how accounting profit works
profit is a widely monitored financial metric that is regularly used to evaluate the health of a company firms often publish various versions of profit in their financial statements some of these figures take into account all revenue and expense items laid out in the income statement others are creative interpretations put together by management and their accountants accounting profit also referred to as bookkeeping profit or financial profit is net income earned after subtracting all dollar costs from total revenue in effect it shows the amount of money a firm has left over after deducting the explicit costs of running the business the costs that need to be considered include the following accounting profit vs economic profitlike accounting profit economic profit deducts explicit costs from revenue where they differ is that economic profit also uses implicit costs the various opportunity costs a company incurs when allocating resources elsewhere examples of implicit costs include for example if a person invested 100 000 to start a business and earned 120 000 in profit their accounting profit would be 20 000 economic profit however would add implicit costs such as the opportunity cost of 50 000 which represents the salary they would have earned if they kept their day job as such the business owner would have an economic loss of 30 000 120 000 100 000 50 000 economic profit is more of a theoretical calculation based on alternative actions that could have been taken while accounting profit calculates what actually occurred and the measurable results for the period accounting profit has many uses including for tax declarations economic profit on the other hand is mainly just calculated to help management make a decision accounting profit vs underlying profitcompanies often choose to supplement accounting profit with their own subjective take on their profit position one such example is underlying profit this popular widely used metric often excludes one time charges or infrequent occurrences and is regularly flagged by management as a key number for investors to pay attention to the goal of underlying profit is to eliminate the impact that random events such as a natural disaster have on earnings losses or gains that do not regularly crop up such as restructuring charges or the buying or selling of land or property are usually not taken into account because they do not occur often and as a result are not deemed to reflect the everyday costs of running the business example of accounting profitcompany a operates in the manufacturing industry and sells widgets for 5 in january it sold 2 000 widgets for a total monthly revenue of 10 000 this is the first number entered into its income statement the cost of goods sold cogs is then subtracted from revenue to arrive at gross revenue if it costs 1 to produce a widget the company s cogs would be 2 000 and its gross revenue would be 8 000 or 10 000 2 000 after calculating the company s gross revenue all operating costs are subtracted to arrive at the company s operating profit or earnings before interest taxes depreciation and amortization ebitda if the company s only overhead was a monthly employee expense of 5 000 its operating profit would be 3 000 or 8 000 5 000 once a company derives its operating profit it then assesses all non operating expenses such as interest depreciation amortization and taxes in this example the company has no debt but has depreciating assets at a straight line depreciation of 1 000 a month it also has a corporate tax rate of 35 the depreciation amount is first subtracted to arrive at the company s earnings before taxes ebt of 1 000 or 2 000 1 000 corporate taxes are then assessed at 350 to give the company an accounting profit of 650 calculated as 1 000 1 000 0 35 