Operating Profit: Definition, Formula & Calculation
Running a small business is full of intricacies.
It can seem at times that there are a million and one things that need to be learned and calculated just to keep your business profitable and viable.
One of the most important aspects of your business is your profit and cash flows. Anything that can be done to stretch your profit margins can prove to be of great value. But first, you need to be able to understand how to calculate your profit margins.
And a large part of understanding this comes from calculating your operating profit. But what exactly is operating profit?
We’ll take an in-depth look at the definition of operating profit. And provide you with the formula and an example calculation so that you can better understand the profits of your own business.
Table of Contents
KEY TAKEAWAYS
- Operating profit is the calculation of the total operating income less operating expenses.
- Operating profit differs from net profit and gross profit.
- Operating profit eliminates many indirect factors that can cloud a business’s actual performance and financial situation.
What Is Operating Profit?
A company’s operating profit is the calculation of the total income that the company generates from the core operations of its sales. This is after it has paid off all operating expenses. These include employee payroll, rent, inventory, administrative expenses, and repairs and maintenance.
It also excludes the deduction of taxes and interest, as well as any profits that have been earned from ancillary investment income. This could include earnings from any other businesses that the company has any form of interest in or any form of investment income.
When the core business income is lower than expenses, then what is known as an operating loss will occur.
Operating profit is sometimes also referred to as operating income. It can also be known as earnings before interest and tax, or EBIT. Although this is in fact incorrect, as EBIT includes non-operating income in its calculation.
If a company does not have any non-operating income, then its operating profit will be equal to its EBIT.
What Is the Formula and Calculation of Operating Profit?
There is a relatively straightforward formula that can be used when calculating your operating profit. It can be laid out as follows:
This formula can be simplified due to the given formula for gross profit being Revenue – COGS. It would be simplified as follows:
What Is an Example of Operating Profit?
Let’s say that you are running a large business and wanted to figure out your operating profit for the fiscal year. The total sales revenue for that year amounted to $559.2 million. Meanwhile, the cost of sales and administrative expenses totaled $420.3 million. And operating, administrative, selling and general expenses added up to $116.3 million.
Using the above formula, you could calculate the operating profit as follows:
Operating profit = $559.2m — $420.3m — $116.3m
After doing the calculation, you would be able to see that your operating profit for the fiscal year would be $22.6 million.
Summary
It’s always important to keep your bottom line and cash flows in mind. As a business owner learning the definition and formula for your operating profit is key. You can always have a good idea of how your business is performing in terms of its financial health.
FAQs on Operating Profit
When calculating the profit of a business model, it can usually be done at three different levels on an income statement. These levels are operating profit, gross profit, and net profit.
Gross Profit: Gross profit is the income that is left after you have paid off any direct expenses. This can be figured out by using a gross profit formula.
Net Profit: A business’s net profit is the amount that is left after all of the deductions have been taken into consideration. This can be calculated by using the net profit formula.
Your EBIT gives you an idea of the profitability of a company. Therefore EBIT is basically your net income with interest and tax expenses added. It excludes the cost of debt and taxes.
The operating profit only takes into account necessary expenses. These are the expenses that are needed to keep the core business operations at an optimal level. This includes any depreciation and amortization of assets.
The operating profit margin can be found on the income statement, as part of the financial statements. The operating profit margin of a business can be calculated by dividing operating income by revenue.
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