Every business owner must understand the difference between net income vs. net revenue, as these metrics shine a light on their business’s financial health and performance. Knowing the financial health of your business is important to plan for the future and understand any opportunities you can take advantage of. Plus, it’s often what lenders or investors look at when assessing the health of a business.
When analyzing a company’s financial performance, two of the most important metrics to look at are net earnings and net income. While these terms are often used interchangeably, there are some key differences between net earnings and net income that investors should understand.
In this article, we’ll explain in simple terms what net earnings and net income are, how they are calculated, and the key differences between the two metrics.
What is Net Income?
Net income also known as net profit or the bottom line refers to a company’s total earnings after subtracting all expenses, interest, taxes, and other costs incurred during a specific period of time. To calculate net income, you take total revenues and subtract total expenses.
Here is the formula for calculating net income
Net Income = Total Revenues – Total Expenses
On the income statement, net income is typically the last line item after subtracting all costs, expenses, depreciation, interest, and taxes from total revenues. Net income shows the actual profitability of a company during a specific reporting period.
Some examples of common expenses subtracted from revenues to calculate net income include
- Cost of goods sold
- Operating expenses like salaries, utilities, rent
- Selling, general and administrative (SG&A) expenses
- Depreciation and amortization
- Interest expense
- Taxes
Looking at net income is useful for investors to gauge the overall profitability and financial health of a company over time. Comparing net income year-over-year shows whether profitability is improving or declining.
What are Net Earnings?
Net earnings refer to a company’s bottom line net income or profit after subtracting all expenses, interest, taxes, and preferred stock dividends. To calculate net earnings, you take net income and subtract preferred stock dividends.
Here is the formula:
Net Earnings = Net Income – Preferred Stock Dividends
While net income includes all profit left after expenses, net earnings specifically refers to profit available to common shareholders after making dividend payments to preferred shareholders.
Preferred stock dividends must be paid before common shareholders receive dividends, so subtracting preferred dividends provides a more accurate look at profits available to common shareholders.
Key Differences Between Net Earnings and Net Income
While net earnings and net income refer to the bottom line profit of a company, there are some key differences between the two metrics:
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Net income includes all profit after subtracting expenses, interest, taxes and is available to both common and preferred shareholders.
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Net earnings refers specifically to profit available to common shareholders after subtracting preferred stock dividends.
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Net income appears on the income statement. Net earnings appears on the income statement and balance sheet.
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Net income is used to calculate earnings per share (EPS). Net earnings is used to calculate EPS available to common shareholders.
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Net income is arguably a more comprehensive look at overall profitability because it includes profit available to preferred and common shareholders.
Looking at both net income and net earnings provides a more complete picture of a company’s profitability and how much is available to various shareholders.
Net Earnings vs. Net Income Example
Let’s look at a simple example to illustrate the difference between net earnings and net income:
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Company ABC has $1 million in net income for the year.
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The company also paid $100,000 in preferred stock dividends.
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To calculate net earnings, we take net income of $1 million and subtract the $100,000 in preferred dividends.
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Therefore, Company ABC’s net earnings for the year is $900,000.
While net income was $1 million, net earnings available to common shareholders is lower at $900,000 after accounting for dividends paid to preferred shareholders first.
This example demonstrates why net earnings is a more precise look at profits available to common shareholders, whereas net income includes all profit after expenses.
Net Earnings vs Net Income on Financial Statements
Both net earnings and net income appear on important financial statements, but in different places:
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Net income appears on the income statement. It may also be called net profit or net earnings on the income statement.
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Net earnings appears on both the income statement and balance sheet. On the balance sheet, net earnings affects the retained earnings account.
Retained earnings are cumulative net earnings that are retained and reinvested into the company rather than paid out as dividends. Because dividends reduce the amount of net earnings retained, net earnings directly impacts retained earnings.
Looking at both the income statement and balance sheet together provides a clear picture of the differences between net earnings and net income and their impact on financial statements.
Uses of Net Earnings vs. Net Income
Both net earnings and net income are useful metrics for analyzing a company’s profitability and financial performance:
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Net income shows the total bottom line profitability and is used to calculate important ratios like profit margin, return on assets, and return on equity. Net income is also used in valuation metrics like the price-to-earnings ratio.
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Net earnings is useful for analyzing earnings available to common shareholders in particular. Net earnings is used to calculate earnings per share and dividend payout ratio for common shareholders. Comparing net earnings year-over-year shows profits trends for common shareholders.
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On financial statements, net income shows total profitability, while net earnings reflects profitability available for reinvestment or dividends to common shareholders.
Looking at both net earnings and net income provides a more complete picture of profitability and returns for different types of shareholders.
Net Earnings vs. Net Income: Key Takeaways
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Net earnings and net income both refer to a company’s bottom line profit but have some key differences.
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Net income includes all profit after expenses and taxes. Net earnings refers to profits available to common shareholders after paying preferred dividends.
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Net earnings is calculated by taking net income and subtracting preferred dividends.
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While net income appears on the income statement, net earnings appears on both the income statement and balance sheet.
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Net income measures total profitability. Net earnings focuses specifically on common shareholders’ profits.
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Analyzing both net earnings and net income provides a more complete view of a company’s profitability and financial health.
What Is Net Revenue?
The top line of every business’s income statement is its gross revenue, or how much money the company made before anything is taken out. Net revenue is how much of the gross revenue is left over after deducting costs and losses, and it’s used to pay for business operations or the cost of production.
To calculate your net revenue, subtract any sales discounts, allowances, returns, and commissions from your gross revenue.
Let’s say that you own a shoe store and you sold $100,000 worth of shoes — but you had to reduce prices by 30% to get customers to buy them. You’d have a net revenue of $70,000.
The difference between your gross revenue and your net revenue indicates how well your marketing and sales methods are working. In this case, the large discount might indicate that you initially priced the products too high.
What Is Net Income?
Net income is the bottom line on a business’s income statement. It is what is left of your revenue after you’ve covered your expenses.
To figure out your net income, subtract the cost of goods sold, operating expenses, interest and depreciation charges, taxes, and any miscellaneous expenses from your net revenue.
Small business owners can look at their net revenue vs. net income to see if their business is providing a good return on their money as well as paying them a decent salary. Let’s go back to the hypothetical shoe store. If your net revenue was $70,000 and you spent $25,000 running your business, your net income would be $45,000. And if you invested $150,000 in the store, your return on investment — your net profit divided by the amount of your investment — would be around 30%.
Revenue vs. Gross Income/Profit/Earnings vs. Net Income/Profit/Earnings (Bottom Line) in One Minute
What is the difference between net income and net profit?
Net profit is a third way people refer to the bottom line. Even though net earnings and net income mean the same thing, earnings and income refer to distinct ideas. Earnings is the term businesses use when evaluating shares’ profitability or comparing the profitability of firms in the same industry.
What is the difference between income and net income?
All the terms denote measures of a company’s profitability. Although they are defined differently, they are frequently confused with one another. Income (net income) is the amount of money a company retains after subtracting all expenses associated with operations. Therefore, net income is known as the bottom line of a company’s income statement.
What is the difference between net income and revenue?
Both net income and earnings are often referred to as a company’s bottom line because it’s the profit left over after every cost has been deducted and as a result, sits at the bottom of the income statement. Conversely, revenue sits at the top of the income statement and shouldn’t be confused with earnings or net income.
What does net income mean in business?
Net income, also known as the bottom line, indicates a business’s profitability. It shows how much profit is left from revenue after accounting for expenses. Net income is profit that can be distributed to business owners or shareholders or invested in business growth.
