Net Operating Income Formula (Table of Contents)
What is Net Operating Income Formula?
The term “net operating income” refers to the measure of company profits that are generated from its core operation. In other words, this profit metric helps in assessing the efficiency of the core operations of a company to generate profit after covering all its business expenses (other than interest expense and tax). The net operating income is also known as EBIT or earnings before interest and taxes. The formula for net operating income can be derived by subtracting the cost of goods sold and other operating expenses from the total revenue of the company. Mathematically, it is represented as,
Examples of Net Operating Income Formula (With Excel Template)
Let’s take an example to understand the calculation of Net Operating Income in a better manner.
Net Operating Income Formula – Example #1
Let us take the example of company DFG Ltd to calculate the net operating income during the year. The company is engaged in the business of manufacturing auto parts in the state of California. After the recently published annual report, the following information has been made available from the income statement:
Solution:
Cost of Goods Sold is calculated using the formula given below
Cost of Goods Sold = Labor Wage + Cost of Raw Material
- Cost of Goods Sold = $150,000 + $200,000
- Cost of Goods Sold= $350,000
Operating Expenses is calculated using the formula given below
Operating Expenses = Salary + Selling Expense + Administrative Expense + Depreciation + Other Operating Expenses
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- Operating Expenses = $30,000 + $20,000 + $10,000 + $15,000 + $5,000
- Operating Expenses = $80,000
Net Operating Income is calculated using the formula given below
Net Operating Income = Total Revenue – Cost of Goods Sold – Operating Expenses
- Net Operating Income = $500,000 – $350,000 – $80,000
- Net Operating Income = $70,000
Therefore, DFG Ltd generated net operating income of $70,000 during the year.
Net Operating Income Formula – Example #2
Let us take the example of Apple Inc. to calculate the concept of net operating income in the case of a real-life company. The following income statement information is available according to the annual report as on September 29, 2018:
Solution:
Operating Expense is calculated using the formula given below
Operating Expense = Research and Development + Selling, General and Administrative
- Operating Expense = $14,236 Mn + $16,705 Mn
- Operating Expense = $30,941 Mn
Net Operating Income is calculated using the formula given below
Net Operating Income = Net Sales – Cost of Sales – Operating Expense
- Net Operating Income = $265,595 Mn – $163,756 Mn – $30,941 Mn
- Net Operating Income = $70,898 Mn
Therefore, Apple Inc. generated net operating income of $70,898 Mn during the year 2018.
Link: Apple Sheet PDF
Explanation
The formula for net operating income can be derived by using the following steps:
Step 1: Firstly, determine the total revenue of the company which is the first line item in the income statement. Otherwise, the total revenue can also be computed by multiplying the total number of units sold during a specific period of time and the average selling price per unit.
Total Revenue = Number of Units Sold * Average Selling Price Per Unit
Step 2: Next, the cost of goods sold can also be easily retrieved from the income statement. It is also referred to as the cost of sales in some income statement. Cost of sales refers to the direct cost of production like the cost of raw material and labor expense. In some cases, depreciation expense is also included in the cost of goods sold.
Cost of Goods Sold = Cost of Raw Material + Direct Labor expense
Step 3: Next, determine the operating expenses and it is the aggregate of all the other business expenses that are not part of the cost of goods sold. Typically, selling expense and administrative expenses are the major part of the operating expenses of a company.
Step 4: Finally, the formula for net operating income can be derived by subtracting the cost of goods sold (step 2) and other operating expenses (step 3) from the total revenue (step 1) of the company as shown below.
Net Operating Income = Total Revenue – Cost of Goods Sold – Operating Expenses
Relevance and Uses of Net Operating Income Formula
It is very important to understand the concept of net operating income because it is one of the predominantly used profit metrics that help in the assessment of how well a company is performing. The net operating income is basically the profit generated from the core operations before the payment of interest to the lenders and taxes to the government. However, please note that this is not a profit margin but absolute profit and as such, it is expressed in terms of dollars and not in percentages.
One of the major limitations of the net operating income formula is that it is more useful if used to compare the performance of the companies in the same industry. Also, as the profit metric is expressed in terms of dollar amount, it is important that companies of a similar scale are used for comparison in order to draw meaningful insights.
Net Operating Income Formula Calculator
You can use the following Net Operating Income Calculator
| Total Revenue | |
| Cost of Goods Sold | |
| Operating Expenses | |
| Net Operating Income | |
| Net Operating Income = | Total Revenue - Cost of Goods Sold - Operating Expenses | |
| 0 - 0 - 0 = | 0 |
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