Profitability framework: the profit tree, step by step

The profitability framework is a calculation tree: profit = revenue - costs, revenue = price x volume, costs = fixed costs + variable costs. Each branch splits again until you reach something the client actually measures: average basket, number of customers, material cost per unit, payroll.

Nobody invented it the way Porter signed his five forces. It is basic accounting, drawn as a tree, and that is where its strength comes from. An arithmetic breakdown is MECE by construction, since every euro of lost profit is either a euro of revenue that disappeared or a euro of cost that appeared.

It is the most common case type in strategy consulting interviews, and the one where reciting does the most damage. Every candidate knows "revenue minus costs". What the interviewer watches is how fast you leave the equation and get to the client's real business.

The profit tree has two main branches and, under each, two or three drivers. Its generic version fits on one line; its useful version is the one where you replace each leaf with the client's own vocabulary. For an airline, volume becomes "seats offered x load factor". For a software company, it becomes "customers at the start of the year + new customers - churned customers".

Read the tree from left to right and ask the same question at each level: which of these two branches moved, and by how much? You only go down the branch that explains the gap. That is what keeps you from spending ten minutes on costs that never changed.

Here is the prompt. Verdier runs 40 bakeries. In two years its operating profit went from €10M to €6M. Management wants to understand why and what to do about it.

First level: revenue or costs? You ask for both numbers. Revenue went from €100M to €104M, costs from €90M to €98M. Revenue is up, so the problem sits on the cost side: costs grew by €8M while sales grew by €4M.

Second level: which line? You ask for the cost breakdown.

Materials follow sales, nothing unusual. Staff costs, however, went from 35% to 40% of revenue. This is where the tree stops being useful: it told you where, not why.

Third level: why staff? You state hypotheses and get them settled: higher wages, more hires, more hours worked. The interviewer gives the information away. Two years ago, Verdier opened all its shops on Sundays and until 9 pm on weekdays.

You then run the calculation nobody asked for. Those extended hours brought in €4M of sales, used €1M of materials and €7M of wages: their contribution is -€4M, exactly the drop in profit.

Recommendation. The drop comes from a single decision, the extended hours, which cost more than they bring in on average. Before removing them everywhere, look at them shop by shop: city-centre shops probably make Sundays pay, and the others probably do not. Next step: revenue per extra opening hour, shop by shop.

The profit tree breaks as soon as the answer hides inside an average. A stable overall margin can cover one segment collapsing and another making up for it. As long as you reason about "the price" and "the volume" of the whole company, you cannot see it. You need to cross the tree with a segmentation, by product, by customer, by channel, by region.

It also breaks when revenue and costs are linked. In the Verdier case, the same decision pushed up both sales and wages. Working through the two branches one after the other, as two independent topics, makes you miss the link.

Third limit: the tree describes, it does not explain. Knowing that volume is down 10% does not tell you whether a competitor opened across the street, the product has aged or the whole market is shrinking. The "why" requires leaving the equation and looking at customers, competitors and the market.

Finally, many cases that look like profitability are something else. "Should we close this plant?" or "is this contract profitable?" call for reasoning on avoidable costs and future cash flows, not a snapshot of revenue and costs.

Use the tree as a locating tool that you rewrite for every case in the client's words. Four habits make the difference.

• Translate the leaves. Say "number of members x average monthly fee" for a gym, not "volume x price". The interviewer hears straight away that you are talking about their case.
• Ask for the gap before going down. At each level, ask for both numbers, compare, and only open the branch that carries the gap.
• State a hypothesis. "Sales are up and profit is down, so I suspect costs or mix, and I will start there." You prioritise instead of sweeping everything, the way you would with a leading hypothesis.
• Segment as soon as you have located the problem. Once you have found the line, cut it by shop, by product or by customer to see where it concentrates.

In the FrameLab course, the profit tree is not a framework of its own: it is a driver tree, one of the five building blocks you assemble depending on the question asked. On a profitability case you almost always combine it with a segmentation. To practise, take a real interview case and write the tree in the words of the prompt before reading any further.

A gym chain gained 20% more members in a year, and yet its profit fell. Before reading the answer, take two minutes to write the tree you would announce and the order in which you would open the branches.