What is operating profit?
Operating profit is the profit a business makes from its normal trading activities after deducting direct costs and overheads, but before interest and tax.
What operating profit means
Operating profit shows how well the business itself performs, separate from how it is financed and taxed. It starts with revenue, takes off cost of sales to reach gross profit, then deducts overheads such as wages, rent, marketing and depreciation.
Operating profit = gross profit − operating expenses
It excludes interest on loans, investment income and tax, which is why it is often used to compare businesses with different funding arrangements.
Example
A small manufacturing company's year:
| Amount | |
|---|---|
| Revenue | £850,000 |
| Cost of sales | (£510,000) |
| Gross profit | £340,000 |
| Wages (non-production) | (£140,000) |
| Rent, rates and utilities | (£60,000) |
| Depreciation | (£25,000) |
| Other overheads | (£35,000) |
| Operating profit | £80,000 |
Operating margin is 9.4%. If the company has £6,000 of loan interest, its profit before tax is £74,000, on which Corporation Tax is then calculated.
Why it matters for your business
Operating profit tells you whether the core business makes money. A business that only shows a profit because of a one-off asset sale or investment income has a problem underneath. Lenders look closely at it to judge whether interest can be covered, and buyers often value businesses on a multiple of operating profit or the closely related EBITDA.
Operating profit vs EBIT and EBITDA
EBIT (earnings before interest and tax) is often the same figure, but can also include non-operating items such as investment income or a gain on selling an asset. EBITDA goes further and adds back depreciation and amortisation. Operating profit is the cleaner measure of the trading business itself.
Improving operating profit
There are only two levers: increase gross profit, through better pricing or lower direct costs, or reduce operating expenses. Monthly management accounts that show operating profit by month and against budget make it clear which lever needs pulling.
Operating profit and Corporation Tax
Corporation Tax is not charged on operating profit directly. It starts from profit before tax, which is operating profit less interest, and then makes tax adjustments: depreciation is added back, capital allowances are deducted, and costs such as client entertaining are disallowed. So two businesses with the same operating profit can pay quite different amounts of tax depending on their borrowing and recent investment in equipment.
Common questions
No. Net profit is what remains after interest and tax have also been deducted from operating profit. A company with large loans can have healthy operating profit but much lower net profit because of interest costs.
Yes. Depreciation and amortisation are operating expenses, so they are deducted before you arrive at operating profit. EBITDA is the measure that adds them back, which is why it is often higher and why buyers and lenders sometimes prefer it for comparing businesses.