Types of Profit and Profit Margin

Profit

Types of Profit

Profit is the difference between a company's total revenue and its total costs. There are three types of profit: gross profit, operating profit, and net profit.

Gross Profit

Gross profit is the simplest profitability metric, which defines profit as all income that remains after accounting for the cost of goods sold (COGS). It includes only those expenses directly associated with the production or manufacture of items for sale, such as raw materials and labor required to make or assemble goods.

Operating Profit

Operating profit is a slightly more complex metric that also accounts for all overhead, operating, administrative, and sales expenses necessary to run the business on a day-to-day basis. It includes the amortization and depreciation of assets, but still excludes debts, taxes, and other nonoperational expenses.

Net Profit

Net profit is the most comprehensive profitability metric that takes into account all expenses and income from other sources, such as investments. It reflects the overall success of a business strategy and can help determine the effectiveness of inventory forecasting and marketing spend.

Maximizing Profit

Maximizing profit involves improving profit margins, which is another way business owners can boost profitability. Widening profit margins allows a company to make more from every dollar of gross revenue. Creating a customer loyalty program can help improve profit margins by encouraging customers to spend more and continue buying from the company.

Profit vs. Revenue

Profit is the amount of money a company makes after accounting for costs, while revenue is the total amount of money a company brings in. Part of revenue goes towards acquiring inventory, part goes towards operating the business, and the rest is realized as profit.

Calculating Profit

There are several ways to calculate profit margins. The simplest is the gross profit margin, which compares gross profit to total revenue, reflecting the percentage of each revenue dollar that is retained as profit. The formula for gross profit margin is GPM = (Net sales - COGS) / Net sales x 100.

Operating profit margin accounts for operating costs, administrative costs, and sales expenses, including amortization rates and asset depreciation. The formula for operating profit margin is Operating income / Revenue x 100.

Net profit margin is the most difficult to track, but it gives the most insight into the bottom line. It takes into account all expenses and income from other sources. The formula for net profit margin is Net income / Revenue x 100.

Profit Margin

Profit margin is a mathematical expression of profit, expressed as a percentage that takes into account business costs. It represents the company's net income when it's divided by the net sales or revenue. Net income is determined by subtracting the company's expenses from its total revenue. Businesses use the earnings before interest, taxes, depreciation, and amortization (EBITDA) formula to project a company's long-term profitability.