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Gross profit and EBITDA (earnings before interest, tax, depreciation, and amortization) both measure the profit, or earnings, of a business. However, they do so in different ways.
As a business owner, you may want to use both metrics to get a full picture of your company’s revenues and how efficiently it is operating so you can make the smartest choices, especially when considering small business financing.
Read on to learn the difference between gross profit and EBITDA, how each metric is calculated, and which one to use when.
Key Points
• EBITDA is earnings before interest, taxes, depreciation, and amortization.
• Gross profit is revenue minus cost of goods sold. Cost of goods sold includes materials, labor, equipment, and any other expenses involved in creating a product or service.
• Both EBITDA and gross profit measure the profitability of a company.
• If you want to compare your business to another company, looking at EBITDA may be better than examining gross profit. However, both numbers can be useful.
What Is Gross Profit?
Gross profit is the total income a business earns after deducting the cost of goods sold (COGS) from its total revenue. COGS includes any of the expenses that are directly involved in creating a product or service, such as materials, labor, and equipment.
Gross profit tells you how much profit a business receives from its direct labor and materials. The higher the gross profit, the more efficient the business is at producing its core products and/or services. Gross profit is often the first profit figure on a traditional income statement.
While gross profit accounts for costs directly involved with products or services, it does not include expenses that are not directly involved in production, such as salaries for administrative staff, rent for a corporate office, office computers, and marketing expenses.
How Is Gross Profit Calculated?
The formula to calculate gross profit is as follows:
Gross Profit = Revenue – COGS
Revenue is the total income derived from the sale of products or services. COGS refers to the direct costs of producing the goods sold by a company. When you subtract COGS from revenue, you end up with gross profit.
Gross Margin vs Gross Profit
Gross profit margin (or gross margin) and gross profit mean essentially the same thing – they both show the amount of revenue left after covering the COGS. The only difference is in how they are expressed: Gross profit is shown as a dollar amount, whereas gross margin is shown as a percentage.
Once you have your gross profit, you can express it as gross margin by dividing gross profit by your total revenue:
Gross Margin = Gross Profit / Revenue x 100
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What Is EBITDA?
EBITDA calculates earnings before interest, tax, depreciation, and amortization. It specifically shows a business’s operational profitability because it takes into consideration only those expenses necessary to run the business day-to-day.
If you’ve taken out one or more of the various types of small business loans, EBITDA will paint the picture of what your company’s financial performance is outside that debt. EBITDA also excludes expenses that are outside a business’s control, including taxes, depreciation (a decrease in the book value of assets over time), and amortization (allocating the cost of an intangible asset over a period of time).
By eliminating the effects of financing and accounting decisions, EBITDA can be useful for comparing profitability among companies and industries.
While EBITDA is often confused with cash flow, these are two different concepts. Cash flow generally refers to the money that flows through a business, both in and out.
Recommended: What Is Adjusted EBITDA?
How Is EBITDA Calculated?
There are two ways to calculate EBITDA.
Option 1:
Start with net income (the bottom line of the income statement), and then add back the entries for taxes, interest, depreciation, and amortization.
EBITDA = Net income + Taxes Owed + Interest + Depreciation + Amortization
Option 2:
Start with operating income (amount of revenue left after deducting the direct and indirect operating costs from sales revenue), then add depreciation and amortization.
EBITDA = Operating Income + Depreciation + Amortization
In some cases you may want to calculate EBITDA margin, which is expressed as a percentage. Here’s the formula.
EBITDA Margin = EBITDA / Revenue x 100
EBITDA vs Gross Profit Compared
EBITDA and gross profit have a few things in common, but there are also some key differences.
Similarities
While EBITDA is not the same as gross profit, both are financial measurements of how profitable a company is once certain costs and expenses are removed.
Investors can look at both of these numbers to understand whether a business would make a good investment or not. Company management can use these numbers to evaluate performance and plan for future profitability.
Recommended: EBITDA vs Revenue
Differences
EBITDA and gross profit measure profit in different ways. Gross profit is the profit a company makes after subtracting the costs associated with making its products or providing its services, while EBITDA shows earnings before interest from small business loans and other debts, taxes, depreciation, and amortization.
Gross profit is useful internally, as it can help a company understand how well it’s using its resources to generate profit from products or services. Outside investors and creditors may be more interested in EBITDA if they want to compare one business to another, or to its industry as a whole.
| Gross Profit | EBITDA | |
|---|---|---|
| Who uses it? | Business owners, analysts, and investors | Business owners, analysts, investors, and creditors |
| Is it part of the income statement? | Yes | No |
| How is it calculated? | Total revenue minus COGS | Operating income plus depreciation and amortization |
Recommended: How to Calculate EBITDA
Example of EBITDA vs Gross Profit/Margin Calculation
Here’s an example of how you would calculate EBITDA vs. gross profit and gross margin.
