What Is Profit before Tax (PBT)?
Profit before tax is a measure that looks at a company's profits before the company has to pay corporate income tax. It essentially is all of a company’s profits without the consideration of any taxes.
Profit before tax can be found on the income statement as operating profit minus interest. Profit before tax is the value used to calculate a company’s tax obligation.
Profit Before Tax (PBT)
Understanding Profit before Tax
Profit before tax may also be referred to as earnings before tax (EBT) or pre-tax profit. The measure shows all of a company's profits before tax. A run through of the income statement shows the different kinds of expenses a company must pay leading up to the operating profit calculation. Gross profit deducts costs of goods sold (COGS). Operating profit factors in both COGS and all operational expenses. Operating profit is also known as earnings before interest and tax (EBIT). After EBIT only interest and taxes remain for deduction before arriving at net income.
- Profit before tax is the same as earnings before tax.
- Profit before tax is used to identify how much tax a company owes.
- Profit before tax can also be a profitability measure that provides for greater comparability among companies that pay a varying amount of taxes.
Calculation of Profit before Tax
Understanding the income statement can help an analyst to have a better understanding of PBT, its calculation, and its uses. The third section of the income statement focuses in on interest and tax. These deductions are taken from the summation of the second section, which results in operating profit (EBIT). Interest is an important metric that includes both a company’s interest from investments as well as interest paid out for leverage.
Following the implementation of the Tax Cuts and Jobs Act (TCJA), all C-Corporations have a federal tax rate of 21%. All other companies are pass-throughs, which means they are taxed at the individual taxpayer’s rate. Any kind of entity will also have to pay state taxes. State tax rates can vary widely by state and entity type.
The basics of calculating PBT are simple. Take the operating profit from the income statement and subtract any interest payments, then add any interest earned. PBT is generally the first step in calculating net profit but it excludes the subtraction of taxes. To calculate it in reverse you can also add taxes back into the net income.
As mentioned above, different types of companies will have different tax obligations at the federal and state level. Calculating the actual amount of taxes owed will come from the PBT.
Usefulness of PBT
PBT is not typically a key performance indicator on the income statement. These are usually focused on gross profit, operating profit, and net profit. However, like interest, the isolation of a company’s tax payments can be an interesting and important metric for cost efficiency management.
The pre-tax profit also determines the amount of tax a company will pay. Any credits would be taken from the tax obligation rather than deducted from the pre-tax profit.
Further, excluding the tax provides managers and stakeholders with another measure for which to analyze margins. A PBT margin will be higher than the net income margin because tax is not included. The difference in PBT margin vs. net margin will depend on the amount of taxes paid.
Also, excluding income tax isolates one variable that may have a substantial impact for a variety of reasons. For instance, C-Corps pay a federal tax rate of 21%. However, different industries may receive certain tax breaks, often in the form of credits, which can influence the tax impact overall. Renewable energy is one example. Wind, solar, and other renewables can be subject to an investment tax credit and a production tax credit. Thus, comparing the PBT of companies when renewables are involved can help to provide a more reasonable assessment of profitability.
EBIT, EBT, and EBITDA
Working down the income statement provides a view of profitability with different types of expenses involved. Operating profit, also known as EBIT, is a measure of a company’s full operational capabilities. This includes the direct, COGS involved with manufacturing a product and the indirect operating expenses that are associated with the core business but not directly tied to it.
PBT is a part of the final steps in calculating net profit. It deducts interest from EBIT. This arrives at the taxable net income for a company.
Interest itself is often an indicator of a company’s capitalization structure. If a company has been financed with a high amount of debt, it will have higher interest payments to make. EBIT is often the best measure of full operational capabilities, while the differences in a company’s EBIT vs. PBT will show its debt sensitivity.
Earnings before interest, tax, depreciation, and amortization (EBITDA) is an extension of the well-known usefulness of EBIT as an operational profitability and efficiency measure. EBITDA adds the non-cash activities of depreciation and amortization to EBIT. Many analysts find EBITDA is a very quick way to assess a company’s cash flow and free cash flow without going through detailed calculations. EBITDA, like EBIT, is before interest and tax, so it is readily comparable. Many types of multiples comparisons will use EBITDA because of its universal usefulness. Enterprise value to EBITDA is one example.