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8/23/2017 Profit Margin

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Marginal Analysis

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What is 'Marginal Analysis'

Marginal analysis is an examination of the additional benefits of an activity
compared to the additional costs incurred by that same activity. Companies
use marginal analysis as a decision-making tool to help them maximize their
potential profits. Individuals unconsciously use marginal analysis as well, to
make a host of everyday decisions.

BREAKING DOWN 'Marginal Analysis'

Marginal analysis is also widely used in microeconomics when analyzing how
a complex system is a ected by marginal manipulation of its comprising
variables. In this sense, marginal analysis focuses on examining the results of
small changes as the e ects cascade across the business as a whole.

Marginal analysis is an examination of the associated costs and potential

benefits of specific business activities or financial decisions. The goal is to determine if the costs
associated with the change in activity will result in a benefit that is su icient enough to o set them.
Instead of focusing on business output as a whole, the impact on the cost of producing an individual
unit is most o en observed as a point of comparison.

Example of Marginal Analysis in the Manufacturing Field

When a manufacturer wishes to expand its operations, either by adding new product lines or
increasing the volume of goods produced from the current product line, a marginal analysis of the
costs and benefits is necessary. Some of the costs to be examined include, but are not limited to, the
cost of additional manufacturing equipment, any additional employees needed to support an
increase in output, large facilities for manufacturing or storage of completed products, and as the
cost of additional raw materials to produce the goods.

Once all of the costs are identified and estimated, these amounts are compared to the estimated
increase in sales attributed to the additional production. This analysis takes the estimated increase
in income and subtracts the estimated increase in costs. If the increase in income outweighs the
increase in cost, the expansion may be a wise investment.

Comparing Multiple Options

Marginal analysis can also help in the decision-making process when two potential investments
exist, but there are only enough available funds for one. By analyzing the associated costs and
estimated benefits, it can be determined if one option will result in higher profits than another.

Marginal Analysis and Observed Change

From a microeconomic standpoint, marginal analysis can also relate to observing the e ects of small
changes within standard operating procedure or total outputs. For example, a business may attempt
to increase output by 1% and analyze the positive and negative e ects that occur because of the
change, such as changes in overall product quality or how the change impacts the use of resources.
If the results of the change are positive, the business may choose to raise production by 1% again, 1/7
8/23/2017 Profit Margin
and reexamine the results. These small shi s, and the associated changes, can help a production
facility determine an optimal production rate.

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Marginal Profit

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Marginal profit is the profit earned by a firm or individual when one additional unit is produced and
sold. It is the di erence betweenmarginal
betweenmarginal costand
costand marginal product (also known asmarginal
revenue ), and is o en used to determine whether to expand or contract production, or to stop
production altogether. Under mainstream economic theory, a company will maximize its overall
profits when marginal cost equals marginal product, or when marginal profit is exactly zero.

BREAKING DOWN 'Marginal Profit' 2/7
8/23/2017 Profit Margin

Marginal profit is di erent from average profit, net profit, or other measures of profitability in that it
looks at the money to be made on producing one additional unit. It accounts for scale of production
because as a firm gets larger, its cost structure changes and, depending oneconomies
oneconomies of scale,
profitability can either increase or decrease as production ramps up.

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Marginal Cost Of

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The marginal cost of production is the change in total cost that comes from making or producing one
additional item. The purpose of analyzing marginal cost is to determine at what point an
organization can achieve economies of scale.
scale. The calculation is most o en used among
manufacturers as a means of isolating an optimum production level.

BREAKING DOWN 'Marginal Cost Of Production' 3/7
8/23/2017 Profit Margin

Manufacturing concerns o en examine the cost of adding one more unit to their production
schedules. This is because at some point, the benefit of producing one additional unit and
generating revenue from that item will bring the overall cost of producing the product line down.
The key to optimizing manufacturing costs is to find that point or level as quickly as possible.

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Operating Margin

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Operating margin is amargin

amargin ratio used to measure a company's pricing strategy and operating
e iciency.

