In order to operate and make money, a company must spend money. Revenue - the dollar amount of sales - can be seen on a company's income statement. From there, various expenses are deducted such as cost of goods sold and marketing. But it is the earnings figure, or net income, that reveals what the company retains from all its sales. The incongruity arises from the steps a company takes to go from sales to earnings. If sales are rapidly rising but earnings are falling, it means costs are growing faster than earnings.


As can be seen above, sales have risen 100%, but in order to generate these sales, the company raised its marketing efforts by 200% for a 243% increase in COGS. These higher costs outweigh the increased sales, which lead to a 9% decrease in earnings. Here are some possible reasons why an increase in revenue can hurt earnings:

  • Operating Expenses - This is a company's overhead, or the cost of doing business. As a company attempts to boost sales, it may have to pay more employees, lease more office space or buy new equipment to increase production. Unless a company raises its productivity, it may, by increasing sales, simply become bloated. This will lower its margins, which leads to lower earnings.
  • Marketing Costs - Advertising, free trials, discounts and other promotional material can all be used to increase sales. While these tactics are often effective, they cost money, ultimately affecting the bottom line.
  • Lower Prices - When a company lowers the price of its product, it can stimulate greater sales. While the price is lower, the amount sold may greatly increase, which lifts revenue. However, if costs are not going down, the company's margins will be smaller, leading to lower earnings.

It is important to recognize the distinction between sales revenue and earnings: while earnings may rise, so could expenses. Ideally, revenues and earnings should be moving in the same direction. Decreasing revenues and increasing earnings mean greater profit margins. Higher revenues and lower earnings means that income is being eroded by expenses.

It should be noted, however, that increased revenue amid lowered earnings is not uncommon. In maturing industries, companies must fight for their market share. This can mean price wars, huge marketing campaigns and other promotions that hurt margins. Many companies allow lowered earnings because taking a loss is necessary to expand customer base, which eventually helps to recoup losses.

(To learn more, see Understanding The Income Statement.)

  1. How can working capital affect a company's finances?

    Working capital, or total current assets minus total current liabilities, can affect a company's longer-term investment effectiveness ... Read Full Answer >>
  2. What are working capital costs?

    Working capital costs (WCC) refer to the costs of maintaining daily operations at an organization. These costs take into ... Read Full Answer >>
  3. How do I read and analyze an income statement?

    The income statement, also known as the profit and loss (P&L) statement, is the financial statement that depicts the ... Read Full Answer >>
  4. How do dividends affect the balance sheet?

    Dividends paid in cash affect a company's balance sheet by decreasing the company's cash account on the asset side and decreasing ... Read Full Answer >>
  5. Who actually declares a dividend?

    It is a company's board of directors who actually declares a dividend. The declaration date is the first of four important ... Read Full Answer >>
  6. Are dividends considered an expense?

    Cash or stock dividends distributed to shareholders are not considered an expense on a company's income statement. Stock ... Read Full Answer >>
Related Articles
  1. Active Trading

    An Introduction To Depreciation

    Companies make choices and assumptions in calculating depreciation, and you need to know how these affect the bottom line.
  2. Markets

    Operating Cash Flow: Better Than Net Income?

    Differences between accrual accounting and cash flows show why net income is easier to manipulate.
  3. Investing Basics

    How To Efficiently Read An Annual Report

    Annual reports are clearly prepared without any intent to deceive or mislead investors. Still, investors should read them with a dose of skepticism.
  4. Investing Basics

    Explaining Financial Statement Analysis

    Financial statement analysis is the process of reviewing a company’s statements to gain an understanding of its financial health.
  5. Investing Basics

    How Financial Statements Are Manipulated

    Financial statement manipulation is an ongoing problem, and investors who buy stocks or bonds should be aware of its signs and implications.
  6. Investing Basics

    How To Decode A Company’s Earnings Reports

    Earnings reports tell investors how a publicly-traded company is performing, but aren’t always easy to decipher.
  7. Economics

    Detecting Financial Statement Fraud

    Fraudulent financial statements account for about 10% of the white-collar crime incidents reported each year.
  8. Economics

    How to Calculate Average Inventory

    Average inventory is the median value of an inventory at a specific time period.
  9. Investing Basics

    Explaining Defeasance

    Defeasance refers to a provision that enables a bond or a loan to be voided once the borrower sets aside enough cash or securities to service its debt.
  10. Economics

    Explaining Appreciation

    Appreciation refers to an increase over time in the value of an investment or asset.
  1. Adjusted Gross Income - AGI

    A measure of income calculated from your gross income and used ...
  2. Audit

    An unbiased examination and evaluation of the financial statements ...
  3. EBITA

    Earnings before interest, taxes and amortization. To calculate ...
  4. Profit and Loss Statement (P&L)

    A financial statement that summarizes the revenues, costs and ...
  5. Gross Profit

    A company's total revenue (equivalent to total sales) minus the ...
  6. Receivables Turnover Ratio

    An accounting measure used to quantify a firm's effectiveness ...

You May Also Like

Trading Center