Net Income vs. Profit: What Is the Difference?

Search Fintrev

Search our guides, reviews and glossary.

Net income is the single figure left after every cost, expense, interest charge, tax and one-time item for a period has been subtracted from revenue, with any non-operating gains added in. It is also called net profit or net earnings, and it sits on the last line of the income statement. Profit is a broader word. It means revenue minus some set of costs, so a company reports several profit figures: gross profit, operating profit, pretax profit and, finally, net profit. Net income and “profit” are the same only when “profit” means the bottom line.

Why “profit” has several meanings

Accountants calculate profit at different stages so that readers can see where revenue is being consumed. A company with a healthy gross profit but weak operating profit has a cost problem in overhead, not in production. A company with strong operating profit but thin net income may be carrying heavy debt or a high tax bill. Net income compresses all of that into one number, while the intermediate profit lines show where it came from.

How the profit levels build to net income

A multi-step income statement moves from the top line down:

1. Gross profit = revenue − cost of goods sold (COGS). Gross profit is also called gross margin or gross income.
2. Operating profit (operating income) = gross profit − operating expenses. Operating expenses include fixed and variable costs needed to run the business: salaries, rent, marketing, research and development, and depreciation and amortization.
3. Pretax profit (earnings before tax) = operating profit − interest expense + interest and investment income ± other non-operating gains and losses, such as a gain or loss on selling property or equipment.
4. Net income = pretax profit − income tax expense. Unusual or one-time items, and in group accounts income from subsidiary or affiliate holdings, are also reflected by this line.

Under IFRS, the bottom line is often labeled “profit for the year” or “profit for the period.” That label means the same thing as net profit or net income under US terminology.

Worked example

Hypothetical company, one fiscal year:

The company has four legitimate “profit” figures: $200,000, $80,000, $75,000 and $60,000. Only the last is net income. Net profit margin is $60,000 ÷ $500,000 = 12%. If the company had 100,000 weighted average shares outstanding and no preferred stock, EPS would be $0.60.

How net income is used

• Earnings per share. Public companies calculate EPS as (net income − preferred dividends) ÷ weighted average common shares outstanding. EPS in turn drives the price-to-earnings ratio.
• Net profit margin. Net income divided by revenue shows how much of each sales dollar the business keeps after all costs.
• Retained earnings. Net income for the period, minus dividends paid, is added to retained earnings in the equity section of the balance sheet. A net loss reduces retained earnings.
• Starting point for cash flow. The indirect method of the cash flow statement begins with net income and adjusts for non-cash items and working capital changes.

Measures that are not net income

Pretax profit. Earnings before tax exclude income tax expense, so they differ from net income by the tax line. Pretax profit is usually the higher number. It can be lower when a company records a tax benefit, for example from releasing a valuation allowance or applying tax credits. In that case net income can exceed pretax profit.

Operating profit. This measures earnings from the core business before interest and taxes, regardless of how the company is financed or taxed. Net income adds the effect of financing decisions, taxes and non-operating items.

EBITDA. EBITDA is earnings before interest, taxes, depreciation and amortization. It is a type of profit, but it deliberately leaves out four cost categories that net income includes. In the example above, EBITDA is roughly $80,000 + $20,000 = $100,000, compared with net income of $60,000.

Taxable income. For businesses, book net income follows accounting standards (GAAP or IFRS), while taxable income follows tax law. The two often differ because of timing rules such as accelerated tax depreciation, non-deductible expenses and tax credits. On a personal return, “income” generally means gross receipts or wages, and for a sole proprietor the figure closest to profit is net business income after allowable deductions.

Revenue. Net revenue (sales minus returns, allowances and discounts) is a top-line figure. It sits above every profit line and is not a measure of profit at all.

Limitations of net income

Net income is the most complete single measure of profitability, but it has blind spots:

• Accrual timing. Revenue and expenses are recorded when earned or incurred, not when cash moves. A company can report positive net income while running short of cash, which is why analysts also look at free cash flow.
• One-time items. A large gain on an asset sale or a restructuring charge can push net income well above or below what the ongoing business produces.
• Judgment and manipulation. Revenue recognition, depreciation methods, reserves and impairments involve estimates. Aggressive recognition of revenue or deferral of expenses can inflate the figure. Analysts therefore review how the number was built and compare it with operating cash flow and taxable income.
• Comparability. Differences in capital structure and tax jurisdiction change net income even between companies with identical operations, which is one reason operating profit and EBITDA are used alongside it.

FAQs

The Bottom Line

Investors and business owners reading an income statement need to know which profit line a figure comes from, since only the last line is net income. Net income feeds EPS, margins and retained earnings, but accrual timing, one-time items and accounting estimates can distort it. Checking it against operating cash flow, operating profit and EBITDA gives a fuller view of how a business is performing.