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### Where Do Earnings Come From?

Sales and profit margins combine to produce earnings. It takes both. Here’s the formula:

earnings = sales x profit margin

I call it the E=SP formula. Memorize it, even if you hate math and flunked algebra.

The E=SP formula makes it clear that sales and margins both determine earnings. It’s tough for companies to report consistent earnings growth if sales rise, but profit margins drop, or vice versa. Let’s flesh out the concept with numbers.

Suppose that a company sold \$1,000 worth of products during the last quarter at a 15 percent profit margin. According to E=SP, the company earned \$150.

earnings = \$1,000 x 0.15 = \$150

If nothing changes in the next quarter, the company will again rack up sales of \$1,000 and ...

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