Question 1

What is the difference between revenue and profit?

Accepted Answer

Revenue (or net sales) is total income from selling goods and services before any costs are deducted. Profit (net income) is what remains after subtracting all costs — cost of goods sold, operating expenses, interest, and taxes. A company can grow revenue rapidly while still losing money if expenses outpace sales.

Question 2

What is gross margin and why does it matter?

Accepted Answer

Gross margin = (Revenue − Cost of Goods Sold) ÷ Revenue. It shows how much revenue remains after direct production costs. Software companies typically have 70–80% gross margins; retailers may have 20–30%. High gross margins leave more room to cover overhead and generate profit, and indicate pricing power.

Question 3

What is free cash flow (FCF)?

Accepted Answer

FCF = Operating Cash Flow − Capital Expenditures. It is the actual cash a business generates after maintaining or expanding its asset base. Many investors prefer FCF to net income because it is harder to manipulate with accounting choices. Consistent positive FCF allows a company to pay dividends, buy back shares, or reduce debt.

Question 4

What is EBITDA and when is it used?

Accepted Answer

EBITDA stands for Earnings Before Interest, Taxes, Depreciation & Amortization. It approximates operating cash generation and makes it easier to compare companies across different tax jurisdictions and capital structures. Private equity and debt analysts commonly use EBITDA to assess whether a company can service its debt.

Question 5

What does Return on Equity (ROE) measure?

Accepted Answer

ROE = Net Income ÷ Shareholders' Equity. It measures how efficiently management generates profit from shareholders' capital. An ROE above 15% is generally considered strong. High ROE sustained over many years, without excessive leverage, is a hallmark of durable competitive advantage.

Question 6

Why do margins matter more than revenue growth alone?

Accepted Answer

Revenue growth with shrinking margins can destroy shareholder value — the company is growing but capturing less profit per dollar of sales. Margin expansion alongside revenue growth is the ideal combination. Watch for operating leverage: as revenue grows, fixed costs spread over a larger base, naturally expanding margins in healthy businesses.

V Revenue, Earnings & Margins