Hi, everyone. This is Nishi Patel from N-Accounting. I hope you having a great day. And in today’s video, I want to talk to you about why does profit matter and what are the different types? So the video I did before this one was called Why Does Gross Profit Matter? So this is a follow-up video to that because there’s other types of profit. I want to help you understand how they all work and how they relate to each other.
So the last video I explained that gross profit is probably the best indicator that you’re charging the right amount, that you’ll get from a profit and loss report. So that’s why it’s important to get that, be aware of what it is. But today, what I want to talk to you about is what we call net profit. So before, we spoke about how you have a sales figure, you take away cost of sales, so any costs that directly relate to those sales, you end up with a gross profit figure. Then today, what I want to talk to you about is how the gross profit figure turns into a net profit figure.
So in the last video, I also mentioned we’ve got overheads. Overheads are costs in your business that aren’t directly related to sale. I use the example of if you didn’t sell anything tomorrow, would you still have to pay the rent on your premises? Would you still have to pay for your accountancy fees? Would you still have to pay for your phone line rental? Yes, you would. So those are what we’d consider overheads, costs that are always going to be fixed. There are some overheads where they may seem a little bit more like cost of sales. We call them [inaudible 00:01:38] variable overheads, but for the purposes of this video, I won’t go into those. So we’ll talk about fixed overheads.
So what happens is when you’ve got your gross profit, you take away your overheads, you are left with something called your net profit. Your net profit is probably the best indicator of how much money your business is making. In my business and with our clients, I actually call this the annual salary equivalent because when we calculate net profit for the purposes of their own reports, we don’t include things like director salaries at that point. Although the pure sense of the term net profit would include a director salary. So this net profit or annual salary equivalent is the best indicator of how much money you’re actually making as a business.
And the reason that’s important is you might be working 50, 60 hours a week, right? You could be throwing everything you’ve got into this. But you owe it to yourself to ask the question, are you doing it right? And would you be better off just shutting everything down and going to Tesco’s and stacking shelves, or getting a job in an equivalent field where you get more money. And to really ask yourself, answer this question, you have to understand how much money you’re making.
Because if you’re making less than zero pounds an hour because you’re actually investing money into your business, and you’re not seeing any growth or any way forward, then yeah, the answer could be you have to give up your business. But before you do that, you should always look at fixing things first. But if it’s a case of you’re making money, it’s an amount of money you think is okay, you’ve still got to ask yourself, well, for the amount of work and effort I’m putting into it, how does it stack up against me getting a job or other things I could be doing?
So that’s why the net profit or the annual salary equivalent, as I call it, is really, really valuable. It helps if you understand if you’re making the right decisions, if your business is delivering what it should be, and whether or not you need to take action to turn things around. If you want to find out a bit more about this or anything else I’ve spoken to in these videos, then please get in touch. Book in a strategy session. I’d love to hear from you. And keep an eye out for the next video.