CFA Level I · CFA Level I Exam · Financial Statement Forecasting in Equity Valuation
When forecasting a company's gross margin, an analyst expects input prices to rise while the company has limited pricing power. The analyst should most likely forecast gross margin to:
The analyst should forecast a declining gross margin. Rising input prices lift cost of goods sold per unit, and limited pricing power prevents the company from passing these costs on through higher selling prices, so cost of goods sold grows faster than revenue and compresses the margin.
- Arise as revenue per unit stays constant
- Bremain unchanged as costs and revenue grow equally
- Cdecline as cost of goods sold rises faster than revenueCorrect
Explanation
Higher input costs raise cost of goods sold per unit. Without the ability to raise selling prices, revenue does not rise by as much, so gross margin compresses.
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