Is Your Business Making a Profit or Just Creating Cash Flow? A Simple Guide for Entrepreneurs

The Three Levels of Profit Every Entrepreneur Should Know

To understand whether your business is truly profitable, you need to look at three basic levels of profit.

1. Gross Profit

Gross profit is what remains after subtracting the direct cost of the product or service you sold.

Gross Profit = Sales – Cost of Goods Sold

Cost of goods sold may include the cost of products, raw materials, direct labour, packaging, or direct production costs.

Example:

Sales: $10,000
Cost of products sold: $6,000

Gross Profit: $4,000

This means you have $4,000 left to help cover your operating expenses.

2. Operating Profit

Operating profit is what remains after subtracting the normal expenses required to run the business.

These expenses may include rent, salaries, marketing, utilities, transport, software, repairs, and administrative costs.

Operating Profit = Gross Profit – Operating Expenses

Example:

Gross Profit: $4,000
Operating Expenses: $3,200

Operating Profit: $800

This gives you a clearer picture of how the business is performing before taxes, loan interest, and other financing costs.

3. Net Profit

Net profit is the final profit after all business expenses have been deducted.

Net Profit = Total Revenue – Total Expenses

This is the number that tells you whether your business truly made money.

Example:

Revenue: $10,000
Total Expenses: $9,300

Net Profit: $700

In this example, the business generated $10,000 in sales, but only $700 remained as actual profit.

That is why sales alone are not enough.

Step-by-Step Guide: How to Calculate Your Business Profit

If you are a beginner, do not complicate the process. Start with a simple monthly profit calculation.

Step 1: Add Up All Your Sales

Start by calculating the total money earned from sales during the month.

Include:

• Product sales
• Service income
• Online sales
• Cash sales
• Bank transfer payments
• Card payments
• Invoice payments received for work completed

Example:

Total monthly sales: $20,000

This is your revenue.

Step 2: Calculate the Direct Cost of What You Sold

Next, calculate how much it cost you to produce, purchase, or deliver what you sold.

This may include:

• Products bought for resale
• Raw materials
• Packaging
• Direct labour
• Delivery costs directly linked to the sale
• Production supplies

Example:

Cost of goods sold: $11,000

Now calculate your gross profit:

$20,000 sales – $11,000 cost of goods sold = $9,000 gross profit

Step 3: List Your Monthly Operating Expenses

Now list all the expenses required to operate the business.

These may include:

• Rent
• Salaries
• Utilities
• Internet
• Phone
• Marketing
• Accounting
• Transport
• Loan interest
• Repairs
• Subscriptions
• Office supplies
• Bank charges
• Insurance
• Cleaning
• Security
• Administrative costs

Example:

Total operating expenses: $7,500

Step 4: Subtract Expenses From Gross Profit

Now subtract your operating expenses from your gross profit.

$9,000 gross profit – $7,500 operating expenses = $1,500 operating profit

This means the business made $1,500 before any additional deductions such as taxes or other final costs.

Step 5: Deduct Any Other Business Costs

Now deduct other costs such as:

• Taxes
• Loan interest
• Bad debts
• One-off expenses
• Professional fees
• Penalties
• Major repairs
• Owner-related business expenses

Example:

Other costs: $500

$1,500 operating profit – $500 other costs = $1,000 net profit

Your net profit is $1,000.

That is the actual amount the business generated after covering its costs.

Simple Profit Formula for Beginners

Use this simple formula:

Sales – Direct Costs = Gross Profit

Gross Profit – Operating Expenses = Operating Profit

Operating Profit – Other Costs = Net Profit

Your net profit is the figure you should focus on when assessing whether your business is truly making money.

How to Know If Your Business Is Truly Profitable

Your business is likely generating real profit if:

• Your sales consistently exceed all your expenses.
• You can pay suppliers on time.
• You can pay yourself without damaging the business.
• You are not constantly using personal money to rescue the business.
• You are not relying on loans to cover basic expenses.
• You have money left after paying operating costs.
• Your profit margin is stable or improving.
• Your pricing covers both direct and indirect costs.
• You understand how much each product or service actually contributes to profit.

If you are selling regularly but constantly short on cash, delaying payments, or unable to pay yourself, the business may have a profitability problem, a cash flow problem, or both.