Asia Pricing Professionals – 1 Pager Pricing Series / March 2011

Profit Driver Analysis

One of my favorite pricing diagnostic tools is an analysis method named Profit Driver Analysis. This
analysis is a formulaic approach to breaking down the change in profit from one time period to another
into the 4 main drivers of Price, Volume, Cost and Product Mix. By doing this analysis, I can very
quickly pinpoint which of the 4 drivers are the biggest contributor to profit change.

Here is an example:

Period 1 Period 2 Gross Margin Drivers

Product ASP (Avg CPU (Avg AMU (Avg ASP (Avg CPU (Avg AMU (Avg Gross
Gross Units Gross Units Due to Due to Due to Due to
Selling Cost per Margin Selling Cost per Margin Margin
Margin Sold Margin Sold Price Volume Cost Mix
Price) Unit) per Unit) Price) Unit) per Unit) Change

Apples 5,000 1,000 10.00 5.00 5.00 2,700 600 10.00 5.50 4.50 0 (2,000) (300) 0 (2,300)

Oranges 1,250 500 4.00 1.50 2.50 2,000 800 4.50 2.00 2.50 400 750 (400) 0 750

TOTAL 6,250 1,500 8.00 3.83 4.17 4,700 1,400 6.86 3.50 3.36 400 (417) (700) (833) (1,550)

In this example of Apples and Oranges sales, the total gross margin has declined by $1,550. Based on the
Profit Driver Analysis, we can quickly see that the main issues are around volume, cost and mix. These 3
elements have a negative contribution to profit. Price is the only positive contributor. Based on these
findings, I can then proceed to perform more detailed analysis focusing on identifying customers or
market segment that have contributed to the negative volume and cost drivers.

The formulas to calculate profit drivers are:

Due to Price: (ASP Period 2 - ASP Period 1) * Units Sold Period 2
This must be computed at SKU level to exclude any product mix impact and aggregated for the total.

Due to Cost: (CPU Period 1 - CPU Period 2) * Units Sold Period 2

Similarly, to be computed at SKU level and then aggregated for the total

Due to Volume: (Unit Sold Period 2 - Units Sold Period 1) * AMU Period 1
This same formula should be used to calculate the totals immediately above the SKU level instead of
aggregation. This will then exclude the mix element.

Gross Margin Change: (Gross Margin Period 2 - Gross Margin Period 1)

Due to Mix: GM Change - Due to Price - Due to Cost - Due to Volume

Note: ASP = Average Selling Price per Unit, CPU = Average Cost per Unit, AMU = Average Gross Margin per Unit

Limitations
This analysis works only when products are sold in both comparison periods. New products or phased
out products that are sold in either one of the time periods should be excluded.

For more information contact: Mr. Yip Je Choong / email: yipjechoong@yahoo.com

Copyright Yip Je Choong (URL: www.linkedin.com/in/jcyip)