Revenue vs Profit

Imagine that you own a small shop that sells chocolate bars. The price of each chocolate is $2, and in one day, you manage to sell 1000 chocolates. That means you make $2000 dollars in a day. In a month, you would make $60,000, and in one year, $720,000. But does all of that money belong to you? What about the cost? What is the difference between revenue vs. profit?

The difference between revenue and profit is that revenue counts all the money you make, whereas profit takes into account the cost of running your business. If you buy a bar of chocolate for $1 and sell it for $2, then your revenue would be $2000 a day, but your profit would only be $1000.

Read on and find out how revenue and profit are calculated and how you can use them to run your future business!

Revenue vs Profit Definition

The revenue vs. profit definition refers to the difference that exists between revenue and profit. These two terms are often confused with one another.

It includes all income from business operations and is almost always the top line of a firm's income statement. This means that all other measurements of income are refined from this broad figure, which is often called gross revenue.

Basically, revenue includes any income flow that a company receives as a result of selling its products.

Profit is a more complex term and involves subtracting the costs of operating the business from the gross revenue.

There can be many levels of profit because of the many costs that can be deducted. Profit is typically found at the bottom of a firm's income statement after all costs are deducted.

Difference Between Revenue and Profit

The difference between revenue and profit is that revenue includes all the income that a firm makes during a certain period of time. On the other hand, profit includes only the income a firm makes after all the cost has been covered.

Let's take a look at the revenue vs profit by looking at a perfectly competitive firm.

Fig. 1 - Revenue of a perfectly competitive firm

Figure 1 shows the revenue for a perfectly competitive firm - the shaded blue area. A perfectly competitive firm faces a horizontal demand curve that is equal to the firm's marginal revenue.

The supply curve of a perfectly competitive firm is equal to the marginal cost.

The point where MR (demand) intersects supply is known as the point where you can find the equilibrium price and quantity. Basically, the amount of quantity the firm sells and the price it sells it for.

We can find the total revenue of the firm by multiplying the entire quantity the firm sells by its price.

\(TR=P_m \times Q_m\)

Fig. 2 - Profit of a perfectly competitive firm

Figure 2 shows the profit that a perfectly competitive firm incurs. Notice that when considering profit, we also consider the average total cost the firm faces when producing that particular level of output, in this case, \(Q_m\).

Cost Profit and Revenue Functions

Let's consider cost, revenue, and profit function in detail.

The cost function is used to measure the cost of producing a certain level of output, given that there are some factors of production that the firm should pay for to produce.

A firm has two main types of cost that it faces. These are fixed cost and variable cost. Those two costs make up the total cost of a firm.

That is to say that regardless of whether the firm only produces 10 units of output or 1000 units of output, the firm still will have to pay the fixed cost.

The cost function of a firm may then be expressed as:

\(TC = VC + FC\)

Where TC is the total cost, VC is the variable cost, and FC is the Fixed Cost.

Revenue refers to all the money that the firm makes. So, to make revenue, a firm should sell a certain amount of goods at a certain price. Therefore, the revenue is a function of quantity and price.

The revenue function can be expressed as follows.

\(\hbox{Total Revenue}=\hbox{Price (P)}\times\hbox{Quantity(Q)}\)

For example, a firm that makes chocolate bars sells 2,000,000 chocolate bars in one year. What is its total revenue if the price it sells them for is $2?

The total revenue of the chocolate company is as follows:

\(\hbox{Total Revenue}=\hbox{Price (P)}\times\hbox{Quantity(Q)}\)

\(\hbox{Total Revenue}=\$2\times2,000,000=\$4,000,000\)

A firm's profit is a function of its revenue and cost. Therefore, we can express the profit function as follows.

\(\hbox{Profit}=\hbox{Price (P)}\times\hbox{Quantity(Q)} -(\hbox{Variable Cost} + \hbox{Fixed Cost})\)

Net Revenue vs Gross Profit

Sometimes, people think net revenue is the same as gross profit; however, there is a difference between net revenue vs. gross profit.

In the real world, some sales are not final, and customers can return items for full or partial refunds.

Customers may also be able to submit coupons or receive rebates (cash back).

These reduce revenue but are not considered costs of production. Thus, net revenue is a more refined and accurate look at a firm's income.

On the other hand, gross profit is part of the net revenue that also includes the cost of goods sold (often abbreviated as COGS).

It covers most physical production costs but not advertising, consulting fees, or subscriptions to business publications, trade groups, or software. Therefore, gross profit often needs to be adjusted further to find what many would consider being true profit.

Revenue vs Profit vs Turnover

Although they are often used interchangeably, there are some differences between revenue vs. profit vs. turnover.

Turnover and revenue are often compared as a percent of the firm’s total inventory. A high dollar amount of revenue may be unimpressive if it is only a tiny percent of the entire stock.

Ideally, firms want to have substantial inventory turnover to show that their products are in high demand.

Turnover is related to whether a business sells durable or more perishable goods.