Level 6 · Financial Analysis
Profit
There are three profits in every P&L, and beginners read the wrong one.
In this lesson
What you'll be able to do
- Distinguish gross, operating and net profit
- Know which profit reflects the core business
- Spot one-off items inflating profit
- Read the P&L top to bottom
Think about it
A company reports its best-ever net profit, from selling a piece of land. Should you be impressed?
Story
Let's picture it
A bookstore earns ₹10 lakh in sales, pays ₹6 lakh for books, ₹2 lakh for rent and staff, and ₹50,000 in loan interest. It also sold an old delivery van this year for a ₹3 lakh gain. Its net profit looks spectacular, but the van will not be sold again next year. The bookstore's real, repeatable profit is ₹1.5 lakh.
Visual
The P&L waterfall
- 1
Revenue
Total sales
- 2
− Cost of goods sold = Gross profit
What's left after making the product
- 3
− Operating expenses = Operating profit (EBIT)
The core business result
- 4
− Interest = Profit before tax
After paying lenders
- 5
− Tax = Net profit (PAT)
What belongs to shareholders
Plain English
The simple explanation
Gross profit shows whether the product itself makes money. Operating profit shows whether the business makes money. Net profit shows what is left for shareholders after lenders and the tax department.
For judging the underlying business, operating profit is usually the most honest number. Net profit can be swung by one-off gains, tax adjustments and non-operating income.
Always check the 'exceptional items' and 'other income' lines. Profit boosted by selling an asset or by a one-time settlement is not profit you can expect again.
Real world
Reliance Industries
Reliance reports profit across very different segments, refining, retail and digital services. Reading only consolidated net profit hides which engine actually drove the year; the segment profit table reveals it.
Watch out
Common mistakes
- Reading only net profit.
- Ignoring exceptional items and other income.
- Comparing net profit across companies with very different debt levels.
Did you know?
'Bottom line' is literal, net profit is the last line of the profit and loss statement.
Your turn
Mini challenge
Take one company's P&L and calculate all three profit levels. Then check how much of net profit came from 'other income'.
Quick quiz
1 / 5
Wrap up
Summary
Read all three profit levels. Operating profit tells you about the business; net profit tells you what shareholders keep, after checking for one-off items.
- Gross, operating and net profit answer different questions
- Operating profit is the cleanest business signal
- Strip out one-offs before judging
- Interest and tax sit below operating profit
Revise