Profit

Profit has several different definitions. Gross profit is the difference between sales revenue and the cost of goods sold, and is one measure of company profitability. Gross profit margins vary from industry to industry, and as a measure of the profitability of a business gross profit may make a business appear more profitable than it really is, as the company has to pay for overheads, interest and taxes from its gross profit. Operating profit is sometimes known as Earnings Before Interest and Tax [EBIT] and this is calculated by deducting the cost of goods sold and all expenses, except for interest and taxes, from sales revenue. This measure of profitability focuses on the surplus generated by the company’s operations. Net profit is calculated as total revenue minus total expenses. For example, a company has sales of 100,000 widgets, sold at $5 each, with a cost of goods sold of $2 each. Sales revenue is $500,000, and cost of goods sold is $200,000, making a gross profit of $300,000. Operating expenses of $100,000 to calculate EBIT are then subtracted. The operating expenses are comprised of sales and administration, research and development etc. The sum is now $200,000 profit before taxes. Deducting $50,000 in tax leaves a net profit of $150,000. Most published financial accounts aggregate information at a high level, which makes assessing a supplier’s profitability more difficult for the procurement practitioner. Most practitioners select a number of profitability ratios and consider the trends in the data in order to reach judgements about the firm’s overall profitability. When the market is in recession, solvency measures tend to assume a greater significance than profitability measures for buyers concerned with supplier viability. See also Ratio Analysis.