OPERATING RISK VERSUS PROFITABILITY IN STRATEGIC FIXED-COST SPENDING INITIATIVES

OPERATING RISK VERSUS PROFITABILITY IN STRATEGIC FIXED-COST SPENDING INITIATIVES

American managerial accounting textbooks fail to integrate operating risk measures in cost-volume-profit analysis. This paper explores the quantitative dimensions of operating risk and return from a firm’s fixed-cost spending. My findings are: (1) a firm’s ratio of total fixed cost (TFC) to its total contribution margin (TCM) represents the firm’s degree of operating loss exposure (DOLE) to uncertain economic swings, which is a direct measure of operating risk; (2) the same firm’s ratio of profit [P] to the TFC represents the rate of profit return from the firm’s total fixed cost; (3) the computed profit-to-risk gap can indicate the degree of financial success [if positive] or failure [if negative] of the firm’s strategic fixed-cost spending initiatives. The DOLE and P/TFC rates of financially sustainable firms in an industry are expected to be in their long-term equilibrium at 0.618033956.