Gross Profit vs. Net Income: What’s the Difference?

A company's gross profit is the amount of income left over after subtracting the cost of producing and selling its products from its total sales revenue. While total revenue indicates how much money a company receives in exchange for selling its goods, gross profit reflects how much money it actually earns from those sales since it factors in the cost of goods sold (COGS).

Gross profit is a valuable metric because it shows whether a company's production process needs to be more or less cost-effective compared to its revenue. For example, if gross profit decreases due to a spike in shipping costs, you could try to switch to a cheaper shipping service or reduce the weight of your product packaging.

A company's net income, also called net profit or bottom line, is the amount of income leftover after subtracting all business expenses from its total revenue. In addition to the cost of goods sold, other expenses included in this metric are operating expenses, income taxes, interest expenses on loans and debt, depreciation of fixed assets, and SG&A (selling, general, and administrative expenses). Additionally, for the net income calculation, total revenue includes not only the amount of money earned from product sales, but income from other places, such as investments.

Since net income takes into account all of a company's expenses and revenue, it's a metric that reflects a company's actual profitability during a particular accounting period. You'll typically find net income listed on the last line of a company's income statement, which is why it's informally called the "bottom line."

Gross profit is a partial picture of a company's profitability, while net income is the complete picture. Gross profit does not take into account all of a company's expenses and income sources, but it does show how efficiently a company operates based on the direct costs involved in producing its products. Net income takes into account all business expenses and revenue, and gives an accurate measurement of whether a company is profiting or losing money.

To calculate the gross profit figure, subtract the cost of goods sold (COGS) from total sales revenue, as seen in this equation:

Gross profit = Revenue - COGS

In the equation, revenue represents the total amount of money earned from product sales and COGS represents the variable direct costs of producing products— costs such as raw materials, equipment, employee labor, and shipping. When calculating gross profit, some companies may substitute net sales in place of total revenue. Net sales is similar to total revenue, except it deducts the price of refunded or returned sales, allowances, and discounts.

To calculate the net income figure, subtract the total expenses from the total revenue, as seen in the following equation:

Net income = Total Revenue - Total Expenses

In this equation, revenue represents the total amount of money earned from product sales in addition to income from other places, including investments. Total expenses represents all expenses—cost of goods sold (COGS), operating expenses, income taxes, interest expenses on loans and debt, depreciation of fixed assets, and SG&A (selling, general, and administrative expenses).

There are different metrics you can use to track your company's financial health and compose your company's financial statements:

1. 1. Gross profit: Gross profit is the amount of income left over after subtracting the cost of goods sold (COGS) from the total sales revenue. This metric indicates whether a company’s production process needs to be more or less cost-effective in comparison to its revenue.
2. 2. Net income: Calculate the net income metric by subtracting total expenses from total revenue to see exactly how much a company profits (a new profit) or loses (a net loss). A company's net income over time is a great indicator of how well or poorly its management team runs the company.
3. 3. Operating profit: To calculate operating profit or earnings before interest and taxes (EBIT), subtract operating expenses—which include overhead costs like rent, marketing, insurance, corporate salaries, and equipment—from gross profit. Investors find EBIT useful in determining a company's financial performance because it doesn't factor in items that are out of the management team's control.
4. 4. Gross profit margin: A gross profit margin is the percentage of revenue generated that's greater than the COGS. To calculate gross profit margin, divide gross income by revenue and multiply the result by 100.
5. 5. Net profit margin: Net profit margin is the ratio of net profit to total revenue expressed as a percentage. To calculate net profit margin, divide your net income by total revenue and multiply the answer by 100.

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