- Posted by: Thamizharasu Gopalsamy
- Category: business strategy
If you run a business, you should definitely know the difference between gross profit and net profit.
Everybody knows that the higher the profit, the higher your growth. But, there are two types of profits — net profit and gross profit — and you should know to differentiate between them for proper reporting and planning.
Let’s get into the blog and know the differences between them!
Table of content:
- What is gross profit?
- What is net profit?
- Difference between gross profit and net profit (table)
- How do you calculate gross profit and net profit?
- What factors affect gross profit and net profit?
What is gross profit?
Gross profit refers to the money you make after deducting the cost of manufacturing and selling your products. Selling includes distributing costs.
You can calculate the gross profit by deducting the production costs of the goods sold with the revenue. In other words, you can deduct the revenue and cost of goods sold to arrive at the gross profit.
Gross profit = Revenue – Cost of goods sold
Revenue refers to the total money you made selling your products over a period of time.
The cost of goods sold refers to the price of the products you sell.
Gross profit can help people (investors or general people) know how well you manage your production and labor costs.
What is net profit?
Net profit refers to the profit that remains after detecting all expenses from the revenue. It helps you know your profitability in a year. As a business owner, you should know it as it’s essential to grow your business.
Unlike gross profit, where you only deduct the production costs, you subtract all expenses in net profit.
If you want to calculate the net profit of your business, you should first calculate the gross profit.
Once you calculate the gross profit, deduct the expenses from it to find the net profit.
Net profit = Gross profit – Expenses
As the definition of net profit suggests, it helps people know your business’s overall profitability.
Difference between gross profit and net profit (table)
|Basis of difference||Gross profit||Net profit|
|Definition||The money you make after the cost of manufacturing and selling your products.||The money you make after deducting all the expenses.|
|Formula||Gross profit = Revenue – Cost of goods sold||Net profit = Gross profit – Expenses|
|Requirements||Revenue and cost of goods sold.||Gross profit and expenses.|
|Purpose||It helps people know how well you manage your production and labor costs.||It helps people know the overall profitability of your business.|
|Dependability||Though you can depend on gross profit to calculate the profits, it doesn’t factor in all expenses. So, you can’t entirely rely on it for calculating your business profit.||Since net profit factors all expenses, you can rely on it to calculate your business profit.|
How do you calculate gross profit and net profit?
There are two main ways to calculate a company’s gross profit and net profit: the income statement approach and the balance sheet approach. The income statement approach looks at a company’s revenue and subtracts the cost of goods sold to determine gross profit. Net profit is calculated by subtracting all expenses from revenue. The balance sheet approach looks at a company’s assets and subtracts its liabilities to determine net worth. From there, subtract total liabilities from total assets to calculate gross profit, and subtract total expenses from net worth to calculate net profit.
What factors affect gross profit and net profit?
There are a number of factors that can affect a company’s gross profit and net profit. The most important factors are the product or service being sold, the sales revenue, and the costs associated with producing and marketing the product or service. Other factors that can affect profits include overhead costs, employee salaries, and taxes.
The most important factor in determining a company’s gross profit is the price of the product or service being sold. If the price is too high, customers will be unwilling to buy it, and the company will not generate enough revenue to cover its costs. If the price is too low, the company may not make a profit on each sale.
The second most important factor is the cost of producing and marketing the product or service.
In conclusion, it is important to understand the difference between gross profit and net profit. Gross profit is the total revenue earned by a company after deducting the cost of goods sold, while net profit is the revenue left after all other expenses have been deducted. This information can help business owners make sound financial decisions that will help their company grow.
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