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Living on Margins

August 20, 2013

When people hear the word marginal, what usually comes to mind is something that is “ok,” or just squeaks by the standards necessary for it to be considering passing or acceptable. Or, conversely, the word is associated with something that on the fringe, i.e. not really ready for prime time. In economic and financial terminology, however, the word marginal takes on an entirely different message. Marginal revenue and marginal cost can help a firm determine whether or not to launch a new product line, re-tool an existing product, or expand into new areas. Marginal product can assist with the construction of the entities P&L projections as well as sales projections. In short, marginal is important.

Sometimes I get asked why, even when a firm reports good news, or better than expected earnings, why the stock price remains relatively flat? One prominent reason why this might happen is the concept of marginal improvement. This can also be referred to as innovation, but the term “marginal improvement” might describe the concept more accurately. Did the firm simply squeeze more earnings out of existing products and services, or did they generate revenue and growth through organic marginal growth? A great example of a firm that has marginal improvement and sustainable product line growth as part of the corporate mission is 3M. Today, 34% of the firms revenue is generated by products created within the last 5 years. Think about that: products that did not even exist in 2007 now account for 34% of the firms revenue. Amazing.

On the flip side, let us examine Apple, Inc. For years, with Steve Jobs at the helm, this company forged ahead into ground breaking areas with technology of breathtaking beauty and functionality. Almost literally rising from ashes, Apple rode this wave of innovation and marginal revenue increases to the “top of the heap” in the tech market. Based on projections of incremental revenue and profits increasing, the stock price soared to unbelievable heights: this continued even after the untimely passing of Steve Jobs; Apple was briefly the worlds most valuable publicly traded company by market capitalization. Recently some the luster has come off as newer products have failed to deliver the same “incremental” leaps forward that the market had come to expect, and competitors such as Google, Samsung, Sony, and Blackberry have caught up.

Marginal is not always bad, in fact marginal can be great! You just have to make sure you keep it up.

Happy Reading!

http://www.cnbc.com/id/100971922
http://www.investopedia.com/terms/m/marginal-revenue-mr.asp
http://www.cnbc.com/id/100801531

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