If you receive a paycheck, you're likely familiar with the terms gross and net. Namely, you likely realize that the net amount is grossly less than the gross amount. That's because money is taken from the gross pay for taxes, retirement account contributions and medical insurance. In the world of finance, gross and net figures work similarly.
In finance terms, gross refers to any figure prior to deductions. These figures represent what a company has made before necessary deductions have been taken, such as the costs of operation and wages paid to workers.
While the term gross refers to figures prior to deductions, the term net refers to figures after deductions. For instance, net revenue and net profit are arrived at by looking at their gross counterparts, then subtracting from that certain costs. To find the net profit of something, start with the gross profit, which refers to money made in sales, minus the cost to the company of the goods or services sold. From that, you then deduct all operating expenses. The resulting figure is your net profit.
Importance of Net
Investors and analysts often place a lot of importance on a company's net profits -- more so than various gross figures -- when determining its financial health. What a company makes in revenues alone does not reflect how successful the business is. For example, a company can make $100,000 a month in sales. But that number doesn't say much without knowing what it costs to run the business. This can include expenses for things like advertising, marketing or distribution of goods. So if it costs $200,000 a month to run the business, then the company is in big trouble. On the other hand, if it costs $50,000 a month to run the business, it's in good shape.
Importance of Gross
Gross figures are important because you need them to figure out the net amounts. Beyond that, gross figures are useful because a large gap between gross and net figures can point to excessive spending on overhead and other costs. This can tell company executives that belt-tightening is needed to increase net profits.
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