The terms revenue and profit are often used interchangeably by people. Of course, not all of us are accountants or financial gurus. However, if you are out there trying to make money with a side hustle or small business, it is quite important to understand revenue vs profit and how that affects your cash-flow.
On the other hand, those who are working a 9-5 and earning a paycheck may think it doesn’t really matter what you call it. In this case, the common terminology most of us use is simply how much you make a week/month. It’s just your weekly or monthly income.
But what if we told you that understanding revenue vs profit could also apply to you as a normal working individual/employee? How can it be applied to your personal finances?
Before we jump into that, let’s look at how critical it is to understand the difference between revenues and profit for a business or entrepreneurial enterprise. This will give us the foundational understanding necessary to see how revenue vs profit can apply to our own personal finances.
Here is revenue vs profit: what is the difference, and why it matters to you?
Revenue vs Profit Explained
Before we go any further, let us look at the simple definition of revenue and profit.
The common sense understanding for non-financial people is that profit refers to the sales/revenue minus the cost of goods/services sold. This is true in a sense. However, for the ongoing existence of the business you must factor in many other costs before recognizing the real profit. In other words, net profit.
Any business owner knows that there are many more expenses above and beyond the cost of goods sold. It is critical to factor in all those operating expenses for the business to survive. These factors make determining profit much harder than it seems on the surface and is at the core of the difference between revenue and profit.
Keeping operating costs in mind, here are definitions for revenue and expenses.
Revenue – Revenue refers to the total sales or the total revenue from selling goods or services. It is very straightforward.
Expenses – Expenses include all expenses needed to run a business. These expenses include the cost of goods sold, operating costs, taxes, and royalties, etc.
Essentially, you must look at ALL the expenses incurred while running your business when determining profit. For those that are curious, a definition of each of the above listed expense types is below.
- Cost of Goods Sold – This includes all costs to manufacture a product or provide a service. Often the largest expense for businesses, the revenue minus the cost of goods sold is known as the gross profit in business.
- Operating Costs – These expenses consist of salaries, rental space, utilities, insurance, and maintenance, to name a few. Many businesses will take the gross profit (from above) minus the operating costs to determine their Operating Profit.
- Taxes – Businesses must also take into account taxes when determining their profit. Unfortunately, many small businesses or contract workers struggle with the added burden of the many taxes they have to pay. For instance, contract workers doing gig work can be surprised during tax season when they are hit with the entirety of their taxes owed.
- Royalties/Franchise Fees – Some businesses have to pay royalties or franchise fees for the use of a trademark or business model from the parent company. Fast food restaurants are good examples of franchise businesses.
As you can see, it is essential to capture ALL of the costs associated with making a product or delivering a service in order to determine the actual or net profit. All of the costs above, if applicable, must be factored into the final cost of goods sold, either directly or indirectly.
With this information, we can now define profit, more commonly known in the business as net profit.
Profit (or Net Income) – Profit is the revenue minus all expenses associated with running the business.
Regardless, a business may have decent revenue, but you are not making any profit unless the revenue/sales exceed all the costs associated with making the product and running the business. In other words, revenue minus all the expenses equal profit.
So, when a business says that they have to make money to stay in business, what they really mean is the business must be profitable to stay afloat. In other words, they have to make a profit. Just having a good revenue stream doesn’t necessarily keep the business afloat unless there is a profit.
Breaking even means that the owners are not able to make an income from the business, nor can they reinvest money back into the business. A business might be able to break even for a while, but eventually, they need to make a profit to stick around.
Most business successes are measured based on how much profit they ultimately make. The exception is government agencies and non-profit entities; these organizations don’t have to make a profit but still must stay within the revenue available.
Related: 5 Ways To Reduce Financial Stress
Revenue vs Profit in Personal Finance: What Can Be Learned From the Business Model?
Now that you understand revenue vs profit in the business sense, let’s apply revenue and profit to our personal finances. Even though it is not quite the same, it has the same concept.
When it comes to a normal working individual, revenue is your income. These include total wages, salaries, and revenue. Basically, how much money you make every month.
When it comes to expenses, we emphasize having a monthly budget in order to understand and manage your expenses. Most of us track the major expenses like rent/mortgage, food, loan payments, etc.
But for an individual, the most common culprit in the expense category is spending on unbudgeted items, trivial expenses, impulse buys, and so on.
But remember, all of your expenses have to be absorbed by the income/revenue that you have. If your income covers your expenses with some leftovers, they you are profiting every month. However, if your income does not cover your expenses, you are operating in the red and accruing debt.
This is where a budget comes in handy. You’ll not only be able to see whether you’re profiting or not but where you may be able to cut expenses to bring your personal business, aka your life, into a profitable state.
As with a business, it is important to not just have revenue but profit in order to fortify yourself against financial hardship and to help you meet your money goals.
The profit, or your savings every month, not only comes in handy to meet emergencies but can be used to pay down debt, invest, or save up for a big purchase.
So, as you can see, revenue vs profit isn’t just for businesses. You can start to treat your income like a business and work towards having a profit at the end of the month.
Budget Oversights: The Number One Reason Many Aren’t Profiting
Now that you’re onboard with becoming profitable in your personal business or life, how do you get there?
Quite a few people fall off the budget bandwagon at some point during the year. An unexpected expense comes up or some other oversight, or maybe gradual overspending in some of your categories.
Remember, revenue is just a starting point. Where people get into trouble is in the expense category. It is critical that you pick a budgeting method that works for you and stick to it so that you know where your money is going and can control how you want to spend it.
Budget oversights are a huge reason people aren’t profiting, aside from not having a budget at all. Pick a method that works for you, track your expenses for a few months, and see where you can make adjustments.
Some of you may realize that you’re overspending in some categories and make adjustments. Some may find that your revenue (income) is not sufficient to cover your expenses, in which case you can look to increase your income or decrease your expenses. In some cases, you may have to consider downsizing as well.
Another hiccup can be nonrecurring and one-time expenses.
Do you know how old your water heater and HVAC is? Do you know how many years your roof has left? How often you paint the exterior to protect your house? Will you need a new car soon?
These expenses also have to be built into your budget in some way. If you build a sustainability/maintenance fund from your profit, you have a better chance of being able to cover these irregular expenses when they crop up.
Whatever the result of your budgeting, the goal is to be able to have enough revenue to cover your expenses and then some.
You don’t just want to break even; you want to profit!
Related: 12 Ways To Save Money on a Tight Budget
Moral of the Story
Revenue vs profit? Why should you care?
The truth is revenue and profit are not just for businesses. The same terms and ideas can be applied to your personal finances and it can be immensely helpful to think about your money in business terms.
Remember, revenue is all the money coming in, expenses are all the money going out, and the profit is whatever is left over. Hopefully that number is positive!