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Difference between Accounting and Economic Profit

Difference between Accounting and Economic Profit

Accounting profit and economic profit are two different measures of a company’s profitability. Accounting profit is the difference between a company’s revenue and its expenses, while economic profit takes into account the costs of capital invested in the company. In order to make sound business decisions, it is important to understand the difference between these two measures of profitability.

What is Accounting Profit?

  • Accounting profit is a measure of a company’s financial performance. It is the total revenue of a company less the total expenses incurred during the same period. This profit metric does not include items such as income taxes or interest payments. Accounting profit is also referred to as net income or earnings before interest and taxes (EBIT).
  • Accounting profit is an important metric for investors and analysts because it provides a snapshot of a company’s profitability. However, it is important to note that accounting profit does not always equal cash flow. For example, a company may incur accruals, which are expenses that have been incurred but have not yet been paid. In addition, companies may also have non-operating items such as investment gains or losses that can impact net income. As a result, it is important to carefully review a company’s financial statements when analyzing its profitability.

What is Economic Profit?

  • Economic profit is a measure of profitability that takes into account both explicit costs (e.g., production costs) and implicit costs (e.g., opportunity costs). Economic profit is also sometimes referred to as “excess return” or “economic value-added.” Economic profit can be calculated as follows:
  • Economic Profit = Total Revenue – (Explicit Costs + Implicit Costs)
  • In general, a firm is considered to be profitable if it is able to generate an economic profit. However, it is important to note that economic profit is not the same as accounting profit. Accounting profit simply subtracts explicit costs from total revenue, and it does not take into account opportunity costs. As a result, a firm could have positive accounting profit but negative economic profit. For example, if a firm has high production costs but low sales, its accounting profit would be negative but its economic profit might still be positive if the sales that were made generated more revenue than the cost of goods sold. Thus, while accounting profit is a useful metric, it is not the most accurate measure of profitability. When making investment decisions, firms should focus on Economic Profit rather than Accounting Profit.

Difference between Accounting and Economic Profit

There is an important difference between accounting and economic profit. Accounting profit is revenue less all explicit costs. However, economic profit is revenue less all opportunity costs. Since opportunity cost includes implicit as well as explicit costs, it will always be less than or equal to accounting profit. An example of an implicit cost is the opportunity cost of using your own money to finance a project instead of taking out a loan and paying interest. Thus, when entrepreneurs talk about making an “economic profit,” they are referring to a situation in which they earn more than the total of their opportunity costs. This is also known as “economic surplus.” If a firm’s economic profit is negative, then it is said to be earning an “economic loss.”


Although accounting profit and economic profit are related, there is a big difference between the two measures. Accounting profit only considers revenue and expenses within a company’s financial statements, while economic profit takes into account the opportunity cost of capital invested in a business. When making important decisions about a company, it is important to understand the distinction between these two types of profits so that you can make the most informed choice possible.

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