Definition
Operating profit is the profit a company generates from its core business operations, excluding deductions of interest and taxes. Net profit, on the other hand, is the total earnings of a company after deducting all expenses, including tax and interest expenses, from its total revenue. So basically, operating profit shows a company’s profitability from regular operations, while net profit reflects the overall profitability including all factors.
Key Takeaways
- Operating Profit (also known as Earnings Before Interest and Tax or EBIT) is the profit a company makes from its core operations, excluding interests and taxes. It is a reflection of a company’s operational efficiency.
- Net Profit, on the other hand, is the total profit of a company after all its financial obligations including taxes, interest expenses, depreciation, and other expenses have been deducted from its total revenue. It is also termed as “the bottom line”.
- Comparing both gives comprehensive insight into a company’s financial health. While Operating Profit highlights how well a company is managing its direct costs related to its core operations, Net Profit provides information about how efficiently a company is managing its total expenses, giving a clear view of overall profitability.
Importance
Operating profit vs net profit is a crucial distinction in finance because it provides insight into a company’s financial health and operational efficiency.
Operating profit, also known as operating income, primarily reflects the profit a company makes from its core business operations, by subtracting from its revenue the direct costs associated with producing its goods or services, as well as operational expenses like salaries and rent.
Net profit, on the other hand, is the bottom-line income a company earns after all expenses, including interest, taxes, and non-operational costs such as losses from investments or lawsuits, have been subtracted from its revenue.
Therefore, comparing these two figures can show if a company’s central business operations are profitable, and indicate how effectively it is managing peripheral costs and income, offering a comprehensive view of overall performance and long-term sustainability.
Explanation
Operating profit and net profit are two distinct measurements used to evaluate a company’s financial performance. Operating profit, often referred to as operating income or Earnings Before Interest and Taxes (EBIT), mainly gauges the efficiency of a company’s core business operations. It signifies the profits generated from the regular, principal activities of the company, and excludes peripheral or incidental effects.
This metric is useful to both management and investors as it provides a precise picture of the company’s ability to make money from its operational activities, which is its primary purpose. On the other hand, net profit, also known as net income or net earnings, is a more comprehensive measure of a company’s profitability. It includes not just the profits made from core business operations, but also accounts for non-operational gains and losses, taxes and interest charges.
Thus, it represents the actual ‘bottom line’ profit after all costs, deductions and incomes have been factored in. Net profit is primarily used to ascertain the total profitability of a company after all its financial activities, and can highlight how efficiently the management is using its resources. Therefore, it’s a critical variable for shareholders, potential investors, and financial analysts while making investment decisions or benchmarking against competitors.
Examples of Operating Profit vs Net Profit
Apple Inc.: For the fiscal year 2020, Apple Inc. reported an operating profit of $29 billion, which includes revenues minus costs related directly to those revenues, such as the costs of creating products, sales, marketing, and administration. Their net profit, however, was reported $41 billion after deducting interest, taxes, and other expenses. This shows how operating profit is higher than net profit since it doesn’t include taxes and other costs not directly tied to normal operations.
Amazon Inc.: In 2020, Amazon Inc. achieved an operating profit of $9 billion, reflecting its earnings from core business operations, removing the impact of investment gains or losses, interest expenses, and taxes. However, its net profit was $33 billion after incorporating all additional expenses including interest payments on its debts and income tax.
Walmart Inc.: For the fiscal year ending January 2021, Walmart generated an operating profit of $55 billion from its daily operations. After factors like interest expenses, corporate taxes, restructuring charges, and rent are taken into account, its net profit stood at $51 billion. This distinguishes the profits directly achieved from business operations and what’s retained after all costs and expenses.
FAQs: Operating Profit vs Net Profit
1. What is Operating Profit?
Operating Profit, also known as operating income, represents the profits earned from a firm’s normal core business operations. This means it accounts for the costs of goods sold (COGS), operating expenses (like salary and rent), and depreciation but doesn’t include things like taxes and interest payments.
2. What is Net Profit?
Net Profit, also known as net income, is a company’s total earnings after subtracting all expenses, interest payments, taxes, and costs not associated with the company’s main operations. It is a company’s final profitability after all costs and expenses are accounted for.
3. What is the difference between Operating Profit and Net Profit?
The difference between Operating Profit and Net Profit lies in their calculation. Operating Profit does not include taxes and interest payments, whereas Net Profit includes everything, i.e., it’s the profit after all costs, depreciation, interest, taxes, and expenses are subtracted from total revenue.
4. Why are Operating Profit and Net Profit important?
Operating Profit shows the profitability from regular business operations, providing insight into the company’s operational efficiency. On the other hand, Net Profit shows us the overall profitability of the company, after every expense, which is crucial for knowing the bottom line.
5. Can a company have a high Operating Profit but a low Net Profit?
Yes, a company can have a high Operational Profit but a low Net Profit. This situation can occur when a company has high non-operational expenses, such as interest charges for loans or high tax obligations affecting the Net Profit despite high Operating Profit.
Related Entrepreneurship Terms
- Gross Profit: This shows a company’s revenue after deducting the costs directly linked to the production of goods or services sold.
- Operating Expenses: These are costs associated with the day-to-day functions of a business, such as rent, utilities, and salaries.
- EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization): A measure of a company’s operating performance.
- Net Income: Also known as net profit, is a measure of the profitability of a venture after accounting for all costs and taxes.
- Profit Margin: This metric indicates how much profit a company makes for every dollar of its revenue.
