In this blog, you'll discover what operating profit (EBIT) is and how to calculate it. We also explain how it differs from EBITDA. In addition, we show how a tool can help you better understand your business results.
What is operating profit (EBIT)?
EBIT, or operating profit, is a financial term that indicates how much profit a company makes from its core business before taking interest and taxes into account. The full name of EBIT is “Earnings Before Interest and Taxes” (profit before interest and tax).
EBIT shows how profitable your business is without taking into account financing costs (such as interest on loans) or taxes you have to pay. This means that EBIT provides an honest picture of how well your company is performing based on the activities your company focuses on, such as selling products or services.
Why is EBIT important?
EBIT is a good measure of how your company performs without external costs such as interest and taxes. It is particularly useful for:
- Insight into your operational profit: You can see how profitable your core activities are.
- Comparing with other companies: Because EBIT shows profit before tax and interest, you can easily compare companies in the same sector, regardless of their funding structure.
- Better insight for investors: For investors, EBIT is an important indicator of how stable and healthy your company is.
What is and isn't included in EBIT?
When calculating EBIT, you only look at the profit that comes from your business activities. But what does that mean in practice?
- What does EBIT include?
- Net sales: This is the amount you earn selling products or services, minus any discounts, returns, or damage.
- Operating costs: This includes all costs needed to run your business, including salaries, rent, materials, marketing, and other operational expenses.
- Net sales: This is the amount you earn selling products or services, minus any discounts, returns, or damage.
- What's not included in EBIT?
- Interest: Costs that you pay on loans or other forms of debt.
- Taxes: The amount of tax you pay on the profit you make.
- Depreciation and amortization: While depreciation may be part of operating costs, they are often disregarded when calculating EBITDA (see below for details).
- Interest: Costs that you pay on loans or other forms of debt.
Preview
Let's say you have a company that sells shoes. Your net turnover (after deducting returns and discounts) is €500,000. Operating costs, including rent, salaries and marketing, are €350,000.
The EBIT calculation would look like this:
net sales - operating costs = €500,000 - €350,000 = €150,000
This means that your company has an EBIT of €150,000, which indicates that your company makes a profit of €150,000 from operating activities alone, without taking into account taxes or any loans.
When do you use EBIT?
EBIT is especially useful when you want to assess how well your company is performing without things like loans or tax liabilities clouding the numbers. For example, if you want to know whether your core activities (such as production, sales, or services) are profitable enough to cover your fixed costs, EBIT is the measure to use.
In addition, you use EBIT if you want to compare your company with other companies in the same sector. Because EBIT does not take into account taxes or interest costs, it is easier to assess companies in the same way, even if they operate in different countries or have different funding structures.
How do you calculate EBIT?
Calculating EBIT is simple and can be done with the following formula:
EBIT = net sales — operating costs
- Net sales your total income, minus costs such as discounts and returns.
- Operating costs the daily costs are to keep your business running, such as salaries, rent, and marketing.
Example calculation
Let's say your company has a net turnover of €250,000 and your operating costs are €180,000. You calculate your EBIT as follows:
EBIT = €250,000 - €180,000 = €70,000
In this example, your operating profit (EBIT) is €70,000.
The difference between EBIT and EBITDA
EBIT and EBITDA are similar, but there is an important difference:
- EBIT: This does not include interest and taxes alone. It looks purely at operational profit.
- EBITDA: This stands for “Earnings Before Interest, Taxes, Depreciation, and Amortization”. In addition to interest and taxes, depreciation is also not included.
EBIT vs. EBITDA: Which Do You Use?
- EBIT is useful if you want to know how well your company is performing based on its core activities.
- EBITDA provides a more complete picture, as it also takes into account non-cash costs such as depreciation. This can be useful to see how much money is really available.
Use EBIT for operational performance and EBITDA if you also want to include the debits in your analysis.
What is a good EBIT margin?
A good EBIT margin depends on the sector in which a company operates, but in general, an EBIT margin of 10% or higher is considered healthy. This means that a company converts at least 10% of its turnover into profit before deducting interest and taxes.
- EBIT margin > 15%: Very healthy, mostly in sectors with high added value or low variable costs, such as technology or pharmaceuticals.
- EBIT margin between 10% and 15%: Healthy, especially in capital-intensive or competitive sectors.
- EBIT margin between 5% and 10%: Still positive, but depending on the sector, this could be a sign that improvements in efficiency or cost savings are possible.
- EBIT margin < 5%: These margins are often too low to absorb large fluctuations in costs or turnover, making the company vulnerable to loss in economically difficult times.
Here are some factors that influence the “health” of an EBIT margin:
1. Sectoral differences
Some sectors have higher or lower average EBIT margins due to their specific cost structures:
- Technology and software companies: These sectors are known for achieving higher EBIT margins, often 20% or more. This is because their fixed costs are relatively low, and they can achieve higher profit margins with scalability.
- Retail and food industry: These sectors often have lower EBIT margins, sometimes between 3% and 7%, because raw material, distribution and personnel costs may be higher.
- Production and industry: In the manufacturing industry, the EBIT margin often ranges between 5% and 15%, depending on the efficiency of production processes and scale.
2. Company size
Larger companies often have more economies of scale, which can help them lower costs and achieve a higher EBIT margin. Smaller companies can struggle to achieve high margins because they are less efficient and have higher unit operating costs.
3. Cost Management
A higher EBIT margin means that a company manages its costs well. This can mean that they are able to keep costs such as rent, salaries, and production costs low, or that they operate efficiently with minimal waste.
How to improve your EBIT margin
Below are a number of points that can improve your Ebit.
- Cost reduction: Optimise operational processes, reduce production costs and reduce inefficiencies.
- Pricing Strategy: Consider price increases or offering premium products or services.
- Raising income: Increase sales without increasing operational costs at the same pace, for example by tapping into new markets.
3 tips to improve your bookkeeping
In addition to understanding EBIT and using tools like TimeChimp, here are three more tips for optimizing your accounting and operations:
1. Use automation tools
Automate where possible. By using a tool, you can link time registration to your accounting, so that your operating costs are always up to date. This reduces manual errors and ensures that your administration is always correct.
2. Update your grades regularly
Make sure your accounts are always up to date by updating your details regularly. This prevents surprises and helps you react quickly if anything changes. Set up automatic updates or synchronizations so that your accounting system always has the latest information.
3. Keep learning about finance
Learn the basics of financial terms such as EBIT and EBITDA. This helps you make better decisions about your business. Do you need help? Then consider using an accountant to support you.
How does TimeChimp help improve your EBIT?
TimeChimp can help you better understand your operating result (EBIT) by making it easier to register costs and hours. Here are three ways TimeChimp can support you:
3. Insight into project costs
TimeChimp links time registration directly to projects, so you can see exactly how much time and money each project costs. This makes calculating your operating costs easier and more accurate.
2. Efficiently keeping track of hours worked
With TimeChimp, you can record the hours worked by you and your team. This way, you always know what the actual costs are and you can use them directly to calculate your EBIT.
3. Automatic billing
TimeChimp makes it possible to generate invoices directly from the registered hours. This saves time and reduces errors, helping you to better control your bottom line.
Conclusion
Operating profit (EBIT) is a critical measure for understanding the profitability of your core activities. A healthy EBIT margin is usually around 10% or higher, depending on the sector.
- EBIT helps when assessing operational performance without the influence of interest and taxes.
- A margin > 10% is considered healthy; sectors vary in this regard.
- Improve your EBIT by reducing costs and increasing efficiency.
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By keeping track of your operating costs and automating them with tools such as TimeChimp, you can work more efficiently and get more control over your finances.
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