Question

(Profit Leverage in logistics management)

What is the role and the consequences of Profit Leverage on logistics strategies and the management of other departments such as marketing, sales and production, provide an example.

Answer 1

Profit leverage logistics do play an important role in the management.According to this concept reducing operational expenses will be more efficient than increasing the sales.In the short term the operating costs must be reduced during the procurement stage(beginning state of the production process).This is the reason why companies reduces their head count during the financial difficulties.Reducing operating cost will bring an impact faster in the short term.There are mainly two types of leverages namely financial leverage and operating leverage .The companies uses these leverages to increase their assets ,their cash flow and their returns and trie to reduce their losses.

The above can be explained with the help of an example:
Suppose the sales is $120,000 and the cost of gold is given as $60,000.The cost of purchased goods is also included in cost of gold.The cost of purchased goods is 75 percentage of cost of golds
The cost of purchased goods=75/100 × 60,000=$45,000.
Thus the initial cost of purchased goods=$45,000

Now suppose the cost of purchased goods is reduced by 10 percentage through supplier relations and negotiations.
Thus the new cost of purchased goods is $40,500 and the cost of golds are $50,000.
Now as there is reduction in the cost of golds sold the cost of gold reduces from 50% to 46.25 percent of sales.
Now let's assume that the initial operating income or net profit was $25,000.Now as there is reduction in the cost of gold the operating income increases by 18 percentage .Thus the new operating income is $ 29,736.

Now let's suppose instead of reducing the operating cos what effect do the increased sales have on the operating income or the net profit.Now to calculate to what percent the sales should be increased we divide the additional profits needed($4,500) by the the operating margin which is 21 %.Thus the sales department have to sell an additional of $21,428.57(4500×100/21).Thus the sales needs to be increased by 15 percent.

Now comparing the two we can conclude that reducing the operating costs by 10 percent is more efficient than increasing the sales by 15 percent.