Let’s say you have an annual revenue of $1,000,000 at your shoe factory. The cost to make shoes – COGS – over a year is $25,000. Your operating income is $925,000. Additionally, you have these expenses:
• Interest on a loan: $1,000
• Taxes: $10,000
• Depreciation: $4,000
• Amortization: $5,000
To calculate your gross profit, you would use this formula:
Revenue ($1,000,000) – COGS ($25,000) = Gross Profit ($975,000)
Gross margin is shown as a ratio:
Gross Profit ($975,000) / Revenue (1,000,000) x 100 = Gross Margin (97.5%)
To calculate your EBITDA, you would use this formula:
Operating Income ($925,000) + Depreciation ($4,000) + Amortization ($5,000) + Tax ($10,000) + Interest ($1,000) = EBITDA ($945,000)
Pros and Cons of Using Gross Profit/Margin
Using gross profit to measure a company’s profitability has both pros and cons. Here’s how they stack up.
| Pros of Using Gross Profit/Margin | Cons of Using Gross Profit/Margin |
|---|---|
| Quick way to show a company’s efficiency | Doesn’t show a company’s profitability |
| Provides a benchmark for comparing a company’s performance year over year and to its competitors | Doesn’t factor in all costs |
| Can be used for any type of operating expense | Lenders may still require collateral |
| Highlights areas for improvement | Less valuable for comparing companies in different industries |
Gross profit assesses a company’s efficiency in terms of making use of its labor, raw materials, and other supplies. An increase or decrease in gross profit over a period of time can help business owners and managers determine the reason for the fluctuation and, if necessary, take corrective action.
However, gross profit should not be confused with overall profitability. That’s because this metric does not factor in the fixed cost of running a business, such as rent, advertising, insurance, office supplies, and salaries for employees not directly involved in production, and office supplies.
When to Use EBITDA vs Gross Profit
Given the differences between EBITDA and gross profit, it’s important to know when it makes the most sense to use each metric. In general, these guidelines may help when you’re assessing whether to use gross margin vs. EBITDA.
EBITDA can be used:
• To compare businesses at different debt levels or with different tax obligations
• To compare companies that have to spend a lot on fixed assets
• To assess a business’s ability to take on debt
• To value a company for acquisition or merging
Gross profit may be used:
• To assess company’s production efficiency
• To evaluate pricing strategy
• To compare manufacturing and retail businesses
The Takeaway
EBITDA isn’t the same as gross profit: They’re two different ways to measure a company’s profitability. Gross margin shows profits generated from the core business activity, while EBITDA shows a business’s earnings before interest, taxes, depreciation, and amortization.
Business owners can benefit by knowing both. Calculating your gross profit can help you see how efficiently your company is using its labor and materials. Knowing your EBITDA can show you how your business compares to other companies in your industry.
EBITDA may also come into play if you’re applying for a business loan. Lenders will often look at EBITDA (as well as annual revenue, net income, and credit score) to gauge the financial health of a business.
If you’re seeking financing for your business, SoFi is here to support you. On SoFi’s marketplace, you can shop and compare financing options for your business in minutes.
FAQ
Does EBITDA represent gross profit or net profit?
EBITDA isn’t gross profit or net profit – it’s earnings before interest, tax, depreciation, and amortization. However, it is closer to net profit. To calculate EBITDA, you take a company’s net profit (gross income minus expenses) and then add interest, taxes, depreciation, and amortization back.
How can you calculate gross profit from EBITDA?
Gross profit and EBITDA (earnings before interest, tax, depreciation, and amortization) use different formulas. To calculate gross profit, you subtract the cost of goods sold from total revenue. To calculate EBITDA, you start with net profit or income (the bottom line of the income statement), and then add back the entries for taxes, interest, depreciation, and amortization.
Are EBITDA and gross margin the same thing?
No. Let’s take a closer look at gross margin vs. EBITDA. EBITDA (earnings before interest, tax, depreciation, and amortization) shows a business’s earnings before interest, taxes, depreciation, and amortization. Gross margin, on the other hand, is the difference between revenue and cost of goods sold, divided by revenue, and it’s expressed as a percentage.
What is a good EBITDA margin by industry?
On average, healthy EBITDA margins range between 15% and 25%, but they can vary enormously across different industries, so it can be helpful to make sure you know what’s considered typical in yours specifically. For example, the average EBITDA for asset management is 36.7%, while grocery stores average 5.1%.
Can a company have a high gross profit but a low EBITDA?
Yes, gross profit isn’t EBITDA, and in certain circumstances a company may have a high gross profit but low EBITDA. This can be the case if a company’s operational expenses are high or if its operational management isn’t efficient.
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