Operating Profit: How to Calculate, What It Tells You, Example

What Is Operating Profit?

A company's operating profit is its total earnings from its core business functions for a given period, excluding the deduction of interest and taxes. It also excludes any profits earned from ancillary investments, such as earnings from other businesses that a company has a part interest in. An operating loss occurs when core business income ends up being lower than expenses.

Key Takeaways

• Operating profit is the net income derived from a company's primary or core business operations.
• Operating profit is also (wrongfully) referred to as earnings before interest and tax (EBIT), as interest and taxes are non-operating expenses.
• Operating profit does not include non-operating income, but EBIT does.
• Operating profit eliminates several extraneous and indirect factors that can obscure a company's real performance.
• Operating profit margin shows how well a company turns gross revenue into this figure.
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Formula and Calculation of Operating Profit

The formula used to calculate operating profit is:

Operating Profit = Gross Profit - Operating Expenses - Depreciation - Amortization

Where:

Gross Profit is calculated as Revenue - Cost of Goods Sold (COGS)

What Operating Profit Can Tell You

Operating profit serves as a highly accurate indicator of a business's health because it removes all extraneous factors from the calculation. All expenses that are necessary to keep the business running are included, which is why operating profit takes into account asset-related depreciation and amortization—accounting tools that result from a firm's operations.

Operating profit is also referred to as operating income as well as earnings before interest and tax (EBIT)—although wrongfully, as the latter includes non-operating income, which is not a part of operating profit. If a firm does not have any non-operating income, its operating profit will equal EBIT.

Companies can choose to present their operating profit figures in place of their net profit figures, as the net profit of a company contains the effects of interest payments and taxes. If 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.

While positive operating profit may express the overall health of a business, it does not guarantee future profitability. Case in point: A company with a high debt load may show a positive operating profit while simultaneously experiencing net losses. In addition, large but extraneous costs are not represented, which may also show a company with a negative net profit having a positive operating profit.

Operating profit is also referred colloquially as  earnings before interest and tax (EBIT). However, EBIT can include non-operating revenue, which is not included in operating profit. If a company doesn't have non-operating revenue, EBIT and operating profit will be the same figure.

Exclusions from Operating Income

Revenue created through the sale of assets is not included in the operating profit figure, except for any items created for the explicit purpose of being sold as part of the core business. In addition, interest earned from cash such as checking or money market accounts is not included.

While the removal of production costs from overall operating revenue—along with any costs associated with depreciation and amortization—is permitted when determining the operating profit, the calculation does not account for any debt obligations that must be met. This is the case 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 is tied directly to the core business operations of the second company. The sale of assets such as real estate and production equipment is also not included, as these sales are not a part of the core operations of the business.

Example of Operating Profit

Walmart Inc. reported an operating income of \$22.6 billion for its fiscal year 2021. Total revenues (net sales as well as membership and other income) were \$559.2 billion.  These revenues came from sales across Walmart's global umbrella of physical stores, including Sam's Club, and its e-commerce businesses.

Meanwhile, the cost of sales (or COGS) and operating, selling, general, and administrative expenses, totaled \$420.3 billion and \$116.3 billion, respectively.

Operating Profit vs. Other Profit Measures

Operating Profit vs. Gross Profit

Gross profit is the total revenue of a company minus the expenses directly related to the production of goods for sale (i.e., the cost of goods sold).

Gross Profit = Revenues - COGS

Derived from gross profit, operating profit reflects the residual income that remains after accounting for all the costs of doing business.

Operating Profit = Gross Profit - Operating Expenses - Depreciation - Amortization

Operating Profit vs. EBITDA

Earnings before income, taxes, depreciation, and amortization - better known as EBITDA - takes operating profit and adds back interest, depreciation, and amortization.

EBITDA = Operating Profit + Interest + Depreciation + Amortization

EBITDA is a cash-focused metric for stakeholders who care about the cash flow of the business. Operating profit is an accounting metric for the stakeholders who care about the operational profitability of the company.

Operating Profit vs. Net Profit

Net profit (or net income) is the profit remaining after all costs incurred in the period have been subtracted from revenue generated from sales. Expenses that factor into the calculation of net income but not operating profit include payments on debts, interest on loans, and one-time payments for unusual events such as lawsuits. Additional income not counted as revenue is also considered in the calculation of net income and includes interest earned on investments and funds from the sale of assets not associated with primary operations.

What Does Operating Profit Tell You?

Operating profit is a useful and accurate indicator of a business's health because it removes any irrelevant factor from the calculation. Operating profit only takes into account those expenses that are necessary to keep the business running. This includes asset-related depreciation and amortization, which result from a firm's operations. Operating profit is also referred to as operating income.

How Do You Calculate Operating Profit?

Operating profit is calculated by taking revenue and then subtracting cost of goods sold (COGS), operating expenses, and depreciation and amortization.

How Do You Find the Operating Profit Margin?

The operating profit (or operating income) can be found on the income statement, or calculated as revenue - cost of goods sold (COGS) - operating expenses - depreciation - amortization. Operating profit margin is calculated by dividing operating income by revenue.

What Is Excluded From the Operating Profit?

Revenue created through the sale of assets is not included in the operating profit figure, except for any items created for the explicit purpose of being sold as part of the core business. In addition, interest earned from cash such as checking or money market accounts is not included, nor does it account for any debt obligations that must be met. Finally, it does not include investment income generated through a partial stake in another company.

The Bottom Line

Operating profit looks at a company's earnings generated through normal business operations. Analyzing operating profit, which can be found on the income statement, is useful because it excludes accounting items such as one-time charges, interest, and taxes that may skew a company's profit in a given year. These items are accounted for instead in a company's net profit, or bottom line.

Article Sources
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1. Securities & Exchange Commission. "Form 10-K."