Accounting Profit

What is accounting profit?

Accounting profit, sometimes referred to as bookkeeping profit, is the profit of a business calculated according to an accounting framework, such as the Generally Accepted Accounting Principles (GAAP). The accounting profit is an organization’s total net income earned after deducting the explicit costs of running the business from the revenue. 

These calculations are usually limited to a particular accounting period, such as a quarter or a year. Many companies lean on accounting software for their accounting needs and calculations.

Benefits of accounting profit

Understanding an organization’s accounting profit has benefits. Calculating and utilizing these numbers regularly can:

• Shed insight into the financial position of a company. The overall financial performance can be viewed at a high level when reviewing the accounting profit. Businesses need to ensure they are profitable after covering their expenses while tracking their budget. 
• Reveal key information to investors. Many investors look at accounting profit as part of mergers and acquisitions because it provides a holistic view of revenues and expenses. Accounting profit paints a picture of a business that displays the health of an enterprise. For investors comparing two companies, accounting profit can be valuable to ascertain. 
• Inform business decisions. Understanding an organization’s accounting profit can drive important decisions. These include decisions about when to cut back on labor expenses or increase the price of goods and services.

Basic elements of accounting profit

Businesses need to have two variables on hand to accurately calculate the accounting profit: 

• Total revenue amounts: Refers to all income that a business generates, or in other words, the sales the business makes. Companies should track and maintain records for all recorded revenues. 
• Explicit costs of running the business: Explicit costs include the costs required to run the business. Examples include material costs, sales and marketing efforts, production, and payroll software that runs employee wages.

How to calculate accounting profit

Calculating accounting profit is simple as long as a business maintains accurate accounting and financial records. The formula for calculating accounting profit is:

For example, Company X earned $500,000 in profit during the accounting period. Including wages, administrative work, marketing campaigns, and inventory, Company X spent $300,000 in explicit costs. Company X’s accounting profit is $200,000.

$200,000 = $500,000 - $300,000

Accounting profit vs. economic profit

The calculations for accounting profit and economic profit seem similar, but they are slightly different. Businesses calculate accounting profit by subtracting explicit costs from the total revenue.

Economic profit is calculated by adding explicit and implicit costs (or opportunity costs) and subtracting the total expenses from the total income. Economic profits take implicit costs into account, which are the opportunity costs for various actions taken by a business.