Very few manufacturers are able to measure the profit per hour generated by their equipment. Most have never even tried. This is why “profit per hour,” or profit velocity, can be considered the “missing metric.”
The Measurement Myth
The primary obstacle preventing these manufacturers from harvesting far more of their true profit potential is the widely held belief that product unit margins fairly reflect the relative profitability of the various products in a product portfolio. The assumption is that ranking products by margin per unit will ultimately translate into more total profit and better shareholder returns. This is a myth – an incredibly costly myth.
Unit margin over variable cost contributes the dollars to the pool of funds that drives the R in ROA (return on assets). As shown in the chart below, each unit of Product B, whose margin is higher than that of Product A, contributes more dollars to the profit pool. But does this mean that Product B generates a higher ROA than Product A? Not necessarily. What if Product A is produced twice as fast as Product B on the same production line?
Ranking products based solely on their margin per unit assumes that units of all products are equivalent (a ton is a ton), and that their primary difference is their relative margin dollars. In fact, margin per unit overlooks a crucial product attribute that drives that product’s ability to generate asset profitability: its production speed, or flow rate.
Asset profitability is the result of both cash per unit and the unit flow rate. Together, these determine the profit velocity of each product, its ROA. Unless both margin and velocity are taken into account, profit analysis is skewed and leads to choices that cut dollars from the bottom line.