Operating margin is a measurement of what proportion of a company's revenue is le over a er

paying for variable costs of production such as wages, raw materials, etc. It can be calculated by 4/7
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dividing a companys operating income(also

income(also known as "operating
"operating profit")
profit") during a given period by
its net sales during the same period. Operating income here refers to the profit that a company
retains a er removing operating expenses (such as cost of goods sold and wages) and depreciation
Net sales here refers to the total value of sales minus the value of returned goods, allowances for
damaged and missing goods, and discount sales. NEW

Topics Reference Advisors Markets Simulator Academy

Operating margin is expressed as a percentage, and the formula for calculating operating margin can
be represented in the following way: Search News, Symbols, Terms

Operating margin is also o en known as operating profit margin, operating income margin,
return on sales
sales or as net profit margin. However, net profit margin may be misleading in this
case because it is more frequently used to refer to another ratio, net margin.

BREAKING DOWN 'Operating Margin'

Operating margin gives analysts an idea of how much a company makes (before interest and taxes)
on each dollar of sales. Generally speaking, the higher a companys operating margin is, the better
o the company is. If a company's margin is increasing, it is earning more per dollar of sales.

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Stock Analysis
8/23/2017 Profit Margin

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Marginal Analysis

Marginal Profit

Marginal Cost Of Production

Operating Margin
Stock analysis is a term that refers to the evaluation of a particular trading instrument, an
investment sector or the market as a whole. Stock analysts attempt to determine the future activity
Stock Analysis
of an instrument, sector or market. There are two basic types of stock analysis: fundamental analysis
and technical analysis. Fundamental analysis concentrates on data from sources including financial
Profit economic reports, company assets and market share. Technical analysis focuses on the
study of past market action to predict future price movement.

Cost Accounting
BREAKING DOWN 'Stock Analysis'
Stock analysis is a method for investors and traders to make buying and selling decisions. By
studying and evaluating past and current data, investors and traders attempts to gain an edge in the
markets by making informed decisions. Many people who subscribe to fundamental analysis don't
hold much faith in technical analysis, and vice versa.
Incremental Cost

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Profit Margin

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Profit margin is part of a category of profitability ratioscalculated

ratioscalculated as net income divided by revenue
or net profits divided by sales
sales.. Net income or net profit may be determined by subtracting all of a
companys expenses
expenses,, including operating costs,
costs, material costs (including raw materials)
materials) and tax
costs, from its total revenue. Profit margins are expressed as a percentage and, in e ect, measure
how much out of every dollar of sales a company actually keeps in earnings
earnings.. A 20% profit margin,
then, means the company has a net income of $0.20 for each dollar of total revenue earned.

While there are a few di erent kinds of profit margins, including gross
gross profit margin,
margin, operating
margin , (or "operating profit margin") pretax
pretax profit margin
margin and net
net margin
margin (or "net profit
margin") the term profit margin is also o en used simply to refer to net margin. The method of
calculating profit margin when the term is used in this way can be represented with the following

Profit Margin = Net Income / Net Sales (revenue)

Other types of profit margins have di erent ways of calculating net income so as to break down a
companys earnings in di erent ways and for di erent purposes.

Profit margin is similar but distinct from the term profit percentage, which divides net profit on
sales by the cost of goods sold to help determine the amount of profit a company makes on selling
its goods, rather than the amount of profit a company is making relative to its total expenditures.

BREAKING DOWN 'Profit Margin'

Rarely can a companys individual numbers (like revenue or expenditures) indicate much about the
companys profitability, and looking at the earnings of a company o en doesn't tell the entire story.
Increased earnings are good, but an increase does not mean that the profit margin of a company is
improving. For example, suppose one year Company As revenue is $1 million and its total
expenditures are $750,000, making its profit margin 25% ($1M - $0.75M / $1M = $0.25M / $1M = 0.25 =
25%). If during the following year its revenue increases to $1.25 million and its expenditures increase
to $1 million, its profit margin is then 20% ($1.25M - $1M / $1.25M = $0.25M / $1.25M = 0.20 = 20%).
Even though its revenue has increased, Company As profit margin has diminished because expenses
have increased at a faster rate than revenue.

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