In accounting, underlying profit refers to measuring the actual profit recognised by a company used for planning business processes. The company internally calculates the underlying profit to reveal a more accurate measurement of the more revenue generated from its regular business operations. It may be used for business process planning instead of the operating profit reported for regulatory or accounting purpose. This way of calculating profit concentrates on usual accounting cycle events, apart from one-time events or uncommon situations.Summary
Some companies believe that the underlying profit represents the profit earned by the company more accurately than the other traditional methods. Therefore, knowing the calculation of underlying profit is essential in such situations. The concept of underlying profit slightly differs from the traditional earnings or net income of a company. Let us first understand the calculation of underlying profit.
The calculation of underlying profit is said to be the one that opposes the calculation of statutory profit. Statutory profit refers to the profit earned by a company that needs to be reported in a company's financial statements. However, it excludes certain factors while calculating statutory profit.
For example, let us assume a situation in which the company decides to sell off one of its major assets- one of its manufacturing factories. The company management believes that the company would do well without it. The sale of this significant asset would be very beneficial for the company that it might be reported under its net income.
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However, the income from the major asset sale would not be considered while calculating underlying profit as it excluded one-time gains. The one-time gains do not represent the money that is gained from regular business operations. Therefore, it can also be said that underlying profit does not include money gained from any unusual activity or an income that cannot be reported in fixed intervals.
On the other hand, it can also be said that the calculation of underlying profit also excludes the expenses that do not occur frequently or are not involved with regular business operations of a company, i.e., operating expenses.
Every company must report its financials to Generally Accepted Accounting Principles (GAAP) and disclose the net profit earned by a company over a specific period. The net profit is calculated similarly as calculating income tax payable by subtracting the dollar cost from the revenue earned.
Often companies manipulate the data and offer an inaccurate report about their net income. In such a situation, underlying profit comes into play where it represents the money that the company has earned solely from its business operations. As a result, it offers way more accuracy when reporting net profit earned by a company over a specific period.
Underlying profits strike-off unusual gains and non-recurring income, such as money from selling off an asset, natural disaster damage control money, etc. It makes it easier for investors to understand the overview of the company's performance and judge it easily.
The main objective of underlying profit is to eliminate any distraction that takes place due to unavoidable circumstances. Buying and selling of assets or properties do not take place regularly, and therefore, it is not supposed to cause an impact on the day-to-day business operations.
The operating expenses are the regular expenses that are considered while calculating underlying profit, where the expenses are deducted from gross sales to obtain the underlying profit. The operating expenses include:
Underlying profit has both pros and cons. So let us first discuss the pros of the underlying profit.
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The following are the cons of underlying profit: