Economic Profit vs. Accounting Profit: An Overview
Profit is one of the most closely observe financial variables in analyzing the financial health of a firm. It is the financial gain or income created from any company or investment activity in excess of any expenses, taxes, and any other charges. Put simply, profits are revenue minus costs. Economic profits and accounting profits are two forms of earnings. Economic profit refers to total revenue from sales less opportunity costs from all inputs. Accounting profit, on the other hand, indicates the overall earnings of a corporation, which includes explicit costs. In this blog, we will explain the differences between economic profit vs. accounting profit.
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Economic profit is a sort of profit that is obtain through producing goods and services while factoring in the alternative uses of a company’s resources. It deducts explicit expenditures from revenue and incorporates the opportunity costs spent over that period of time. Implicit costs, which are often the expenses of a company’s resources, are also part of the equation.
Accounting profit is also known as a company’s earn profit, net income, or bottom line. Unlike economic profit, accounting profit is disclose on a company’s income statement. It’s the profit gain after different costs and expenses are removed from total revenue or total sales, as stated by generally accepted accounting standards (GAAP). Those charges include:
- Labor expenditures, such as wages and salary
- Any inventory needed for manufacturing
- Raw materials
- Transportation and storage costs
- Production expenses and overhead
- Sales and marketing costs
Economic profit is more of a theoretical estimate base on alternative activities that may have been made. Accounting profit, on the other hand, calculates what actually transpired and the quantifiable results for the time.
Here’s another way to think about it. Accounting profit is the profit after eliminating explicit expenditures (such as salary and rentals) (such as wages and rents). Economic profit involves explicit as well as implicit expenses (what the firm gives up to follow a given course) (what the company gives up to pursue a certain path). As such, accounting profit indicates a company’s genuine profitability whereas economic profit is indicative of its efficiency.
What Is the Difference Between Zero Accounting Profit and Zero Economic Profit?
Zero economic profit is also known as normal profit. Like economic profit, this value also accounts for explicit and hidden expenses. When a corporation generates a typical profit, its costs are equal to its income, resulting in no economic profit.
Competitive enterprises whose complete costs are meet by their total income end up making zero economic profit. Zero accounting profit, though, suggests that a corporation is functioning at a loss. This suggests that its costs are larger than its revenue.
How Do You Calculate Economic Profit?
In order to determine economic profit, put together both explicit and hidden expenses. Then deduct that figure from the total amount of income received. Explicit costs include labor, rent, utilities, and the cost of raw materials, whereas implicit costs include any potential costs, such as the loss of interest on an investment.
How Do You Calculate Accounting Profit?
You may determine accounting profit by deducting explicit expenditures or expenses from the entire amount of revenue generated. Explicit expenses include things like raw supplies, salaries, leasing fees, and utilities.