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CFA Level I · CFA Level I Exam · Analyzing Income Statements

Over two years, a company's gross profit margin rose while its operating profit margin fell. Which explanation is most likely?

Selling and administrative expenses growing faster than revenue is most likely. Gross margin rose, so cost of goods sold was controlled, but higher operating expenses below gross profit more than offset that gain and pushed operating margin down.

  1. ASelling and administrative expenses grew faster than revenue.Correct
  2. BCost of goods sold grew faster than revenue.
  3. CRevenue grew while interest expense declined sharply.

Explanation

A higher gross margin means cost of sales fell relative to revenue. Operating margin can still fall only if operating expenses below gross profit, such as selling and administrative costs, grew faster than revenue. Faster growth in cost of goods sold would lower gross margin, and interest is below operating profit.

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