What Is Net Income (NI)? Definition, Calculation, and Example

Lauren WardUpdated September 19, 2022

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Net income is the total profit a business makes in a given reporting period after all of its expenses are paid. It’s often referred to as a company’s “bottom line” because it appears at the bottom line of the income statement. Read on for a closer look at what net income is, how to calculate net income, the pros and cons of using net income as a performance gauge, plus an example that includes routine business expenses.

What Is Net Income?

Net income (NI) is defined as the total amount of money a business makes during a reporting period after deducting all costs, allowances, and taxes. Also referred to as “net profit” or “net earnings”, net income is calculated by taking the company’s total sales and subtracting the cost of goods sold (COGS); selling, general and administrative expenses; operating expenses (OPEX); depreciation; interest on debt; taxes; and other expenses. In other words, it is a measurement of profit after a business has covered all of its costs.Net income appears on the bottom line of a company's income statement,

What Is Net Income Used for?

Net income is a measure of a company’s profitability. It tells you exactly how much money a company has left over after subtracting all costs from total revenues that can be invested back into the business, distributed to shareholders, or saved for a future use.Overall, a company’s profit (or lack thereof) determines its future operations . Therefore, net income can determine whether a company:

Needs to restructure
Is able to pay its current and future liabilities
Needs access to alternative capital (such as debt or equity financing)
Should consider expanding its operations for further growth

Net income is also used by lenders when deciding whether to approve or deny a company for different kinds of business loans. While assets and credit scores are important, lenders also want to see whether a company has enough profit to pay upon its debts. Recommended: Guide to Applying for a Business Loan

Pros and Cons of Using Net Income as a Metric

Pros of Net Income	Cons of Net Income
Includes all company expenses	Can suggest a company is or is not doing well, even though that may not be the case
Easy to calculate	Not useful for comparing the profitability of two different companies with different capital structures
Contributes to the calculations of other key financial statements	Doesn’t reflect actual cash flow

Pros

The biggest benefit of using net income as a performance metric is that it includes all of a company’s expenses. Because of this, it provides a complete picture of how much a company is making vs. how much it is spending. Also, unlike many other financial metrics, the formula for net income is simple and straightforward. You simply add up all revenues and subtract all expenses. In addition, net income is a central line item to all three of a firm’s primary financial statements – the income statement, balance sheet, and cash flow statements.

Cons

One drawback of net income is that it can be misleading. A company with a low net income may actually be doing well. If it made a large asset purchase or decided to expand, for example, those types of expenses would temporarily drive down its net income. Taking on debt can also skew the numbers. While debt is a cost of doing business, it is a temporary expense that can ultimately make a company more profitable.In addition, net income doesn’t reveal a company’s actual flow, since there may be a delay between making sales and collecting on those sales. Another disadvantage of net income is that it can be impacted by a large number of variables. Because of this, many analysts and investors prefer other kinds of performance metrics, such as EBITDA (earnings before interest, taxes, depreciation, and amortization, when comparing the profitability of two companies. EBITDA removes certain expenses, such as interest paid on debt and non-cash depreciation expenses that depend on a firm’s unique capital structure and historical investments. Recommended: EBITDA vs. Gross Profit: Examining the Differences and Similarities

Calculating Net Income

Before you can calculate net income, it’s important to understand the following terms.

Revenue Total amount of money a company brings in from its business operations
Cost of Goods Sold (COGS) All costs associated with the manufacturing of a product or delivery of a service. Examples include:
- Factory labor
- Freight costs
- Production parts
- Raw materials
- Storage costs
Gross income Revenue minus COGS
Operating expenses (OPEX) All costs associated with the day-to-day running of a business not related to COGS. Examples include:
- Office supplies
- Payroll
- Property taxes
- Rent
- Repairs
- Travel
- Utilities

To calculate net income for a business, you start with a company's total revenue, then subtract the business's COGS and OPEX to calculate the business's earnings before tax. You then deduct tax from this amount to find the net income.

Net Income Formula

There are three different formulas for net income, which are all slight variations on the same equation, which is: income minus expenses equals net income. Option 1:Total Revenues - COGS - Operating Expenses = Net Income Option 2: Total Revenues - Total Expenses = Net IncomeOption 3: Gross Income - Expenses = Net Income

Gross Income vs Net Income

Net income is how much a company makes (or nets) after all expenses are paid. Gross income, on the other hand, is how much money a company makes from its sales after accounting for COGS. The difference between the two is that gross income does not include operating expenses, interest, or taxes, whereas net income does.

Net Income Calculation Example

Let’s say Company ABC wants to calculate its net income for the first quarter of this year. Here are the numbers ABC is working with:Total revenues: $300,000COGS: $100,000OPEX: $15,000Interest Expense: $10,000Taxes: $60,000Net Income = $300,000- $100,000- $15,000- $10,000- $60,000Net Income = $115,000

Net Income vs Cash Flow

When comparing a company’s cash flow vs profit, the numbers can differ dramatically. One reason is that there is typically a time gap between documented sales and actual payments. Another factor is that net income includes a variety of non-cash expenses, such as depreciation/amortization, and stock-based compensation. These are real expenses and reduce a company’s earnings. However, they don’t actually affect its bank account.

Net Income vs Operating Net Income

Operating net income is similar to net income, but there are a few key differences. Unlike net income, operating net income looks at a company’s profits from operations alone without accounting for income and expenses that aren’t related to the company’s core activities. So, unlike net income, operating net income does not include income tax, interest expenses, interest income, or gains or losses from sales of fixed assets.Sometimes referred to as EBIT (earnings before interest and taxes), the formula for operating net income is:Net Income + Interest Expense + Taxes = Operating Net Income

How Net Income Is Used on a Balance Sheet

Once you’ve calculated your company’s net income, you can use that figure to start creating your balance sheet. The balance sheet reports a business’s assets, liabilities, and equity at a specific point in time. It is divided into two main sections: assets on one side and liabilities and equity on the other side. The two sides must balance out, meaning they should be equal to one another. Net income affects how much equity a business reports on the balance sheet. It appears in the retained earnings line item of the balance sheet.

The Takeaway

Net income is the amount of money a business has left over after all revenues and expenses are accounted for. Unlike gross income, it also includes interest, taxes, non-cash expenses, as well as non-recurring revenue and expenses. Net income is a key metric of profitability used by analysts, investors, and lenders.

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If you are launching a new business or your business is young, lenders will consider your personal credit score. Eventually, though, you’ll want to establish your business credit.
Traditionally, lenders like to see a business that’s at least two years old when considering a small business loan.

Frequently Asked Questions

How are net income and gross income different?

Are profit and net income the same thing?

What is the formula for net income?

Can you find net income without revenue?

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About the Author

Lauren Ward

Lauren Ward is a personal finance expert with nearly a decade of experience writing online content. Her work has appeared on websites such as MSN, Time, and Bankrate. Lauren writes on a variety of personal finance topics for SoFi, including credit and banking.

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