Back to: Financial Management
Good day, class! I hope you’re staying focused and enjoying this journey into financial management. Today’s topic is a very practical one—Profit Planning and Control. Every business exists to make a profit, but profit doesn’t just happen by luck. It must be planned, monitored, and managed. That’s what we’ll be exploring today.
Let’s begin with a simple idea: profit is the difference between revenue and expenses. But making a profit is not automatic. It takes careful planning—especially in a tough economy like Nigeria’s, where costs can rise suddenly and sales may be unpredictable.
Profit Planning and Control
Profit planning is the process of setting profit targets and making sure the business operates in a way that can achieve those targets. It involves estimating how much revenue the business hopes to earn, what the likely costs will be, and how much profit can be made from the difference.
It helps businesses answer questions like: – How much do we need to sell to make a certain amount of profit? – Are we spending too much in certain areas? – What happens if sales drop or costs rise?
Profit planning is done before a financial period starts. Once the plan is in place, managers track actual performance to see whether they are meeting their goals. That’s where profit control comes in.
Tools for Profit Planning and Control
Let’s look at some tools and methods businesses use to plan and control profit:
1. Break-even Analysis
This is one of the simplest and most useful tools. It shows the point at which a business’s income equals its expenses—neither profit nor loss. This is called the break-even point.
To calculate it, we need: – Fixed costs: Costs that do not change, like rent or salaries. – Variable costs: Costs that change with sales, like materials or delivery. – Selling price per unit: The price charged for each item sold.
Break-even point = Fixed Costs / (Selling Price per Unit – Variable Cost per Unit)
This helps a business know how many units it must sell to start making a profit. If a business sells less than that number, it’s making a loss. More than that, it’s in profit.
2. Contribution Margin
This is the amount left after subtracting variable costs from sales. It shows how much each sale contributes to covering fixed costs and eventually making profit.
Contribution = Selling Price – Variable Cost
A higher contribution means the business can cover costs faster and earn profit sooner.
3. Profit Volume Ratio (P/V Ratio)
This ratio shows the relationship between profit and sales. It helps managers see how changes in sales affect profit levels.
4. Monitoring and Comparison
After setting profit targets, actual performance must be compared to planned results. If profits are lower than expected, the business needs to investigate why. Maybe sales dropped. Maybe costs went up. The sooner problems are noticed, the quicker they can be fixed.
Why is Profit Planning Important?
– It guides decisions: Knowing what level of sales and expenses are needed to meet profit goals helps managers stay focused. – It improves control: Managers can quickly identify when something is going wrong and make corrections. – It prepares for uncertainty: With planning, the business can test different situations—“What if sales fall by 20%?”—and prepare responses.
In summary, profit doesn’t come by accident. It must be carefully planned and regularly checked. Tools like break-even analysis and contribution margin help managers make smart decisions and stay on track.
Next week, we’ll look at Budgeting and Budgetary Control—another important area of financial planning. Until then, think about how businesses around you set prices and manage their costs. Do you think they’re planning for profit, or just hoping for the best?