Money Matters

Gross profit and net profit: What’s the difference?

Learn all about gross profit and net profit, the differences between them and how to calculate them for your business.

Managing the numbers is an important task for a business owner

Understanding the difference between gross profit and net profit is crucial for running a successful business.

Whether you’re planning your budget, pricing your products, or tracking your financial performance, knowing how these two figures differ—and why that matters—can help you make smarter decisions.

This guide breaks down the key differences in simple terms so you can confidently read your profit and loss statement (also known as an income statement) and take actionable steps to grow your business.

Here’s what we cover:

What is gross profit?

Gross profit is all about the money your business makes after covering the direct costs of producing your goods or services.

These are typically costs such as materials and labour directly tied to production, also known as the Cost Of Goods Sold (COGS).

For example, let’s say you run a small bakery.

If you sell cakes for £100 and the ingredients plus baking costs come to £30, your gross profit for that cake is £70. It’s a straightforward look at profitability before considering any overheads or additional expenses.

Gross profit helps you understand how efficiently your business turns costs into revenue.

If it’s lower than expected, it could indicate that your production costs are too high or your pricing needs a rethink.

What is net profit?

Net profit, on the other hand, gives you the full picture.

It’s what remains after you’ve deducted all expenses—not just production costs but also things such as rent, utilities, marketing, taxes, and any other operational costs.

Returning to our bakery example, if your gross profit for a cake is £70 but you spend £50 on rent, electricity, and other expenses for the month, your net profit per cake is £20. It’s the number that ultimately tells you whether your business is thriving or struggling to stay afloat.

Net profit is also sometimes referred to as the “bottom line” because it appears at the very bottom of your profit and loss statement.

It’s the figure that investors, stakeholders, and lenders often look at to gauge the overall financial health of your business.

The key difference between gross profit and net profit

The main difference between gross profit and net profit lies in the types of expenses included:

  • Gross profit focuses on direct costs only
  • Net profit accounts for all costs associated with running your business.

Think of gross profit as the first checkpoint. It tells you whether you’re making enough on each sale to cover your production costs.

Net profit, however, reveals whether your business is truly profitable after factoring in all expenses.

For small businesses, this distinction is particularly important because your gross profit might look healthy, but if your net profit is consistently low or even negative, it can signal trouble.

Understanding the difference can help you spot issues early and take corrective action before they snowball.

Why understanding the difference matters

It’s easy to assume that high gross profit means your business is doing well.

But without keeping an eye on net profit, you might miss critical issues that could harm your business in the long run.

For instance, if you’re making a healthy gross profit but your net profit is consistently low, you may have a problem with high overheads or unexpected expenses eating into your earnings.

On the flip side, low gross profit could signal issues with production efficiency or pricing, even if your net profit seems stable for now.

By understanding both, you’ll know where to focus your attention.

Do you need to reduce production costs, renegotiate supplier contracts, or adjust your pricing strategy?

Or is it time to look at cutting unnecessary overheads or streamlining operations?

Comparing gross profit and net profit

Let’s imagine a small business that designs and sells custom T-shirts. Here’s how their profits might look:

  • Revenue per T-shirt sold: £25
  • Cost of materials and production per T-shirt: £10
  • Gross profit per T-shirt: £15 (£25 – £10)

Now, let’s add in monthly expenses:

  • Rent: £500
  • Marketing: £200
  • Utilities: £100
  • Miscellaneous costs: £50

If the business sells 100 T-shirts in a month, its gross profit is £1,500 (£15 x 100). But after subtracting all monthly expenses (£850), the net profit is £650.

This shows the importance of looking beyond gross profit.

While £1,500 might seem like a solid number, the net profit of £650 paints a clearer picture of what the business owner actually has left.

Common mistakes when interpreting profits

Many small business owners fall into the trap of focusing solely on gross profit. It’s an important figure, but it doesn’t tell the whole story.

For example:

  • Assuming high sales equal success: Even if you’re selling a lot, high production costs could mean your gross profit margin is razor-thin.
  • Overlooking hidden expenses: Things like taxes, loan repayments, or seasonal fluctuations can have a big impact on your net profit.
  • Failing to account for one-off costs: Unexpected expenses, like equipment repairs or legal fees, can skew your net profit in certain months.

By keeping an eye on both gross and net profit, as well as your gross profit margin and net profit margin, you’ll be better equipped to avoid these pitfalls.

Practical tips for improving your profits

1. Track your costs meticulously

Use accounting software to monitor both direct costs and overheads. It can give you real-time insights, helping you spot areas for improvement quickly.

2. Analyse your gross profit margin

Divide your gross profit by your total revenue to calculate your gross profit margin. A healthy margin depends on your industry, but knowing yours can help you benchmark and adjust your pricing or production costs accordingly.

3. Review your expenses regularly

Keep an eye on overhead costs. Are there any subscriptions you’re not using, or services you could renegotiate for a better rate?

4. Combine gross and net profit insights

Regularly reviewing both figures side by side can help you identify trends. For example, a rising gross profit paired with a declining net profit might indicate growing overhead costs.

5. Plan for taxes

Don’t forget to factor tax liabilities into your net profit calculations. It’s better to set aside money regularly than face an unexpected bill at year-end.

6. Increase efficiency in production

If your gross profit margin is low, consider ways to cut costs without sacrificing quality. For example, buying materials in bulk or improving production processes can help.

7. Adjust your pricing strategy

If costs are rising but your pricing remains static, your profits will take a hit. Don’t be afraid to review your pricing regularly and ensure it reflects the value you provide.

Final thoughts

Understanding the difference between gross profit and net profit is like knowing the difference between the weather forecast and what’s happening outside your window.

Gross profit gives you a snapshot of how well your business is performing in its core operations, while net profit reveals the full story, including any potential storms on the horizon.

By keeping track of both, you can make informed decisions to strengthen your business’s financial health.

Whether you’re improving efficiency, cutting unnecessary costs, or refining your pricing strategy, a clear view of these two metrics will guide you toward sustainable growth.

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