To submit requests for assistance, or provide feedback regarding accessibility, please contact support@masterclass.com.

Business

How to Calculate Operating Profit in Business

Written by MasterClass

Last updated: Oct 2, 2020 • 3 min read

Business owners can calculate one of three measures of profitability: gross profit, net profit, and operating profit.

Operating profit tells you how much money you’re clearing from your core business and what your cash flow situation is.

Save

Share


Paul Krugman Teaches Economics and SocietyPaul Krugman Teaches Economics and Society

Nobel Prize-winning economist Paul Krugman teaches you the economic theories that drive history, policy, and help explain the world around you.

Learn More

What Is Operating Profit?

Operating profit is a measure of the profit earned from a company’s ongoing core business operations, excluding deductions of interest and taxes.

  • Operating profit represents what remains after you deduct direct and indirect costs from sales revenue.
  • Operating profit differs from gross profit (sometimes called gross income or gross earnings) and net profit (net income or net earnings). But the operating profit margin is related and can be calculated from them.

What Is the Difference Between Operating Profit and EBIT?

Operating profit is sometimes called Earnings Before Interest and Taxes, or EBIT.

But that’s only true for a company that doesn’t have revenues from sources outside its core business of making and selling a good or service. Non-operational revenue includes such things as dividend income, capital gains from investments, gains from foreign exchange, and asset write-downs.

Operating Profit Formula

The formula for calculating operating profit is as follows:

Revenues – Direct Costs – Indirect Costs = Operating Profit

Another way to express this:

Revenues – Operating Costs = Operating Profit

Here are a few examples of how to calculate operating profit from an income statement.

Company A's income statement reveals the following:

Revenues: $2.3 billion
Operating Cost:

  • Cost of goods sold: $982.7 million
  • Operating expenses: $115.7 million
  • Depreciation and amortization: $42 million

Company A's operating income is calculated thusly:

$2,300,000,000 – $982,700, 000 – $115,700,000 – $42,000,000 = $1,159,600,000

Company A's operating profit is $1.16 billion. That's before interest earned from investments and any taxes are paid to the government.

Here’s another example. Company B's income statement shows the following:

Total revenue: $1 million
Operating Cost:

  • Cost of goods sold: $500,000
  • Operating expenses: $300,000
  • Depreciation and amortization: $150,000

Company B's operating profit is calculated thusly:

$1,000,000 - $500,000 - $300,000 - $50,000 = $150,000

Paul Krugman Teaches Economics and Society
Paul Krugman Teaches Economics and Society
Howard Schultz Business Leadership
Anna Wintour Teaches Creativity and Leadership

Operating Profit vs. Gross Profit vs. Net Profit

Operating profit differs from gross profit and net profit. But it can be derived from them and vice versa. Here are three formulas that demonstrate the relationship among the three measures of profitability:

  • Operating Profit = Gross Profit – Operating Expenses – Depreciation – Amortization
  • Operating Profit = Net Profit + Interest Expenses + Taxes

Depending on the degree of non-operational factors, operating profit may differ significantly from net profit, especially during periods of economic upheaval, industry disruption, changes in corporate or managerial structure, or the existence of large debt loads.

It's possible for a company's operating profit to exceed its net profit (or even net loss). A company may choose to emphasize its operating profit over its net income; a canny investor or competitor will pay attention to both in context.

Why Do You Need to Understand Your Operating Profit?

Knowing your operating profit means you understand your cash flow for everything else: salaries, rent, travel, raw materials, and energy.

It shows you how much money you’re making before you have to pay for things that are beyond your control, such as interest payments and taxes.

  • Operating profit lets you see how well you are controlling costs. Comparisons year over year provide trends for pricing strategy, labor costs, and raw material prices.
  • Operating profit also gives investors a quick snapshot of a company's day-to-day management and the choices they make. Over time, operating profit creates a trend line that offers a glimpse at management's flexibility and responsiveness to change, as well as a potential trajectory for a company's prospects.
  • Comparing the operating profit of companies in a particular industry can help an investor assess whether a company is performing better or worse than its competitors and, all things being equal, how its management measures up as a consequence.

Operating profit is useful to generate another key measure of a company's profitability: Its operating margin.

MasterClass

Suggested for You

Online classes taught by the world’s greatest minds. Extend your knowledge in these categories.

Paul Krugman

Teaches Economics and Society

Learn More
Paul Krugman

Teaches Economics and Society

Learn More
Howard Schultz

Business Leadership

Learn More
Anna Wintour

Teaches Creativity and Leadership

Learn More

Want to Learn More About Economics and Business?

Learning to think like an economist takes time and practice. For Nobel Prize-winner Paul Krugman, economics is not a set of answers—it’s a way of understanding the world. In Paul Krugman’s MasterClass on economics and society, he talks about the principles that shape political and social issues, including access to health care, the tax debate, globalization, and political polarization.

Want to learn more about economics? The MasterClass Annual Membership provides exclusive video lessons from master economists and strategists, like Paul Krugman.

Save

Share