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2 Sep 2010

Business Profitability Paradox

Here is a valuable problem-solving question:

How can a business maximize its profit every single minute of the day and still go out of business?

The answer is:

It can because it won’t be making any investments; those require expenditures and would prevent the maximization of profits every single minute.

The question has value as a problem-solving training exercise because it forces our attention on the relationship between profits and time:

If the maximization of profits every single minute causes a business to go out of business, what is the appropriate time frame to consider?

As we know, the financial markets like to scrutinize profits quarterly. However, is this really the best time frame? I once contracted for a private company that was positioning itself to be sold. The owner cut staff to the bone in order to beef up the financials and market value. He took a gamble that revenues could hold with the cutbacks at least for the near-term. If a sale did not materialize in the near term, he might have seen service quality suffer and eventually revenues. What did this bode for the acquirer? The implication here is that what we consider a “profitable company” is arguable depending upon the criteria we want to use. In other words, a profitable company could be as subjective as a work of art. Moreover, a costly investment in the near-term might be beneficial in the long term depending upon how we define the long term. Thus, the final question that all of this begs is this:

Over what time period should a business strive to maximize profits?

The mere fact we can debate the question suggests its arbitrariness and why a single business purchase could work for one person and not for the other.

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