Doesn't Increase of Potential Temperature with Height contradict Adiabatic Nature of Processes within Troposphere?
If we'd be living in a dry atmosphere your reasoning is indeed correct. Air would rise adiabatically and air would loose about 9.8 °C/km (dry adiabatic lapse rate). This means constant potential temperature. However, Earths atmosphere isn't dry. As soon as a rising, moist air parcel reaches saturation, it will rise with a moist adiabatic lapse rate (6-7 °C/km). Potential temperature will rise (because if the parcel falls down again it will be warmer at the same level - see below). This causes clouds and sometimes rain and thus, reduces the overall water content in an air parcel.
If such a parcel is now going to fall again it will gain temperature according to the dry adiabatic lapse rate (because it lost water during ascension). Lets say initially a parcel starts rising with moist adiabatic lapse rate with temperature $T(t=0)$ and then falls down again and reaches the same level at $t=1$. You will then observe that $T(t=0)&lt; T(t=1)$. Thus, potential temperature must have increased as the parcel was rising.