Profit Planning

Written by True Tamplin, BSc, CEPF®

Reviewed by Subject Matter Experts

Updated on March 01, 2023

Definition of Profit Planning

Profit planning aims to set a profit objective for a budgeting period. Also, it seeks to establish the main policy decisions regarding how to achieve the objectives.

The profit objective will normally be related to the return required on the investment in the business.

In profit planning, alternatives are evaluated to select the most likely option that will yield the required profit objective. Managers can plan their budgets on this basis.

Purpose of Profit Planning

There are several purposes of profit planning, namely:

  • To set profit objectives for the budget period
  • To specify the policy decisions and course of action to be followed during the budget period
  • To give planning directives for the preparation of detailed operating plans

The profit objectives reflect the expected return on capital employed. This depends on:

  • The commercial environment during the budget period
  • Projected sales of the company

Profit Planning Guidelines

The main factors to specify in profit planning guidelines are:

  • Changes needed in volume, price, and cost
  • Limits on discretionary expenditure (e.g., research and development)

Return Required on Capital Employed

After the capital employed has been determined, it is then necessary to specify the required rate of return. Criteria to consider include:

  • What return can the company derive from other forms of investment?
  • What degree of risk is involved in the company's activities?
  • Do considerations other than profit influence the owners, such as environmental or ethical concerns?
  • How do competitors in the same industry sector perform?
  • What is the company's immediate past record?
  • What are the expected trading conditions for the period of the profit plan?

The end result of this process is a statement of the profit objective and how it is to be achieved. This statement is the starting point for budgeting.

Profit Planning Techniques

The following chart clearly demonstrates the techniques of profit planning.

Profit Planning Techniques Overview

Profit Planning FAQs

About the Author

True Tamplin, BSc, CEPF®

True Tamplin is a published author, public speaker, CEO of UpDigital, and founder of Finance Strategists.

True is a Certified Educator in Personal Finance (CEPF®), author of The Handy Financial Ratios Guide, a member of the Society for Advancing Business Editing and Writing, contributes to his financial education site, Finance Strategists, and has spoken to various financial communities such as the CFA Institute, as well as university students like his Alma mater, Biola University, where he received a bachelor of science in business and data analytics.

To learn more about True, visit his personal website or view his author profiles on Amazon, Nasdaq and Forbes.