unprofitable products around for longer than necessary by thorough documentation of each product’s profitability. Documentation from the marketing, sales, and operations teams can be gathered to clarify the margin targets that must be met for the product to remain profitable. This also allows professionals to quickly identify downward trends. Additionally, thorough documentation supports the development of rational strategies, timely reviews, and quantifiable goals.

Looking at external factors

Opportunities and concerns about the profitability of products can be impacted by outside factors. The teams from sales, marketing, and operations can work together to analyze the effects on each product, take immediate steps, or carry out long-term planning while being aware of pertinent external factors. Some external factors that impact product profitability include:


What is the best indicator of product profitability?

The best product profit metric is the contribution margin per unit (MCU).

What is an example of profitability?

The various profit margin measures, return on assets, and return on equity are a few examples of profitability ratios. Return on capital employed (ROCE) and return on invested capital (ROIC) are two more.

What should a company do to understand product profitability?

The secret to measuring product profitability is to examine each product separately, which entails properly allocating operating costs per product and figuring out exactly how much it costs to produce, sell, and maintain each one.

How do you compare product profitability?

Subtract the product’s manufacturing expenses from its sales. In this case, the products’ profitability is calculated as $1,000 minus $700, or $300. Divide the product profitability by the total number of products produced if you want to view this on a per-product basis.

Related Posts

Leave a Reply

Your email address will not be published. Required fields are marked *