What is Profit?

One of the most important measurements in business is the bottom line.  But what does "The Bottom Line" mean?  This term is sometimes used for many things but technically it comes from a financial statement known as the income statement. The bottom line on the income statement is Net Income or Profit.

Now we still have not answered the question “What is Profit"?

From a basic perspective profit is revenue minus costs.  What people have to be careful about is calculating the costs.  The two types of costs are direct and indirect.  Direct costs can be directly linked to the product and indirect cost is everything else.  Examples of costs that are allocated directly are raw materials because we can directly trace the amount of raw materials used to the products that are made.  While an example of costs that are allocated indirectly are rent, utilities and maintenance. 

Other lines on the income statement to consider include taxes and depreciation.  Companies have to pay tax on the income they report so net income is after tax.  Depreciation is calculated in differet ways but generally it means the allocation of a value loss for equipment.   

Basic Calculation for Profit:

Net Income: Revenue - Costs-Taxes-Depreciation-Preferred Dividends

How companies use Profit:

-           Reinvest for expansion

-           Pay out to yourself

-           Save it

-           Pay Dividends

To capture net income firms use the income statement sometimes referred to as the profit and loss statement.  Investors will refer to the income statement to analyze the firms’ net income. The income statement is universal to all firms and incorporates multiple calculations. The income statement captures a firm’s performance across a period of time and is prepared monthly, quarterly and annually.


Ratios can be used as a way to analyze the profitability of a firm.  The health of a company can be determined by making these calculations.  Different industries have different ratio standards.  For example the grocery business is going to have a lower profit margin then the services industry.  So when looking at ratios one has to compare them to others in the same industry.

Below are ratios associated with the measurement of Profitability: 

Common Profitability Ratios:

Profit Margin: Net Income/Revenue

Basic Earnings Power: Earnings before interest and taxes/Assets

Return on Assets: Net income/Assets

Return on Equity: Net income/Equity