It’s not uncommon to hear the words “revenue” and “profit” used interchangeably, but they’re not the same thing. Whether you want to buy a hot stock, open your own business, or just sound like you know what you’re talking about at your next dinner party, now is the time to learn one from the other.
The Economy and Your Money: All You Need To Know
Find Out: Understanding the Differences Between Inflation, Deflation & Stagflation
Revenue is What You Make, Profit is What You Keep
Both revenue and profit deal with the money that a business earns. But companies can — and often do — earn revenue while still operating at a loss. That’s because revenue represents the amount of money that a company brings in from sales and other income streams like service fees, dividends, or rent.
Profit is what’s left over after the cost of doing business is deducted from the company’s revenue.
The Big Number is on Top, the Little Number is on the Bottom
In accounting, revenue is referred to as the top line. That’s because it appears at the physical top of income statements. Underneath that number is a whole bunch of other numbers — all with minus signs next to them — that nibble away at a company’s revenue. Things like:
Lease or rent payments
Maintenance and repairs
Once you get to the very end of the document after all those operating costs are subtracted from the top-line revenue, whatever is left over is the company’s profit. Located at the very bottom of the income statement, it’s also called “net income,” or simply, the company’s bottom line.
More Economy Explained: National Debt and Deficit — What Is It and How Does It Affect Me?
See: What To Expect From an Economic Boom
Success is Not Always Measured in Profits
Healthy businesses operate at a loss all the time, meaning they operate without earning a profit because their expenses are greater than their revenues. Amazon didn’t record its first profitable year until 2004 — but Jeff Bezos had been in business since 1996.
During the growth stage, businesses often reinvest every dollar — including profits — back into the company to fuel that growth. Airbnb isn’t profitable, neither are Casper, Lyft, Blue Apron, or Pinterest, and the list goes on.
None of these businesses are doing poorly — far from it. Their executives and investors have decided that sacrificing profit today for growth tomorrow is a tradeoff worth making.
How is Revenue Calculated?
Businesses use many different methods to calculate revenue. According to FinancialForce, the following are some of the most common formulas:
Accrual method: Prepayments are listed as prepaid assets but then become expenses upon delivery of the goods.
Appreciation method: This method is often used in real estate transactions.
Brokerage agreement: Use this method if you’re following IRS and SEC guidelines.
Completed-contract method: Neither revenue nor expenses are recorded until the contract closes.
Cost-recoverability method: With this method, profits aren’t recognized until a project’s expenses have been recouped.
Deposit method: This is the right method if payments are held as deposits that could be canceled or refunded.
Installment method: This method waits to calculate revenue until an installment payment has been made.
Percentage-of-completion method: This method, common with long-term engineering and constructions projects, calculates revenues and expenses as portions of work done on a specific percentage of the project.
Proportional performance method: This method modifies the percentage-of-completion method to calculate revenue by performance, not by the percentage of work done.
Sales-basis method: This method recognizes revenue at the time of sale.
A Glossary of Terms
In simplified terms, profit is what’s left over after all expenses are deducted from a business’s revenue, but it’s a bit more nuanced than that. Here are some terms you’ll need to know.
Gross Sales: Revenue
Gross profit: Revenue minus the cost of goods sold (COGS)
Operating profit: Gross profit minus all other operating expenses, like taxes
Net profit: Another word for the bottom line — it’s what’s left after all remaining expenses are deducted from the business’s operating profit
Operating revenue: Sales derived from the company’s primary business
Non-operating revenue: Secondary income, like from the one-time sale of an asset or license
More From GOBankingRates
Last updated: Oct. 21, 2021
This article originally appeared on GOBankingRates.com: Revenue vs. Profit: Do You Understand the Difference?