Improving Profit and Profitability

This lesson covers AQA A-Level Business topic 3.5.4 — methods for improving profit and profitability. You will learn the distinction between increasing total profit and improving profit margins, and explore strategies based on both cost reduction and revenue growth. Understanding how to evaluate these strategies in context is essential for achieving top marks.

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Profit vs Profitability

It is essential to distinguish between these two terms:

Concept	Meaning	Measure
Profit	The absolute amount of money remaining after costs are deducted from revenue	Measured in £ (e.g., £500,000 operating profit)
Profitability	How efficiently a business converts revenue into profit	Measured as a ratio/percentage (e.g., 12% operating profit margin)

A business can increase profit without improving profitability. For example:

• Revenue rises from £1,000,000 to £1,500,000 (a 50% increase).
• Costs rise from £800,000 to £1,260,000 (a 57.5% increase).
• Profit rises from £200,000 to £240,000 (a 20% increase — good).
• But profit margin falls from 20% to 16% (profitability has worsened — costs are growing faster than revenue).

Exam Tip: Always clarify whether a question asks about profit (£) or profitability (%). A business growing its absolute profit while its margins shrink is becoming less efficient — this is a common and important analytical point.

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Strategies for Improving Profit and Profitability

There are fundamentally two approaches: increase revenue or reduce costs. The most successful businesses pursue both simultaneously.

A. Revenue Growth Strategies

1. Increase Selling Prices

Raising prices directly increases revenue per unit (assuming demand holds). This improves both profit and profitability.

When Price Increases Work	When They Don't
Strong brand loyalty (low PED)	Highly competitive market (customers switch easily)
Product differentiation (unique features)	Customers are price-sensitive (high PED)
Inelastic demand (necessity goods)	Substitute products readily available
Rising input costs across the industry (competitors also raising prices)	Recession — consumers are cutting spending

Worked Example: Price Increase Impact

A business sells 50,000 units at £20 each. Variable cost per unit is £12. Fixed costs are £200,000.

Current position:

• Revenue: 50,000 x £20 = £1,000,000
• Variable costs: 50,000 x £12 = £600,000
• Contribution: £400,000
• Fixed costs: £200,000
• Profit: £200,000
• Profit margin: (200,000 / 1,000,000) x 100 = 20%

The business raises prices by 10% to £22. Demand falls by 5% to 47,500 units.

New position:

• Revenue: 47,500 x £22 = £1,045,000
• Variable costs: 47,500 x £12 = £570,000
• Contribution: £475,000
• Fixed costs: £200,000
• Profit: £275,000
• Profit margin: (275,000 / 1,045,000) x 100 = 26.3%

Both profit and profitability have improved, even though sales volume fell. This is because demand is relatively inelastic — the price increase more than offsets the fall in volume.

2. Increase Sales Volume

Selling more units at the same price increases total revenue and total profit (assuming variable costs remain constant per unit and there is sufficient capacity).

Methods include:

• Increased marketing and advertising.
• Entering new markets (geographic or demographic).
• Developing new products or product extensions.
• Improving customer service to drive repeat purchases.

Key consideration: Increasing volume only improves profitability if the additional sales do not require a disproportionate increase in costs. Marketing spend, recruitment costs, or price reductions to win market share may erode margins.

3. Improve Sales Mix

Shifting the mix of products sold towards higher-margin items improves overall profitability without necessarily increasing total revenue.

Product	Revenue (£)	Margin (%)	Contribution (£)
Product A (basic)	300,000	15%	45,000
Product B (premium)	200,000	40%	80,000
Total	500,000	25%	125,000

If the business shifts sales mix so that Product B accounts for 50% of revenue:

Product	Revenue (£)	Margin (%)	Contribution (£)
Product A (basic)	250,000	15%	37,500
Product B (premium)	250,000	40%	100,000
Total	500,000	27.5%	137,500