Log in
Accounting

What is Net Profit?

Net profit is what remains after deducting ALL expenses from revenue - including operating costs, interest, and taxes. It's your 'bottom line'.

Example

Gross profit £60k - Operating expenses £30k - Tax £7.5k = Net profit £22.5k.

Key Dates

Final figure in your P&L statement

How Net Profit Works in Practice

Net profit is the final profit figure at the bottom of your Profit and Loss statement -- hence the term "bottom line." It represents what your company actually earned after every single cost has been deducted: cost of sales, operating expenses (rent, salaries, insurance, marketing, professional fees), interest on borrowings, and Corporation Tax. It is the most comprehensive measure of your company's profitability.

Net profit can be expressed before or after tax. "Net profit before tax" (also called pre-tax profit or PBT) is the figure used to calculate your Corporation Tax liability. "Net profit after tax" is what remains for the company after HMRC has taken its share. The after-tax figure is what gets added to retained profits on your balance sheet and is available for distribution as dividends.

For UK limited companies, the net profit margin (net profit as a percentage of revenue) tells you how much of every pound of revenue actually translates into profit. A 10% net margin means you keep 10p of every £1 of sales. Small UK companies across all sectors typically have net margins between 5% and 20%, but this varies enormously by industry and business model.

Net profit is different from cash flow, and this distinction trips up many directors. You can report a healthy net profit while having negative cash flow if customers owe you large amounts, you have invested in stock, or you have made capital expenditure. Conversely, you can have positive cash flow while making a net loss if you received large advance payments or sold assets. Both figures matter, but for different reasons.

Step by Step

Net profit is calculated step by step down the P&L statement. Start with revenue, deduct cost of sales to get gross profit. Then deduct all operating expenses (also called overheads or administrative expenses) to get operating profit. Add or subtract any non-operating items like interest income or interest expense. This gives you pre-tax profit. Finally, deduct Corporation Tax to arrive at net profit after tax.

The formula chain is: Revenue - Cost of Sales = Gross Profit - Operating Expenses = Operating Profit +/- Interest = Pre-tax Profit - Corporation Tax = Net Profit After Tax.

After calculating net profit, the company decides what to do with it. It can be retained in the business (added to retained profits on the balance sheet), distributed as dividends to shareholders, or a combination of both. The net profit figure from each year accumulates in retained profits, building the company's equity over time.

Practical Tips

  • Review your net profit margin quarterly, not just annually -- a quarterly P&L lets you spot problems months earlier
  • Always look at net profit alongside cash flow -- a profitable company can still run out of cash
  • Strip out one-off or exceptional items when assessing underlying performance, so you see the true recurring profitability
  • If net profit is consistently below 5%, review your pricing strategy and overheads -- thin margins leave no room for unexpected costs

Common Mistakes to Avoid

  • Confusing net profit with available cash -- they are fundamentally different due to accruals, prepayments, and capital expenditure
  • Paying dividends based on current year net profit without checking whether the company has sufficient accumulated retained profits
  • Not distinguishing between net profit before tax and after tax when discussing profitability
  • Ignoring one-off items that inflate or deflate net profit in a particular year, making it look unrepresentative

Frequently Asked Questions

What is a healthy net profit margin for a small UK company?

It depends on your industry. Service businesses often achieve 15-25% net margins. Retail businesses might see 3-10%. Technology companies can range from 10-30%. The key benchmark is your own industry -- compare against competitors and track your trend over time.

Is Corporation Tax calculated on net profit?

Corporation Tax is calculated on taxable profit, which starts with pre-tax net profit and makes adjustments for items HMRC treats differently (like depreciation, which is replaced by capital allowances). It is close to net profit before tax but not identical.

Can I take dividends if my company has net profit?

Dividends must come from accumulated retained profits, not just current year net profit. If your company had losses in previous years that have not been fully recovered, you may not have sufficient retained profits for dividends even if the current year is profitable.

What is the difference between net profit and EBITDA?

EBITDA stands for Earnings Before Interest, Tax, Depreciation, and Amortisation. It strips out financing decisions, tax, and non-cash charges to show operational performance. Net profit includes all of these. EBITDA is often used for business valuations; net profit is used for tax and dividend decisions.

My company has net profit but no cash. What is wrong?

This is common and usually means your cash is tied up in accounts receivable (unpaid invoices), inventory, or capital assets you have purchased. Net profit is an accounting measure based on accruals; cash flow is about actual money movements. Tighten your payment terms and chase outstanding invoices.

Source: HMRC Company Taxation Manual: https://www.gov.uk/hmrc-internal-manuals/company-taxation-manual

Related Terms

Gross Profit

Gross profit is your revenue minus the direct costs of producing your goods or services (cost of sales). It's calculated before operating expenses.

Profit

Profit is what's left after deducting all business expenses from your turnover. Corporation Tax is calculated on profit, not turnover.

Retained Profit

Retained profit is the money your company keeps after paying all expenses, taxes, and dividends. It's the company's accumulated savings.

Confused by accounting jargon?

AccountsOS explains everything in plain English. Ask any question about your books and get a clear, jargon-free answer.

Try Free for 14 Days
View full glossary