Net Profit

Net profit is an essential profitability metric for business owners. Calculate net profit, use the net profit formula, compare to gross profit, explore net margin, and more with this free guide.

What is Net Profit?

Net Profit, also called Net Income or Bottom Line, is an essential profitability measure at the bottom of the income statement.

The formula is total revenue minus total expenses. You could start with total revenue (at the top of the income statement) or with gross profit (further down). Since gross profit already factors in cost of goods sold (COGS), you do not have to account for it again when doing the calculations for net profit.

For a business to be sustainable, it has to consistently generate a profit. As we will explore further down, there are several types of profit metrics from gross profit and earnings before interest, tax, depreciation, and amortization (EBITDA) to operating profit (EBIT) and net profit.
The net profit formula is total revenue minus total expenses, it's an essential profitability metric.

Net profit is the bottom line, measuring all sources of operating income, non-operating income, operating expenses, and non-operating expenses. This is both a good and bad thing, as it is comprehensive but also might have irregular transactions that make it difficult to compare period over period.

Net Profit Formula

The net profit formula is total revenue minus total expenses.

Net Profit = Total Revenue - Total Expenses

To understand net profit, we will walk through the income statement and show how all the pieces fit together. Why? The income statement is generated with the goal of understanding the net profit (or net loss) for a business in a given accounting period.

Total Revenue = The sum total of all revenue generated by selling products or rendering services; also called total sales
Cost of Goods Sold = The direct labor and material costs associated with selling your product or service; often abbreviated as COGS
Gross Profit = the profit left after deducting direct costs; total revenue less COGS
Operating Expenses = The expenses incurred during the normal course of business including advertising, rent, utilities, salaries, legal fees, insurance fees, and taxes; since this is a large category, it’s often broken out into subcategories; referred to as OPEX
Operating Profit = The profit left after deducting fixed costs; gross profit less OPEX
Non-Operating Revenue = Income that is not from core business operations; examples include asset sales, foreign exchange, and gains from sales of marketable securities
Non-Operating Expenses = Expenses incurred that are not from core business operations; examples include interest expense, tax expense, lawsuit settlements, and asset markdowns
Net Profit = The profit left after accounting for all revenues and expenses

Remember that total revenue is also called total income, gross income, sales revenue, and net sales.

Net Profit Example

Here are three examples for net profit. We will walk through the calculations and analyze what each company’s profits are.

Company A

Net Sales: $500,000

COGS: $350,000

OPEX: $270,000

  • Net Profit = Net Sales - COGS - OPEX
  • Net Profit = $500,000 - $350,000 - $270,000
  • Net Profit = -$120,000

Company A has a very short income statement and a net profit of -$120,000. This would also be called a net loss of $120,000.

Company B

Gross Profit: $87,000

COGS: $60,000

Operating Expenses: $50,000

Non-Operating Income: $1,000

Non-Operating Expenses: $10,000

  • Net Profit = Gross Profit - OPEX + Non-Operating Income - Non-Operating Expenses
  • Net Profit = $87,000 - $50,000 + $1,000 - $10,000
  • Net Profit = $28,000

Company B provides us with gross profit but not total revenue, so we are starting further down the income statement. Gross profit already includes the cost of goods sold so remember not to double count it.

At the end of the day, Company B had a net profit of $28,000.

Company C

Net Sales: $2,000,000

COGS: $1,450,000

Gross Profit: $550,000

OPEX: $580,000

Non-Operating Income: $20,000

Non-Operating Expenses: $95,000

  • Net Profit = Net Sales - COGS - OPEX + Non-Operating Income - Non-Operating Expenses
  • Net Profit = $2,000,000 - $1,450,000 - $580,000 + $20,000 - $95,000
  • Net Profit = -$105,000

Company C provided us with net sales, cost of goods, and gross profit so we could start with either net sales less COGS (which we did) or with gross profit. The net profit for Company C was -$105,000, which would be classified as a net loss.

Gross Profit vs. Net Profit

Gross profit and net profit are two measures of profitability. Gross profit is at the top of the income statement and looks at the profitability after factoring in cost of goods sold (COGS).

Cost of goods factors direct costs used to provide goods and services, such as: raw materials, inventory, direct labor, production equipment, and utilities attributable to production or storage.

Net profit, as discussed, looks at net earnings of a business after all revenues and expenses are included. The formula is total revenue minus total expenses.

All business activity for the accounting period, including non-operating or irregular activity, are included in this metric.

For example, if a company takes on new debt financing, the impact on the income statement would be that gross profit would remain the same and net profit would decrease. This is because interest expense is a non-operating expense that contributes to net profit.

Both ways of understanding a company’s profits are important and, all things equal, companies want a high gross profit and high net profit.

Gross profit is revenue minus COGS, where net profit is revenue minus all expenses. They are both found on the income statement.

Net Profit Margin

Net profit margin is net profit divided by total revenue. The profitability ratio is expressed as a percent and most commonly tracked every month.

Companies will want a higher profit margin as that allows them to repay debt, distribute funds to shareholders, or reinvest in the business to promote growth. Companies with a negative profit margin or low profit margin will have to carefully analyze their business in order to understand if it is temporary or permanent.

If a company has a net profit margin above 0%, that means they can cover all overhead costs and still have money left over as profit. If a company has a net profit margin below 0%, that means they failed to cover all the costs of the business in that period. A company with a 0% net profit margin broke even, they were neither operating at a profit or a loss.

In the same way there is a net profit margin, there is also a gross profit margin. Gross profit margin is gross profit divided by total revenue. Operators and investors will look closely at gross margin and net margin to understand how a business is changing from one accounting period to the next.

Final Thoughts

Small business owners, managers, investors, and lenders all use net profit as a measure of a company’s ability to generate profit. All things equal, companies want a higher net profit. Net profit is used to pay for future expenses, like expanding marketing plans, covering new employee salaries, and more

There are certain periods, like when an early-stage startup is growing quickly, that you should not expect profit and these periods need to be clearly communicated to the team and investors.

In the normal course of business, the company’s bottom line is one of the most important financial metrics.

A high net profit margin is preferred because that money can be used to repay debt obligations, paid out as dividends to shareholders, or used to reinvest in the business for the next fiscal year.

A low net profit margin might be part of a strategy (e.g., to grow quickly and not make profit) but is also more risky because there is less room for error or to absorb changes in the market condition. At the end of the day, a company’s profit is what makes it self-sufficient.

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