How to calculate a company’s profit ? Formulas and calculation examples

The profit of a business, also known as net income, is the main element that measures its profitability.

How to calculate a profit and, more importantly, how to interpret it? That’s what we will explore in the following lines to unveil this key accounting concept.

We will explain in simple terms what profit is, how to calculate it, and how to interpret it.

Definition of a profit for a company

Before diving into the details, it is crucial to clearly understand what the term “profit” means. Let’s clarify this concept and examine why it is such an important indicator in the business world.

What is the profit of a company ?

Profit, sometimes called net income, is the positive difference between a company’s revenues and its expenses.

It is the amount of money the company actually earns after paying all its operational costs, such as salaries, rent, purchasing materials, marketing expenses, corporate taxes and other charges.

In simple terms, if you sell more than you spend, your business makes a profit.

Profit is a key element of the company’s financial statements and can be seen in both the balance sheet and the income statement.

Why is profit important ?

Now that we have defined what profit is, why is it so important for a business?

Profit is more than just a success indicator. It serves as a barometer for the financial health of the business, its growth potential, and its ability to attract investors.

• Financial Health : A regular and growing profit means that your business is financially healthy and generating more money than it spends. It’s a sign that you’re on the right track.
• Growth Potential : Profit can be reinvested in the business to finance new growth opportunities, such as developing new products, expanding into new markets, or acquiring new equipment.
• Attractiveness to Investors : A solid and regular profit is a strong signal to potential investors. It shows that the business is well-managed and capable of generating a return on investment.

How to calculate a business’s profit ? The steps

After establishing the importance of profit for the health and growth of your business, the next question is : how to calculate a business’s profit ? This process requires understanding the different elements involved and using a simple but powerful formula.

1. Gather information to calculate profit: Revenue, costs, and expenses

Calculating profit is not just a matter of subtraction. You first need to identify the different financial elements involved.

• Revenue : This is the money your business receives from selling its products or services. It’s often referred to as sales.
• Costs : These elements include all expenses necessary to produce and sell your products or services. This can include production costs, employee salaries, social charges, rent, marketing fees, etc.
• Expenses : These are costs that are not directly related to production or sales but are necessary to run your business. This could include administrative fees, legal fees, insurance fees, etc.

2. Profit Formula: Profit = Revenue – (Costs + Expenses)

Once you have identified your revenues, costs, and expenses, the calculation of profit becomes straightforward. The formula is as follows:

Profit = Revenue – Costs – Expenses

This means you simply subtract the sum of your costs and expenses from your revenues. If the result is positive, you have made a profit. If the result is negative, your business is at a loss.

Profit Calculation Example

Let’s take an example to illustrate this calculation. Imagine you have a business that sells shoes online. Your revenue for the month is $24,000 USD. This includes all the sales of shoes you have made.

Your costs for the same month amount to $12,000 USD. This includes the cost of purchasing the shoes, online advertising, shipping and delivery, as well as some marketing expenses. Additionally, you also have monthly expenses of $2,400 USD covering items such as the rental of premises, insurance fees, and other administrative expenses.

To calculate your profit, you simply subtract your costs and expenses from your revenue: $24,000 – $12,000 + $2,400  = $9,600

Thus, your profit for the month is $9,600. This is the money that remains after paying all the necessary expenses to operate your business.

Difference between revenue and profit

When it comes to business finances, it’s common to confuse revenue and profit. While these two financial indicators are essential for assessing a company’s health, they are fundamentally different.

Definition of Revenue

Revenue, sometimes called sales, represents the total income generated by a business’s activities over a given period. Essentially, it’s the money coming into the business.

Revenue vs. Profit: What’s the Difference ?

If revenue represents the money entering the business, profit, on the other hand, is the money that remains after all expenses have been deducted from revenue. In other words, profit is what the business actually keeps after paying its costs and expenses.

The distinction between these two terms is crucial. A company could generate high revenue, but if its costs and expenses are also high, it may ultimately realize little or no profit.

Conversely, a company with more modest revenue but effective expense management could achieve significant profit.

Understanding the difference between these two terms can help business leaders make more informed decisions and identify opportunities to improve profitability.

For seasoned entrepreneurs, it’s important to know that other financial tools, such as EBITDA, can be used to analyze a company’s profitability.

Profit before and after taxes

Just as it is crucial to understand the difference between revenue and profit, it is also important to distinguish between profit before tax and profit after tax.

Definition of profit before tax

Profit before tax, sometimes called operating profit or earnings before tax, is the income a company generates before taxes are deducted.

This includes revenue minus all operating expenses, including salaries, production costs, inventory changes, and overhead, but before tax deductions.

Definition of profit after tax or net income

Profit after tax, also called net income, is the income a company retains after paying all its expenses, including taxes.

This is the profit before tax minus taxes. It is essentially the money that the company can reinvest in the business, distribute to shareholders as dividends, or keep in reserve for future expenses.

Impact of taxes on profit

The taxes a company pays can have a significant impact on its profit. In Switzerland, corporate tax rates vary between cantons.

They can represent a significant portion of a company’s expenses, and poor tax planning can sometimes turn an apparently healthy profit into a net loss.

Therefore, it is essential for a company to understand and plan for its tax obligations.

FAQ on company profit

What is a company’s profit ?

A company’s profit is the money that remains after all operating expenses, including production costs, overhead, and taxes, have been deducted from revenue.

What is the formula for calculating a company’s profit ?

The formula is as follows: Profit = Revenue (or Sales) – (Costs + Expenses). If the result is positive, you make a profit. If the result is negative, your company is at a loss.

What is the difference between revenue and profit ?

Revenue represents the total sales generated by a company’s activities during a given period, before costs and expenses are deducted. Profit, on the other hand, is the money that remains after all these expenses have been deducted from revenue.

What is the difference between profit before tax and profit after tax ?

Profit before tax is the income a company generates before taxes are deducted. Profit after tax, or net profit, is the income a company retains after paying all its expenses, including taxes.

In Conclusion

Understanding the concept of profit, how to calculate it, and how it differs from revenue, is essential for anyone involved in managing a company. It is equally crucial to recognize the impact of taxes on profit and to plan effectively for the company’s tax management.

Financial information, when correctly interpreted, offers valuable insights that can guide strategic decisions, maximize profitability, and ensure the long-term viability of the company.

Never forget that profit is much more than just a number – it reflects the overall performance and financial health of your business. Karpeo team of CPAs can help you understand your company’s profit. Contact us for more information.