First things first
There are many terms used within the financial industry over the years when discussing profit, loss and budgeting. Using a budget for management decisions like we do now is a fairly recent use, starting around the 1970s, where non-financial managers needed to interpret budgets in detail.
What is revenue?
Revenue is all the income that is generated from your business activities. Sometimes it can be referred to as income, inflows or sales in different contexts. For the sake of this article we will use revenue as money coming in without trying to separate how or why it is coming into your business.
Isn’t revenue my profit?
I witnessed a business owner taking large amounts of cash out of his registers each night of successful trading to go out on the town with his friends. He was spending thousands each week doing this before he went broke three months later.
He thought that all that money in the till was his money to spend. he didn’t realise that it was not all his to spend. Your money is the ‘profit’ left over after all expenses have been paid.
So what is profit?
There are some different types of profit so to make it a little easier I have explained the differences here for you.
- Gross Profit: This is the amount left over from your revenue when you take away all the freight costs and your original purchase prices for each item you sold. In general terms your gross profit is the amount left when you subtract your costs to buy the goods sold.
- Net profit: This is the amount of revenue left after removing all your business expenses from your gross profit amount. A very important number and shows the true potential of any business performance. Sometimes known as the bottom line.
- Net profit after tax: Now you will tax away any tax expenses from your net profit to arrive at your real profit amount.
So to find out what your profit is from your revenue collected you simply do this calculation.
Total Revenue – all your expenses = profit
Eg $100 revenue – $85 expenses = $15 profit
A word of caution
Working out profits based on financial figures can lead to an issue with poor cashflow management forcing your business into bankruptcy.
What happens is that it looks like you have $15 of profit to spend, but often that $15 is not cash and could be tied up in assets or other forms of value not easily converted to cash.
When you spend that $15 you suddenly realise that next week your bank account has no cash and you need to convert assets at a loss to pay the bills.
Always check that you have enough actual cash in reserves before you start spending profits.