What is Operating Profit
Operating profit is an accounting figure that measures the profit earned from a company's ongoing core business operations, thus excluding deductions of interest and taxes. This value also does not include any profit earned from the firm's investments, such as earnings from firms in which the company has partial interest.
Operating profit can be calculated using the following formula:
BREAKING DOWN Operating Profit
Operating profit serves as an indicator of the business’s potential profitability with all extraneous factors removed from the calculation. All expenses that are necessary to keep the business running are included, which is why operating profit does take into account asset-related depreciation and amortization, which are accounting tools that result from a firm's operations. Operating profit is therefore distinct from net income, which can vary year to year due to these exceptions in a firm's operating profit.
Operating profit is also sometimes referred to as operating income, as well as earnings before interest and tax (EBIT) — although the latter may sometimes include non-operating revenue, which is not a part of operating profit. If a firm does not have non-operating revenue, its operating profit will equal EBIT.
Exclusions From the Operating Profit Calculation
Revenue created through the sale of assets, outside of those assets created for the purpose of being sold as part of the core business, are not included in the operating profit figure. Additionally, interest earned through mechanisms such as checking or money market accounts are not included.
While the removal of production costs from overall operating revenue, along with any costs associated with depreciation and amortization, are permitted when determining the operating profit, the calculation does not account for any debt obligations that must be met even if those obligations are directly tied to the company’s ability to maintain normal business operations.
Operating income does not include investment income generated through a partial stake in another company even if the investment income in question is tied directly to the core business operations of the second company. Additionally, the sale of assets such as real estate and production equipment are not included as these sales are not a part of the core operations of the business.
An Example of Operating Profit
Walmart Inc. reported operating income of $20.4 billion for its fiscal year 2018. Total revenues, which were equal to total operating revenues, tallied $500.3 billion. These revenues came from sales across Walmart's global umbrella of physical stores, including Sam's Club, and e-commerce businesses. Meanwhile, the cost of sales (or COGS) and operating, selling, general and administrative expenses, totaled $373.4 billion and $106.5 billion, respectively. The firm did not separately list amortization and depreciation on its income statement.
- OR [$500.3 billion] - COGS [$373.4 billion] - OE [$106.5 billion] = Operating Profit [$20.4 billion]
From the $20.4 billion, net income further subtracted interest expenses of $2.2 billion, a loss on extinguishment of debt totaling $3.1 billion and a provision for income taxes of $4.6 billion, for a net income total of $10.5 billion.
Benefits and Drawbacks of Referring to the Operating Profit Figure
Companies may choose to present their operating profit figures, in lieu of their net profit figures, as the net profit of a company contains the effects of interest payments and taxes. In cases where a company has a particularly high debt load, the operating profit may present the company’s financial situation more positively than the net profit reflects.
For investors, examining the operating profit may allow for an easier comparison of businesses that operate within industries with differing tax rates or financial structures as this allows for a more equitable comparison.
While positive operating profit may express the overall profit potential of a business, it does not guarantee the business is not experiencing losses. A company with a high debt load may show a positive operating profit while also having a negative net profit. Additionally, large but extraneous costs are not represented, which can again show a company with a negative net profit as having a positive operating profit.