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What is operating profit?

Operating profit definition

What is operating profit? Operating profit is an accounting term that refers to a company’s income from revenue after the variable expenses of running the business are subtracted, and before fixed costs like interest and tax are deducted.

When investing in individual company stocks it is important to read the financial reports the companies issue each quarter (or other interim period) to understand their performance and outlook for the future. One of the metrics used in the balance sheet to measure performance is operating profit.

For that reason, operating profit is sometimes also known as earnings before interest and tax (EBIT), but only if the company does not make revenue outside of its core business, such as capital gains from investment, foreign exchange income or revenue from a stake in another company or joint venture.

Key takeaways:

  • Operating profit, also known as operating income or operating earnings, is a financial metric that measures a company's profitability from its core operations.

  • Operating profit focuses solely on the profitability of a company's primary business activities, excluding income or expenses from non-operating sources, such as interest income, interest expense, and taxes.

  • Operating profit is a crucial component of the income statement or profit and loss statement.

  • Operating profit allows investors, analysts, and stakeholders to evaluate a company's ability to generate profits from its primary activities.

Where have you heard about operating profit?

Even if you have yet to read through a company report directly, you have probably come across the term operating profit in news coverage of company results during quarterly earnings season, or in key statistics tables summarising company data.

What do you need to know about operating profit?

As a measure of a company’s financial performance, what does operating profit mean? Calculating how much profit a company has made from its day-to-day operations gives investors a metric to monitor how it performs over time and compare it with its competitors in the same sector when deciding whether to invest in the stock.

If you learn how to calculate operating profit you will have a better understanding of whether the company is profitable from its core business or if there are any concerns about its ability to cover expenses. You can use operating profit as a screener when identifying stocks warranting further research.

The operating profit figure is typically shown as a subtotal in the income statement below revenue and costs and above other expenses including interest, tax, amortisation and exceptional items. The operating profit calculation formula is as follows:

Operating profit definition

The expenses used in the calculation include rent, utilities, the cost of raw materials, employee salaries/wages and benefits, advertising, office supplies and insurance. Debt, the sale of assets, indirect revenues and other items that are not directly involved in a company’s ongoing operations are not included in the calculation.

Operating profit differs from gross profit and net profit, because gross profit is based only on the revenue and cost of goods and does not deduct other expenses, while net profit is the final income figure after all expenses are accounted for.

As it is focused on income from sales and the basic costs of running the business that are under the company’s control – unlike tax, for example – operating profit highlights the effectiveness of a management team’s pricing strategy and whether it is keeping costs under control. Charting operating profit over time shows management’s responsiveness to changes in the market environment and broader economic conditions.

While operating profit is expressed as an outright figure, operating profit margin is calculated as a percentage of total revenue.

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