Gross profit vs. net income

Why gross profit and net income matter

Two numbers show up in almost every financial conversation: gross profit and net income. Gross profit tells you how efficiently a company produces and sells its goods. Net income tells you whether the company is actually making money after all costs are accounted for.

Both figures appear on the income statement, but they measure different things. Confusing them leads to poor decisions, whether you're setting prices, applying for a loan, or evaluating an investment.

What is gross profit?

Gross profit, sometimes called gross income, is the revenue a company retains after subtracting the direct costs of producing or delivering its goods and services.

It reflects the profitability of core operations without factoring in other operating expenses such as overhead, administrative fees, or taxes.

Gross Profit = Revenue - Cost of Goods Sold (COGS)

What gross profit tells you

Gross profit shows how much money is available to cover operating expenses and fund activities like marketing, research, or expansion. A high gross profit relative to revenue signals that a company produces efficiently. A shrinking gross profit margin is often the first sign that production costs are rising faster than prices.

Gross profit is also the starting point for calculating net income, another important financial metric every business should track.

What is net income?

Net income, also called net profit, net earnings, or the bottom line, is the total profit remaining after every expense has been deducted from revenue. It's the number a company reports when announcing annual earnings, and it's typically the first figure an investor examines.

Net Income = Revenue - Total Expenses

When expenses are itemized, the formula expands to:

Net Income = Gross Profit - Operating Expenses - Interest Expenses - Taxes - Other Business Expenses

Positive net income means the company is profitable. Negative net income, called a net loss, means expenses exceed revenue.

What net income includes

Net income accounts for all costs of running the business, not just production. Common deductions include:

• Taxes: Federal, provincial, and local tax obligations
• Selling, general, and administrative (SG&A) expenses: Salaries, marketing, and office costs
• Interest on debt: The cost of borrowing, separate from principal repayments
• Operating costs: Rent, utilities, and other overhead
• Depreciation: The declining value of assets over time

Revenue and COGS: the building blocks

To use gross profit and net income effectively, you need a clear picture of the two inputs that drive them.

Revenue is the total money earned from sales over a given period, including products, services, and digital goods. It's also known as net sales. Revenue reflects discounts and markdowns but does not net out taxes collected on behalf of the government.

A simple example: a customer buys five apples at $1 each. After tax, the total is $5.33. The business records $5.33 as revenue.

The Cost of Goods Sold (COGS) covers the direct expenses tied to producing or acquiring the goods sold. COGS typically includes:

• Raw materials: The inputs that go into the product
• Manufacturing labour: Wages for workers who make the product
• Equipment costs: Machinery used in production
• Shipping and handling: Costs to deliver the product
• Manufacturer fees: Any additional charges from suppliers

COGS does not include fixed expenses like rent, insurance, or utilities, since those costs don't change with production volume. It also excludes the overhead costs of running the seller's business. Those deductions happen later, when calculating net income.

Because COGS is largely composed of variable costs that shift with production levels, tracking it closely is essential to understanding margin performance.

Gross profit vs. net income: key differences

Both metrics measure profitability, but at different stages of the income statement.

Gross profit is always higher than net income, because net income subtracts additional costs that gross profit ignores.

How to use each metric in your business

Breaking income into stages gives you more precision than a single profit figure ever could.

Use gross profit to:

• Assess production efficiency and supplier costs
• Compare the cost of producing different products
• Decide whether to change manufacturers, adjust pricing, or redesign a product

Use net income to:

• File income taxes (governments assess tax on net income, not gross profit)
• Apply for loans or attract investors, who evaluate profitability based on the bottom line
• Make compensation decisions, such as whether the business can support wage increases
• Determine whether to continue or discontinue a product line

Tracking both metrics on a financial dashboard gives you a complete view of where money is made and where it's lost. Klipfolio connects to your accounting data so you can monitor gross profit, net income, and related metrics in real time, without pulling numbers manually from spreadsheets.

Gross profit vs. net income FAQs

Which is higher: gross profit or net income?

Gross profit is always higher. It only subtracts the cost of goods sold. Net income subtracts all remaining expenses, including administrative costs, overhead, interest, and taxes, so the final figure is lower.

Is net income before or after taxes?

Net income is calculated after taxes. Gross profit and operating profit are both pre-tax figures.

Is 20% net profit margin considered good?

A 20% net profit margin is strong. For context, the average net margin for general retail sits around 4.38%, so 20% significantly outperforms that benchmark. What counts as "good" varies by industry, so compare your margin against sector averages for the most accurate read.